Today, Federal Reserve Chairman Ben Bernanke and Treasury Secretary Timothy Geithner testified before Congress regarding the AIG bonus debacle. In his opening statement, Bernanke expressed remorse that AIG has not been nationalized:
If a federal agency had had such tools on September 16, they could have been used to put AIG into conservatorship or receivership, unwind it slowly, protect policyholders, and impose haircuts on creditors and counterparties as appropriate. That outcome would have been far preferable to the situation we find ourselves in now.
Indeed, a lot of the AIG mess could have been prevented if it was just nationalized at the beginning. Instead, it’s been kept alive by infusion after infusion of federal funds, without the government ever exercising any of the control that should come from an 80 percent ownership stake. As Kansas City Fed President Thomas Hoenig pointed out, we’ve simply nationalized institutions “piecemeal, with no resolution of the crisis.”
Bernanke’s wider point, though, is that there is no formal process that currently exists for nationalizing huge, complex financial institutions. According to a Washington Post report, the administration is well aware of this, and is considering a plan that would grant Treasury such authority:
Besides seizing a company outright, the document states, the Treasury Secretary could use a range of tools to prevent its collapse, such as guaranteeing losses, buying assets or taking a partial ownership stake. Such authority also would allow the government to break contracts, such as the agreements to pay $165 million in bonuses to employees of AIG’s most troubled unit. The Treasury secretary could act only after consulting with the president and getting a recommendation from two-thirds of the Federal Reserve Board, according to the plan.
According to Reuters, the FDIC has also “hinted it could take on that job, with Chairman Sheila Bair saying recently that the agency’s model for failed banks works well.” Either way, the change would have to be passed through Congress.
Nationalizing these giant firms would not be easy or inexpensive. But, there is not much else that can feasibly be done with giants like AIG or Citigroup — they’re too-big-to-fail and in no shape to carry on as they once did. If nationalized, AIG and firms like it could be wound down and broken up, and hopefully a new regulatory framework will be implemented to keep firms from growing so large in the future.