Handling the Truth of the Bailout

Gretchen Morgenson’s New York Times article on the New York Fed’s ongoing bailout of Bank of America is a much needed reminder of the tar baby embraced by the government in 2008 when it decided to save the banks in their current form rather than changing the system fundamentally.

When A.I.G. failed, the New York Fed ended up holding (among other things) an investment vehicle for billions of dollars of toxic mortgage bonds sponsored by Bank of America. A.I.G. has sued Bank of America for fraud related to the bonds, claiming $7 billion of damages. The bank’s defense is that the New York Fed released the claim, settling for $43 million when the bonds were transferred, a paltry sum considering A.I.G.’s demand. A.I.G. asserts that it never released any claim as would be required under New York law. The New York Fed is now aiding Bank of America’s cause.

But why on earth did the New York Fed not pursue the fraud claim in its own right? The last time I checked, the taxpayers could use a few billion more in revenue. It is likely that the New York Fed forewent the claim to shore up Bank of America. It is as if they wrote a check to supplement the cheap funding and other profit enhancers the government provided to allow the banks to earn their way out of the mess.