AIG Increases Exposure To Eurozone Debt, Or Why Government Bailouts Need To Stop

Nov.25.11 | About: American International (AIG)

Who could be dumb enough to increase Eurozone debt this year? You guessed it, tax payer funded AIG!

AIG has recently reported that it has increased its exposure to European sovereign debt by over 700 million in 2011. This is exactly why the government bailouts need to stop. AIG got into trouble insuring billions of bad mortgage debt in 2008. Tax payers were forced to rescue the insurance giant because of its systemic importance. Now, AIG is up to the same risky business by buying European debt.

When a major financial firm fails, it is imperative that it does not cause a crash in the banking system, but must the firm live on? AIG should have been slowly liquidated so that all major creditors got paid, all policy holders were protected, and all CDS contracts paid out. However, AIG should not have continued to live on. Obviously, a firm that got into that much trouble was destined to get into more trouble again. So when AIG comes back to the government for more bailout money once the European situation continues to get worse, what will the government do? Bail them out again of course!

The problem with TARP is that we have not set a precedent for bailing out major financial firms. These firms know that they can take excess risk because the tax payer will bail them out if they are wrong.

The simple fact is that large financial institutions are too large to let fail, but why not force them out of business? While it would be expensive for the government to meet all obligations of the firm and close it down, it would at least put a sense of responsibility on the shoulders of bank executives going forward.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.