Federal Reserve Moral Hazard Smoking Gun: In August 2008 Goldman Was Willing To Tear Up AIG Derivative Contracts, Offered To Take Haircut

Tyler Durden's picture

As observant readers will recall, a week ago we pointed out a letter in which the New York Fed's Steven Manzari instructed AIG to stand down on all discussions with counterparties on "tearing up/unwinding CDS trades on the CDO portfolio." At the time we focused on the word "stand down" as an indication of the Fed's lead role in the process. At this point there is no doubt that the FRBNY, together with its law firm, Davis Polk, were in the pilot's seat during the entire AIG negotiation, and while Tim Geithner may not have been the responsible man for this, someone must have been - and for the record, our money is a double or nothing on recently promoted FRBNY Senior Vice President Sarah Dahlgren, who as of January 21st is in charge of the Fed's Special Investments [AIG] Management Group. We sure hope Sarah gets the chance to recall her memories beginning in the fateful month of September 2008 when she became the person in charge of the FRBNY's AIG relationship. But back to the letter - little did we know that our focus was on the right sentence... but on the wrong word. What should have struck us front and center, was Habayeb's admission that contract "tear downs" had been evaluated. This means that someone, aside from AIG, must have expressed an interest in a tear down, which if true would have dramatic consequences for the entire AIG debacle. Today, the WSJ presented the missing piece of the puzzle.

In tonight's Heard On The Street section, the WSJ notes:

As everybody knows, AIG got a huge government bailout in September 2008
to help make payments on derivatives contracts with banks, including
Goldman. Yet in the previous month, Goldman approached AIG about
"tearing up" its contracts, according to a November 2008 analysis by BlackRock, then an adviser to the New York Fed. S
o was Goldman prepared to offer AIG a haircut in the month before its
rescue? A legitimate question, given that Goldman refused to accept
such a cut when the New York Fed raised the idea after it bailed out

The implications of this discovery are huge as they essentially destroy all the arguments presented by the FRBNY about an inability to extract concession out of Goldman (which being the largest AIG CDO counterparty, was the critical negotiating factor). It also casts doubt on the veracity of any arguments presented in Congress by Goldman representatives discussing the potential to take a haircut on their AIG exposure. What this means in plain English is that, in the month before the Fed entered the scene, GOLDMAN SACHS ITSELF OFFERED TO TEAR DOWN THE CDS ON AIG'S CDO PORTFOLIO (we don't use caps lock lightly). This is basically a smoking gun on the moral hazard issue perpetrated by the FRBNY when it got involved, and indicates that through their involvement, Tim Geithner, Sarah Dahlgren or whoever, not only did not save US taxpayers' money, but in fact ended up costing money, when they funded the marginal difference between par (the make whole price given to all AIG counterparties after AIG was told to back off in its negotiations) and whatever discount would have been applicable to the contract tear down that had been proposed by Goldman a mere month earlier. This, more so than anything presented up to now, is the true scandal behind the New York Fed's involvement.

If this November Blackrock report indeed exists, and if Goldman did in fact offer to tear down contracts, this is an act of near criminal implications and heads at the FRBNY must roll immediately.

We hope this is the number one question asked by Chairman Towns of Mr. Geithner. But as the latter will plead the fifth due to his lack of involvement, we kindly suggest that the correct person, the person who can not claim lack of knowledge on the AIG situation due to a prior recusal, and is therefore the right person to grill before a live studio audience, is the FRBNY's Sarah Dahlgren: as it stands, Wednesday will merely be yet another spectacle, in which Geithner will claim stupidity, and this time very likely get away with it: is there any wonder why he agreed to provide testimony so promptly after his "invitation." What about Goldman's Stephen Friedman - did he accept the invitiation yet? How about Goldman's Hank Paulson? It sure must be nice to have the luxury to kindly decline the privilege of providing sworn testimony, and avoid perjury.

Goldman representatives, Lloyd Blankfein among them preferably, have to be on the stand next to Geithner, as they are the people who have bee at the core of this whole problem from the start till bitter end.

Last but not least, was it not Mr. Blankfein who just two weeks ago, before the FCIC committee, noted he had never gotten a request to take less than 100 cents on the dollar on AIG CDS? So what happens if it was he who offered less than 100 cents? Should that maybe have been at least mentioned in passing? Is that some equivalent of perjury, or will the semantics lawyers come out in force?

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Anal_yst's picture

I think its less conspiracy and more just incompetence and ineptitude on behalf of the Fed (and all ther other regulators/enforcement bodies, of course)...

ghostfaceinvestah's picture

I disagree, it was clearly intentional.  no way in hell the NYFed didn't know about these precendent setting settlements, settled only weeks prior.


These were big news at the time, because everyone was afraid of the failure of the FG's.  And these transactions were facilitated by the state of NY.  Everyone on the street new about them.  There was a precedent set.  Transactions were settled for 40-60cents on the dollar, and no one failed, there was no systemic collapse.

And the NYFed ignored that precedent.

Dirtt's picture

I actually have less tolerance for incompetance vs. criminality in these matters.


Ineptitude means they should all just walk away from their posts.  "Any idiot can screw up" is comforting how?  And current court jester should be reconfirmed why?  The Clinton Admin. made a mockery of forgetfulness.  (the Nixon people were kicking themselves in the ass)  At least the criminal in some ways has a greater moral standard in that he isn't a bullshit artist too.


Incompetence Defense should cost more than outright 'guilty'.

Mr. Anonymous's picture

Prove to us, sir, that you are a crook and not a moron and we will go easier.  The burden is on you.

Anonymous's picture

Actually, it was Reagan who set the "forgetfulness" standard. Remember?

Orly's picture


You are as blind and naive as the day is long.

Anonymous's picture

Nice work TD. The one additional thing pointed out by the FCIC that I think we should focus on is that "no collateral" was put up by Goldman in most cases. I didn't say "little collateral". I said "no collateral". There in lies the moral hazard. Near the pike of the subprime bubble , Goldman would pile on even more contracts with AIG, with posting NO COLLATERAL. Maybe that's why they offered to tear them down, because without any exchange of money, there is no CONTRACT. Period. They should be questioning Rubin. He seems to be in the center slot

deadhead's picture

The hits just keep on coming.

As the timeline continues to unfold, many of the so called "conspiracy" theories seem to be playing out as the truth.

Though the focus on this matter appears to be the NY Fed, the bottom line is that  this is on Bernanke's watch as are so many other failed matters.

President Obama: This guy has your "strongest support"?

The US Senate needs to have these questions answered and must vote "no" on the cloture motion so that a proper and reasonable investigation can take place. 

MrPalladium's picture

"the bottom line is that  this is on Bernanke's watch as are so many other failed matters."

Bingo. It should be clear to all by now that the Fed made a policy decision that they simply would not (and will not to this day) accept any liqidation of debt - as would occur in a CDS tear up. In a financial system geared 30 to 1, the contraction of debt - even of a few parties that could afford it - could cascade when the effects of contracting credit among the strong cause the strong to curtail marginal lending to the weak.

In essence, the prohibition on the liquidation of debt and the contraction of credit is a "monetary policy" decision that the Fed dare not explain, because to do so would require that they confess just how unstable they allowed the financial system which they regulate to become. They chose instead to have the public think they were just slopping the goodies on their pals on Wall Street - which of course they did.

Frankly, I am surprised that the Fed prefers to be though of as corrupt and criminal, rather than merely asleep at the switch.

Ned Zeppelin's picture

And from the WSJ, not a publication you could deem run by the tin hat crowd.  Timmah's testimony will be "must see" TV, but I must say I agree with the prediction that Timmah will simply plead that he had already gone into seclusion in preparation for his Ascension to Treasury, and had no knowledge of these proceedings.  Then that leads to Ben, who heads the FRB and on whose watch this thievery occurred.  It's called "accountability."  I also agree that if you want to get the real story, the underlings must be called in, and when you get the story , then bring in the big fish.  An investigation, not a staged conversation, is what we need.

Anonymous's picture

President Obama: This guy has your "strongest support"?

spoken from a man who uses a teleprompter at an elementary school.


this is getting better than 'my pet goat'.

Anonymous's picture

Once the crack is found the dominoes will fall faster than most appreciate.

ATG's picture

CNBC.com polls with over 10,000 votes have

51% thumbs down on BB and 77% down on TG...


Gilgamesh's picture

Put this is the previous AIG post comments, but looks like Barofsky has something to say about this too:

TARP IG opens new probes of AIG


deadhead's picture

Thanks for the link and info, Gilga.

Let's hope those folks in the US Senate come to their senses very soon.  An investigation must be conducted before Bernanke is given another 4 years.

And for the love of all that is sane, please remove Geithner from his US government post as he is an absolute embarrassment.

Anonymous's picture

Yes. Yes. Yes. Yes. Yes.

Ned Zeppelin's picture

He has been remarkably ineffective, largely due to utter lack of interest on the part of the MSM and the American Idol audience.

GoldmanSux's picture

It is absurd we still have to speculate about this. My vote goes to Don Kohn who is the uncrowned King. Regardless, we have been told Geitner is not involved. Well then, who the hell is? Who made these decisions without Geitner's approval? Not one so called journalist has asked this question, nor one congressperson. Let's get on it, you incompetent fools!

Anonymous's picture

There is NO way Geithner was involved in this or any other thing.

Having read the post here, I came to the conclusion that it was actually Geithner's tooth fairy that made all the decisions.

The truth of the matter is Geithner was the head of the New York Fed BUT he didn't know what he was supposed to be doing there.

So case closed. This man is a certifiable idiot who never knows anything BUT enjoys the trust and confidence of this President.

Daedal's picture

Where the hell is Cuomo?!

koaj's picture

busy going after process servers and having tea with david patterson

Anonymous's picture

hustling up contributions for his campaign coffers?

Jim in MN's picture


This ceaselessly erupting scandal will be the political death of the Obama Administration, if it's not too late already.  It is marked by all the greed, hubris, arrogance and condescension of the classics (Watergate, Iran-Contra etc).

The principals involved should do the honorable thing and at least offer to resign.  More importantly, the White House and Big Mojo Handlers need to get off the schneid and FIRE IMPORTANT PEOPLE which is the only firewall left.  Otherwise it's 'what did the White House know and when did they know it' time.

Oh well, the Bubble of Unreality in DC remains the most important bubble among all the bubblicious bubbles going.  Too much power and Xanax will do that to an elite.

I guess the fine and noble patriotic aspirations of the Obamanauts will simply founder and sink on billions of dollars of dirty payola, and the ensuing coverup.  Rinse and repeat.

deadhead's picture

This ceaselessly erupting scandal will be the political death of the Obama Administration





Master Bates's picture

I think that no matter what Obama does, he can't save this nation from its deep, structural problems.  He will be regarded as the next Hoover in 50 years, whether he likes it or not.

jeff montanye's picture

when one seeks continuity and bipartisanship don't be surprised when history can't remember exactly which decision was obama's and which bush's.

Anonymous's picture

FEDGATE, est. 1913. I like that.

Anonymous's picture

Right ... except you quite idiotically overlook the fact that all this happened before Obama assumed office.

Obama has his warts, but hanging this on his administration is Beck-like in its hysteria.

BoeingSpaceliner797's picture

"Meet the new boss, same as the old boss."

Orly's picture

It should be obvious to all well-informed observers that all these boys are part and parcel to the entire shenanigans.

I do get a kick out of people who still believe in Red = Good, Blue = Bad, though.

Wake up, people!  This scheme has been in place since the middle of the Second World War. Just have a gander at what Averill Harriman and his good friend Prescott Bush were up to and that will go a long way toward clearing all this up.


Anonymous's picture

One Big American Mistake, Amen!

Anonymous's picture

Excuse me, but I don't recall Obama being president in 2008 when all of this transpired.

Cheeky Bastard's picture

I think you have mistaken this site for HuffPost. Go there you goddamn fanboy. 

BoeingSpaceliner797's picture

Hello Cheeky,

Glad to see you here.  Wish more folks on both "sides" of the alleged aisle understood, "Meet the new boss, same as the old boss," aren't just words at the end of a song.  Hope all is well with you.

Anonymous's picture

Bwahaha. If you can't beat 'em, silence 'em.

Jim in MN's picture

Sigh, eyeroll....politics 101: It isn't the crime, it's the COVER-UP

The Bad Things are happening now which is easily proven by the fact that we have to dig and post this stuff ourselves, here on this site and other fabulous sites, and have it trickle, or ooze, into the mainstream media, and have Congressional committees and independent investigators and Bloomberg lawsuits fight and scrap for every little memo and email and telephone log.

Obama is strapped to this thing and it is going very, very deep into the ocean.  The Abyss, if you will.  To fail to see that is to be doomed to a very tragic end.  The principals all work for him!!!!!  He is responsible for their past and present conduct inasmuch as he retains their services (and those of Enron lobbyists to pimp their Congressional rides).

Get a fucking clue.  I voted for Obama, you think I like this?  I do not!  But I can see the goddamn nose on the end of my face.  Apparently the 'new best and brightest' in DC cannot.

No One Is Immune To The Iron Laws Of Scandal

No One Expects The Spanish Inquisition

Knock Knock

You're IT

illyia's picture

Fine job, Tyler.

You are getting quite the "rep" around the internets for these reports.

mthomas's picture

boy is that Sarah Dahlgren hideous looking, besides being engaged in a huge amount of corruption

Anonymous's picture

Looks like she just got a promo for her fine work on AIG. From NYFED site:

New York Fed Creates New Group and Names Sarah J. Dahlgren Executive Vice President and Head of Group

January 21, 2010

NEW YORK—William C. Dudley, president and chief executive officer of the Federal Reserve Bank of New York, announced today the formation of a new Special Investments Management Group. The Bank’s board of directors promoted Sarah J. Dahlgren to executive vice president and named her as head of the new group. She will also become a member of the Bank’s Management Committee.

This move represents an additional enhancement to the Bank’s governance and risk management in light of the tremendous expansion of the Bank’s balance sheet over the past eighteen months by separating out the management of the new investments from the Bank’s financial risk management. Among the Group’s responsibilities will be managing the Bank’s credit extension to AIG and its Maiden Lane LLC portfolios.

Ms. Dahlgren has been the senior vice president in charge of the AIG relationship since September 2008. Prior to that, Ms. Dahlgren was responsible for the relationship management function in the Bank Supervision Group, with oversight responsibility for the Group’s portfolios of domestic and foreign banking organizations. Previously, Ms. Dahlgren was responsible for the Bank Supervision Group’s information technology and payments systems exam programs, as well as its Year 2000 readiness efforts.

Since joining the Bank in 1990, Ms. Dahlgren has held various positions within the Bank Supervision Group, as well as having responsibility for the Bank’s credit risk management function. Ms. Dahlgren holds a bachelor’s degree from Cornell University and a master’s degree from Duke University.

Deborah Kilroe
(212) 720-6143
(646) 720-6143

glenlloyd's picture


It's like any government subsidy, if the Fed is providing it everyone takes all that they can get because it clearly doesn't hurt anyone. (sarcasm intended)

straightershooter's picture

One Big American Mistake, Axxxxxxxx!

Is that  what "OBAMA" means Changes you can believe in!

myshadow's picture

"We hope this is the number one question asked by Chairman Towns of Mr. Geithner. But as the latter will plead the fifth due to his lack of involvement,"


Well, he can't/won't.  First if one 'pleads the fifth', they would have to apply it to every question.  Second if a sitting cabinet official plead the fifth, it would be grounds for immediate dismissal.
Also, if congress offered him immunity he would have to spill if he took it.  He will, I'm sure, be less than forthcoming.

Orly's picture

Here's a warm-up:

"I do not recall that."

"I'll have to refer to my notes on that, Senator.  I'll have my staff get back to you."

"I'm sorry.  I just don't recall that conversation."

"Not that I am aware of, Senator."

We should have a running list of phrases and count how many times Geithner and Pauslon say these things.  It would be funny if it weren't so sad.

Anonymous's picture

Just don't make it a drinking game. We're all too young for that level of liver failure.