Public Policy Analysis & Opinion
Wake up and smell the tea
Increased financial integration offered by unexpected source
By Kevin P. Hennosy
Absent criminal prosecution of its former management team, American International Group (AIG) will once again operate as a private sector insurance company, according to an agreement with the U.S. Treasury Department announced in the early morning hours of September 30, 2010.
The agreement spells out an exit strategy from the largest public bailout arising from the Financial Panic of 2008. After collapsing under the weight of risk accumulated through fraudulent loan insurance products and other fallacious financial arrangements, AIG effectively failed in September 2008.
To forestall a financial failure that would have crushed state budgets, insurance and capital markets, the U.S. government ultimately provided $180 billion in the form of loans and preferred stock to what was formerly the world's largest insurer.
The New York Federal Reserve Bank and the U.S. Treasury received sharp criticism for the lack of controls placed on the failed company in return for public financing. In the absence of such controls, reports of the company's spending on travel and extraordinary executive compensation attracted negative press coverage and congressional criticism.
The plan calls for AIG to repay the government $20 billion before the first quarter of 2011. This money comes from the proceeds of selling off AIG assets, including the company's life insurance business in the Far East.
The government will convert a $49 billion portfolio of preferred stock in AIG into 1.7 billion shares of common stock—resulting in a 92.1% stake in the company. The stock sale will repay taxpayers with a modest profit.
Robert H. Benmosche, CEO and president of AIG, said of the September 30 agreement: "With this plan, we remain on track to emerge with one of the largest, most diversified property and casualty companies in the world, a leading U.S. life insurance and retirement savings operation, and other businesses that enhance this nucleus. As our results this year underscore, AIG's core businesses are financially strong, well-managed enterprises that are well positioned to deliver long-term value to all of our stakeholders. With this plan underway, we can concentrate our full attention on managing our businesses for the benefit of all of our stakeholders."
"The exit strategy announced today dramatically accelerates the timeline for AIG's repayment and puts taxpayers in a considerably stronger position to recoup our investment in the company," said Treasury Secretary Tim Geithner. "While there is a lot of work ahead to execute the terms of this agreement, today we are much closer to seeing a clear path out. AIG's Board of Directors and new management team deserve credit for the substantial progress they've made to lower the company's risk profile, refocus it around core insurance businesses, and put it in a better position to pay back taxpayers."
While U.S. Secretary of the Treasury Geithner seems content to look at the AIG situation with the bloodless gaze of a zombie accountant, the public is not so forgiving. The company received the largest chunk of public money, dispensed to people that Main Street views as crooks and failures, through the Troubled Asset Relief Program (TARP).
I am not one of those commentators who believes that the Bush administration and the last Congress were wrong to approve the TARP program. With knowledge of financial history, it was easy to see that world financial markets were convulsing in an old-school financial panic. Had the Bush administration followed the laissez faire lead of the Hoover administration, the recessionary dynamic of the Panic of 2008 could have become every bit as destructive as the Panic of 1929. The economy is bad, but it is not that bad thanks to the Bush administration's action as the crisis came to a head.
The mistakes were made before and after the creation of the TARP program: a lack of regulation and antitrust enforcement before the panic followed by a lack of criminal law enforcement after the panic.
Still, it is understandable that people viewed the TARP action with dismay. We had not experienced a true financial panic of the scale we faced in September 2008 for three generations. True financial panics, at least in the United States, were not in most people's living memory.
Financial panics became rare because three years after the Crash of 1929, financial markets in the United States were subject to a strong and aggressive federal agency that was created to regulate on behalf of investors. (Until that time, even the New York Stock Exchange was subject only to New York State oversight as an incorporated entity.) The regulatory system banished financial panics from the personal memories of the majority of American citizens.
However, over the last 30 years that system was dismantled and undermined in the name of "Modernization." In truth, we stepped backward and reintroduced dynamics and furies that had powered the boom/bust financial cycles that hampered American economic growth from the Federal Period to The New Deal.
By staying the hand of financial regulators and antitrust lawyers, we allowed wealth to concentrate into corporations like AIG that were too big to regulate before they were too big to fail.
A sense of injustice
The problem with TARP was simple—it did not deliver justice. There was no coordinated Justice Department enforcement effort to punish the decision makers who defrauded investors and consumers. Bad business sense is not criminal, but fraud is. Executives should have gone to jail.
Furthermore, Congress should have conducted high-profile hearings to investigate the run up to the panic as was done in the '20s and '30s.
And so, we are on the eve of an election, and there is a sense of injustice permeating the electorate. The "Throw The Bums Out" dynamic of this election is palpable in many sections of the country.
Political pundits seem assured that the Republican Party appears poised to make great—if not historic—gains in Congress and state capitals across the nation this month.
For most of this year, Vice President Joe Biden, an old-line Democrat, has told audiences, "This is not your father's Republican Party." Mr. Biden's rhetorical flourish refers to the existence of what political participants and observers have dubbed "The Tea Party Movement."
I do not agree with most of the policies put forward by Tea Party leaders, but I do share the sense of injustice that many Tea Party voters feel.
The acronym TEA harkens back to American colonial protests against British government tea monopolies. Some observers explain that the TEA stands for "Taxed Enough Already."
The political movement arose from long-standing Anti-Tax and Anti-Intellectual traditions in American politics. Many but not all of the movement's early activists found a political voice through the career of U.S. Representative Ron Paul (R-Tex.), who has sought the presidential nomination of the Libertarian and Republican parties.
At the grassroots level, original adherents to the Tea Party movement respond to basic mistrust of government and large financial institutions, as well as a resentment of taxation, which they view as coercion to pay for things that they do not want.
In addition, there is a subset of Tea Party activists who focus on generations-old conspiracy theories that are critical of central banking and international integration of money markets. Again, I understand the sense of injustice inherent in these beliefs, even if I do not share the beliefs.
The 2008 Ron Paul presidential campaign encouraged activists to establish local support networks integrated through a decentralized use of Internet-based communications.
While Representative Paul's presidential campaign ended in the summer of 2008, these communications networks remained in place. The decentralized nature of the organization proved welcoming to Ron Paul supporters, but it also allowed for individuals and subgroups to feel integrated into the movement that did not necessarily share Mr. Paul's Libertarian views.
These networks provided a lively venue for discussion of political/economic issues as the presidency of George W. Bush moved from a low-job creation economy to a full-blown financial panic of Gilded Age proportions.
Efforts launched in the waning days of the Bush administration to provide massive intervention of public money into private banks infuriated the Paulist faithful. When the Obama administration took office and launched a tepid attempt to "prime the pump" of economic growth through Keynesian counter-cyclical spending, and loans to the auto sector, the Internet-based social networking sites were abuzz with Anti-Tax and Anti-Intellectual rhetoric.
To paraphrase Vice President Biden, today's Tea Party movement is not last year's Tea Party.
In early 2009, this political discontent began to show itself through real-world protest events. Originally, the events did not use the name Tea Party, but a series of events scheduled around the federal income tax filing deadline became a cause celebre for the Fox News cable outlet. The devoutly conservative entertainment empire of Rupert Murdoch began running commercial promotions of the network's planned coverage of the upcoming "news" events.
The promotional activities of Fox News vastly expanded participation in what were now widely referred to as Tea Party events beyond the core group.
Furthermore, a corporate element was injected into the Tea Party body politic at about the same time as the Fox News intervention. At first through stealth, and then more openly, the lobbying group FreedomWorks began efforts to co-opt and vastly expand the grassroots movement. FreedomWorks lobbies on behalf of corporations and trade associations by creating the appearance of public support for public policy proposals.
As an advocate for pro-corporate tax and spending policies, FreedomWorks is actually the type of organization that should give the Paulist-base of the Tea Party nightmares. The hydra-headed organization consists of legal entities ruled tax-exempt under sections 501(c)3, 501(c)4 and 527 of the Internal Revenue Code by the Internal Revenue Service.
Once FreedomWorks began working to organize and promote the Tea Party movement, participation at events expanded and tended to become more dramatic—creating better "visuals" for television coverage. During the August 2009 congressional recess, FreedomWorks-sponsored "Tea Party Groups" appear to have disseminated fantastical arguments about the health care reform legislation designed to fan the flames of fear and paranoia. The foremost of these canards was the creation of "death panels" charged with denying care to the sick and elderly as a "cost cutting measure."
A North Dakota-born former Texas congressman named Dick Armey leads FreedomWorks. In addition to FreedomWorks, Armey served as a consultant to the lobbying/public affairs firm of DLA Piper, until he was separated from the firm after conflict of interest allegations became public.
In addition to Armey, there are other more old-school political operators like Sal Russo, who converted an existing political action committee into a committee known as the Tea Party Patriots. These Washington-oriented operatives bring connections to inside-the-beltway groups and special interests of the kind that the original Tea Party activists blogged about derisively.
What does this transformation mean to insurance regulation? If one reviews the insurance-related agenda of the individuals and groups that co-opted the Tea Party political movement, it does not reflect the atomized and independent nature of the most motivated voters of this election cycle.
With regard to insurance, voters might vote to send a populist message to Washington but might end up with more consolidation of control over finance—greater international financial integration that used to keep Ron Paul supporters up at night.
Dick Armey was part of the House Republican leadership team that produced the State Modernization and Regulatory Transparency (SMART) Act, which would have encouraged federal preemption of state law, encouraged financial consolidation and encouraged foreign companies' entry into American markets—not exactly three agenda items of the original Tea Party activists.
The SMART Act was part of a general trend toward deregulation that Armey and the Republican leadership promoted in the 30 years ending with the Financial Panic of 2008.
The purpose of the SMART Act was to restrict regulatory oversight in such a way that would have bullied the states into dropping consumer protections by establishing low federal standards. For example, the legislation endangered state-based anti-fraud and anti-tying restrictions on bank insurance sales. In addition, the SMART Act would have established the dream of overseas insurance companies: the Optional Federal Charter with no federal regulatory framework over recipients of the charter. Furthermore, the SMART Act would have forbidden states from verifying that the prices charged by insurers were risk-based.
Although the National Association of Insurance Commissioners (NAIC) flirted with the idea of supporting the SMART Act, the insurance regulators' group ultimately rejected it. The National Conference of Insurance Legislators (NCOIL) opposed the SMART Act from its introduction.
On March 18, 2005, the NAIC leadership notified then-Representative Mike Oxley (R-Ohio), "Our concerns are deeply rooted in the basic structure of the SMART Act that mandates federal preemption of state laws and regulations, federal supervision of state regulation, and complete rate deregulation for all states. We do not believe that tweaking the language of the SMART Act discussion draft can resolve these basic conflicts."
In 2006 and 2008, after financial scandals where nothing seemed to happen to the perpetrators, the political pendulum swung left. After few enforcement actions in 2009 and 2010 it appears the pendulum will swing to the right. What is clear is that people are not satisfied with the status quo.