The lack of decisive intervention by the government sends a message: we’re bluffing. Throughout the economy large businesses know that they can defer any serious changes by simply raising the threat of collapse, and we will come running with immediate cash and a vague insistence that things be fixed some time later.
The AIG folks, inept though they may have been at managing a derivatives book, have proven quick learners in the art of self preservation. Check out this attempt to scare off French regulators:
Representatives of the Federal Reserve, AIG’s lead U.S. overseer, are talking with French regulators and AIG officials to deal with the consequences of a complicated legal scenario in which the departures of the managers in Banque AIG, a subsidiary of AIG’s Financial Products unit, could trigger defaults in $234 billion of derivative transactions, according to people familiar with the situation and a document AIG provided to the U.S. Treasury.
The executives at Paris-based Banque AIG, Mauro Gabriele and James Shephard, have resigned in recent days but have agreed to stay on for a transition, according to people familiar with the matter. In the wake of their resignations, AIG must replace them to the satisfaction of French banking regulators.
If they don’t, French regulators may appoint their own designee to manage the bank — an outcome that could trigger defaults under the bank’s derivative contracts. The private contracts say that a regulator’s appointment of a manager constitutes a change in control, according to a person familiar with the matter.
If you step in, I’ll blow up the world.
This could be stopped any number of ways – my favorite would, of course, simply be to declare bankruptcy – but government could easily hold that regulatory change of control is not an enforceable method of accelerating a debt. It is no more an affront to the sanctity of contracts than the Supreme Court holding that racial restrictions in housing may exist in private agreements but no state will enforce them.
What we are really seeing is a solution (getting French regulators to back off) in search of a problem (derivatives contract acceleration). Just another reminder that AIG is not operating on our behalf.
