Public Policy Analysis & Opinion
American International Group is no longer a non-bank systemic risk but is still an insurance company. (Just in case state officials and the NAIC wondered.)
“The Friday Afternoon News Dump” is a term of art in the unholy union of journalism and public relations. The term describes the release of newsworthy information on a Friday—when most deadlines for filing have passed. Friday afternoon traditionally was a time for the ingestion of alcohol and nicotine through various delivery platforms. That tactic allowed an institution to claim transparency without fear of the information finding its way to the public at large.
Overturning the AIG designation will make it easier to argue that the FSOC should return other large insurers to the parochial “little ponds” that they know, love, and control.
Today we live in an age of 24-hour news cycles that never really “put an edition to bed.” Also, journalism schools discourage any romantic notions of the journalist sitting at a keyboard with an open fifth of strong drink sitting on the desk. Human resources departments frown upon even storing “hooch” in a desk drawer. Time marches on!
Yet it is amazing how many significant announcements still find their way out of major institutions on Fridays.
On September 29, 2017, the U.S. Financial Stability Oversight Council (FSOC) announced that it had voted to de-designate the American International Group (AIG) as a center for “systemic risk” to the American financial system.
The Dodd-Frank Act of 2010 created the FSOC and empowered the body to designate non-bank financial institutions as “too big to fail.” Designated financial institutions received enhanced oversight from the FSOC and its member agencies.
The application of FSOC oversight became necessary because non-bank financial institutions proved adroit at playing one regulatory agency off against another—while the management did whatever it pleased. This form of “regulatory arbitrage” echoed the school kid who used the “Mom said it’s okay and Dad said it’s okay” approach to staying out past curfew.
Let the shenanigans begin!
The AIG brand of regulatory arbitrage is particularly virulent. The insurer can throw a tremendous amount of resources at any lobbying effort, and the firm’s corporate culture is as aggressive as a bull elephant run amok.
As AIG expanded its toxic efforts to sell insurance on bond failures, it convinced regulators that “up is down” and “black is white.” Under the McCarran-Ferguson Act of 1945, state regulators hold conditional authority to regulate the “business of insurance,” no matter what a company might call that risk transfer activity in the marketplace. Under the Gramm-Leach-Bliley Act of 1999, no matter what kind of financial institution conducts “the business of insurance,” state officials hold authority as the “primary functional regulator.”
Still, the company convinced multiple state jurisdictions and the NAIC that its insurance on bond failures stood outside insurance regulators’ jurisdiction. Like docile playthings, the state officials decided not to try to stand in AIG’s way on the road to perdition. The regulators failed to do the most conservative thing in the world: They failed to yell stop!
So the world economy fell into an avoidable abyss. The life savings of uncounted individuals evaporated. Business plans fell apart. Millions of jobs ceased to exist. All this because state officials charged with regulating insurance never said stop!
State officials allowed an insurance company to sell insurance under another name and withheld oversight. When the insurer failed, insurance regulators denied it was an insurance company.
In the early weeks after the crash, Congress started asking questions. With the credibility of a recently released prisoner of war who suffered from a bad case of post-traumatic stress disorder, an NAIC spokesperson delivered one of the least believable lines ever uttered before a Congressional oversight committee. Before Congress, then-Pennsylvania Insurance Commissioner Joel Ario boldly asserted with a straight face that AIG was not an insurance company.
Had the U.S. taxpayer not poured $182.3 billion into the all-but-dead institution, AIG would have been truly dead, beyond all the insurance coverage that would have become worthless overnight. State governments—through the insurance guaranty fund network—would spend hundreds of years paying off claims against worthless AIG products.
And no, the member companies of the guaranty associations do not eat the cost of failed companies. The guaranty funds cover claims up to an annual cap, which insurers can deduct from their state premium tax liabilitythe following year. In the case of property/casualty products, the assessments may be only partially deducted, but the cost is passed along to customers in higher prices. The guaranty assessments only finance the claims against dead companies; the public pays the check.
The grownup
Federal Reserve Board Chair Janet Yellen explained her decision to vote for de-designation of AIG in a statement. She stressed that she believed that proving there was a path to de-designation would provide an incentive for designated companies to cooperate.
In addition, Yellen noted that the (former) “World’s Largest Insurance Company” was no longer the behemoth it once was. Yellen explained:
Since the financial crisis, AIG has largely sold off or wound down its capital markets businesses, and has become a smaller firm that poses less of a threat to financial stability. For example, it has reduced its assets by more than $500 billion, wound down its Financial Products division, and sold off its mortgage insurance company. Although AIG’s distress could lead to a run by policyholders on a portion of its annuities and other insurance products, the financial system should be able to handle the potential fire sales.
This observation seems to underline the aim of the progressive members of the Federal Reserve Board to whittle down the size of financial institutions rather than break them up.
A seal act
Like so many trained seals at feeding time, the NAIC “leadership” made a lot of happy noises. The association issued a series of statements praising the decision.
Nothing in the NAIC statements reflected the embarrassed and submissive silence of state officials when AIG received the “Too Big to Fail” designation. At that time, the NAIC’s leadership did not pine for recognition as the “primary functional regulator” of a crime scene.
After all, AIG’s peddling of collateralized debt securities bore a certain resemblance to Grant and Ward’s fraudulent trade in unidentified “government contracts” in the 1880s. Of course, there were differences in the two stories. When Grant and Ward failed and threw Wall Street into a panic, Ferdinand Ward, the firm’s principal, did time in both the Ludlow Street Jail and Sing Sing. Ward paid corrupt jailers for safe and comfortable treatment. In AIG’s case, management received publicly funded bonuses, and the firm received a “designation.”
State officials began to deride AIG’s designation only as other insurers received the same status. If an insurer is large enough to receive consideration as presenting a systemic risk, one can assume it’s a very “big fish” in some state’s “little pond.” The interjection of another government entity, no matter how light its touch, presents the state of domicile with a loss of face.
States worked to regain face by questioning the worth of the systemic risk designation. That meant embracingAIG and all its empty promises. Slowly at first, but later with gusto, state officials started to recognize AIG as an insurance company again. Overturning the AIG designation will make it easier to argue that the FSOC should return other large insurers to the parochial “little ponds” that they know, love, and control.
The NAIC news release quotes Wisconsin Insurance Commissioner Ted Nickel as saying: “Going forward, we hope FSOC will work more closely with state insurance regulators to identify any perceived risks impacting the insurance sector.” Commissioner Nickel also serves as NAIC president this year.
The NAIC release also quotes New Jersey Insurance Director Peter Hartt, who serves as the state insurance regulator representative on the FSOC. Of course, New Jersey is domiciled in the jurisdiction of Prudential Insurance, a designated source of systemic risk. Wait, it’s the other way around: Prudential is domiciled in New Jersey, but it is sometimes difficult to tell which entity oversees the other.
The NAIC associates Director Hartt with several catty comments. “While I have concerns with certain characterizations in the revised analysis relating to insurance regulators’ tools and the resolution processes, the Council’s decision is a positive step. I applaud the decision and look forward to continued representation of state insurance regulators on the council.” (Translation: “Just de-designate Prudential and get it over with!”) “This recognition would be further bolstered if the state insurance regulator—the primary functional regulator for the sector—had a vote on the Council.” (Translation: “I want Prudential back; let me vote!”) “The rationale that justifies FSOC’s decision to de-designate AIG reflects a revised analytical approach that is more credible and suggests a more refined understanding of the sector and its regulation than we saw with its designation.” (Translation: “Under the revised analytical approach, how many hotel room nights will it take to reach the Prudential De-Designation Award Level?”)
The Jet-setting Tennessee Insurance Commissioner Julie Mix McPeak focused her comments on the international importance of the AIG de-designation. “The decision to de-designate AIG should factor into the international designation process for Global Systemically Important insurers.”
The commissioner and NAIC president-elect reasoned: “When a U.S. group is not considered systemic after a thorough domestic evaluation under FSOC, it is difficult to rationalize why it would remain systemic for international purposes. This development highlights the need for a fresh and candid look at the [Global Systemically Important] process of the International Association of Insurance Supervisors and the Financial Stability Board.”
Well, that is one way to look at it, but one also might assume that international officials remember that American state officials lacked the nerve and backbone to act as primary functional regulators of AIG before it crashed—leading to the collapse of the company, other institutions, and the world economy.
Fool me once?
The author
Kevin P. Hennosy is an insurance writer who specializes in the history and politics of insurance regulation.He began his insurance career in theregulatory compliance office of Nationwide Insurance Cos. and then served as public affairs manager for the National Association of Insurance Commissioners (NAIC). Since leaving the NAIC staff, he has written extensively on insurance regulation and testified before the NAIC as a consumer advocate.
