Financials: Cleaning House Is Always Better

By Simon Johnson

AIG (AIG) is arguing that its people are uniquely qualified to clean up the mess they made and therefore need big retention payments.

Of course, there are many things that are different and complex about this crisis in general and credit default swaps in particular. But in every crisis I’ve ever seen, the (banking / corporate / government) insiders responsible for major problems always want to stay on - arguing that they have unique skills and can sort things out better than anyone else. Countless times around the world I’ve heard some version of, “it’s very complex, no one else can figure it out, and you’ll lose a lot more money unless you keep us on.”

Yet, whenever possible, it’s better to clean house and bring in new talent at all levels to wind down bad business and more generally clean up / recapitalize / reprivatize the financial sector.

In the New York Times print edition (p.A25) this morning and online, James and I elaborate on why this is - drawing particular parallels with the Asian crisis of the late 1990s.

Comments

[logicalsinger:]

Cleaning House, in particular the House of Representatives, is a great idea. Pelosi and co. are demonstrating their incompetence on a daily basis.

Mar 20 09:21 AM

[I weep for ...:]

Read the actual bill it is available on the House's website. Despite how it has been reported it: taxes any individual whose salary and bonus combined is more than 125k. Households combined whose salary and bonus amount to more than 250K are also subject to the taking. So if you work at one of these banks, earn 100K a year and got a 26 K bonus and are the sole breadwinner of your house, the gov't will take your entire bonus. Does that seem fair to the over 116K employs of AIG who had nothing to do with the London based FP unit who work hard to provide for the familes and were counting on the bonus to pay loans and mortgages? Who are working hard to ensure that the company remains profitable to pay back the taxpayer! Wasn't that the whole point of the bailout? Or was it to pay the counterparties? Hmmmm... Oh, by the way, this tax doesn't actually tax the London based employees that everyone wants to flog. And it doesn't tax Merril Lynch because unlike AIG they are still allowed to lobby Congress. Can't wait for our best and brightest to go to Zurich, Banco Sociale and other foreign entities and the US Economy collapes. Way to go Congress!

Mar 20 09:25 AM

[John Lounsbury:]

Simon - - -

I read your NY Times article. Among the reasons discussed for why keeping the same management and operatives in place is a bad idea, the strongest for me is the motivation of the perpetrators to:

1. Cover their tracks;

2. Try to protect and advance their own financial interests over those of the company; and

3. Continue to obtain obscene compensation for "working out the problem" after receiving obscene compensation for creating the problem.

Add this to the perception that taking risks that blow up has no penalty if you can construct a big enough bomb to convince your hostages (the U.S. taxpayers) that you are the only one competent enough to deconstruct the bomb, you can get rich building the bomb and then add to your riches by deconstructing the bomb. It is a big problem for this to happen from the enrichment of the bomber perspective. It is an even bigger problem that the rest of the world will never learn all the details of the bomb if both the building and deconstructing process are done behind closed doors.

It is becoming ever more apparent that allowing the "smart people" to "work out" this crisis is doing nothing more than enabling an innefficient financial system. A financial system which measures success by how much money its minions can make is inefficient for the 99.9% of the population not among the minions.

A financial system which measures success by how much it enables the creation of production of goods and services of utility is efficient.

We have lost the latter measure of success in the past couple of decades.

Mar 20 01:04 PM

[Ricard:]

If this truly is an integrity problem pervasive in the financial industry, then God help us all.


On Mar 20 01:04 PM John Lounsbury wrote:

Mar 20 01:45 PM

[Mbuna:]

The Fed and the Treasury propping up the corpse that is AIG is a ruse for the Wall St. insiders to get their money out. This puppy is headed for bankruptcy. See www.newsweek.com/id/18... for more information about how the supposed "good business" of AIG may be just as rotten as the AIGFP unit. And Goldman Sachs is holding a press conference today to clarify their relationship with AIG because the press was starting (about 9 months too late) to put 2+2 together.

There seems to be an underlying psyche in this administration that is committed to keeping a bloated and unsustainable financial sector bloated and unsustainable. This is not realistic or pragmatic. Leon Black, in a FT interview says up to 2 trillion dollars in US commericial real estate bad loans have yet to be reconciled while Roubini says we can look forward to another $500 billion CDS to unwind very shortly. There is still far more insolvency out there than anyone wants to acknowledge.

The incestuous relationship between Wall St., the Fed and the Treasury will ultimately come to no good.and if any Wall St firm is worthy of a special prosecutor it is Goldman Sachs.

Mar 20 02:13 PM

[Mbuna:]

There is indeed an integrity problem in the financial industry and the depth and breadth of it will be shocking to behold. Hang onto your seats it's going to be a wild ride.


On Mar 20 01:45 PM Ricard wrote:

> If this truly is an integrity problem pervasive in the financial
> industry, then God help us all.

Mar 20 02:15 PM

[logicalsinger:]

I think most people in the financial industry, including most people at AIG, are honest upstanding people. There were some rogues (Madoff etc.) and there were some risks which were poorly understood, but I don't buy the idea that we are waking up now and finding out that everyone was a thief all along.

Mar 20 03:18 PM

[logicalsinger:]

<< A financial system which measures success by how much it enables the creation of production of goods and services of utility is efficient. >>

So if I borrow money from the bank and invest it in the creation of "goods and services of utility" but I don't generate any profits in that effort, we can call the system 'efficient'? Er...not exactly. I destroyed wealth in the process even if the goods and services had utility

On Mar 20 01:04 PM John Lounsbury wrote:

> Simon - - -
>
> I read your NY Times article. Among the reasons discussed for why
> keeping the same management and operatives in place is a bad idea,
> the strongest for me is the motivation of the perpetrators to:<br/>
>
> 1. Cover their tracks;
>
> 2. Try to protect and advance their own financial interests over
> those of the company; and
>
> 3. Continue to obtain obscene compensation for "working out the problem"
> after receiving obscene compensation for creating the problem.<br/>
>
> Add this to the perception that taking risks that blow up has no
> penalty if you can construct a big enough bomb to convince your hostages
> (the U.S. taxpayers) that you are the only one competent enough to
> deconstruct the bomb, you can get rich building the bomb and then
> add to your riches by deconstructing the bomb. It is a big problem
> for this to happen from the enrichment of the bomber perspective.
> It is an even bigger problem that the rest of the world will never
> learn all the details of the bomb if both the building and deconstructing
> process are done behind closed doors.
>
> It is becoming ever more apparent that allowing the "smart people"
> to "work out" this crisis is doing nothing more than enabling an
> innefficient financial system. A financial system which measures
> success by how much money its minions can make is inefficient for
> the 99.9% of the population not among the minions.
>
> A financial system which measures success by how much it enables
> the creation of production of goods and services of utility is efficient.
>
>
> We have lost the latter measure of success in the past couple of
> decades.

Mar 20 03:26 PM

[John Lounsbury:]

LogicalSinger - - -

I use the term utility in the economic sense. According to Wikipedia ( en.wikipedia.org/wiki/... ) it is defined by:

"In economics, utility is a measure of the relative satisfaction from, or desirability of, consumption of various goods and services. "

The clear implication of utility includes profiitabilty, unless the producer is a charity.

If something can not be made at a profit, then how can it provide a measure of satisfaction (a requirement of utility) for all parties involved?

I hope this clarifies my thinking.

Mar 20 07:33 PM

[john s. gordon:]

it seems that phil gramm's nation of whiners lives in the AIG offices.
> jack

Mar 21 08:45 AM

[Econ 101:]

The bailout is nothing more than a payoff of the rich by the congress for campaign contributions. Why else would a socialist like pelosi push such a facist bill like TARP? The AIG bonus bill is creating a whpping boy so congress's can divert public opinion away from their corruption.

Lounsbury and logicalsinger are right!

This is a power grab by the congress to defraud you of your money and rights. First they go after the bankers and wall street. Then they will come after you. Remember Martin Niemöller, look him up on google!

Mar 21 01:00 PM

[Harry Tuttle:]

It is simply not true that they "need" these people.

In fact, credit default swaps are not complicated at all.

Mar 21 09:22 PM