For the second day now the Financial Crisis Inquiry Commission (FCIC) is trying to get to the bottom of why Goldman Sachs was more aggressive than other banks in demanding collateral on the derivatives it bought from AIG. This is a baffling investigation for two reasons. First, Goldman was smart, and right, to do exactly what it did. Second, its actions in doing so were in no way a cause of the financial crisis.
First, a little background. Goldman had lots of credit default swaps (CDS) with AIG, many of which were insuring mortgage-related risk. The contracts said that, as the values of the mortgage assets decline, AIG must put up cash to ensure that it can cover its side of the agreement. The bank began to realize that the mortgage market was souring and demanded more cash. When Goldman noticed AIG might also run into trouble, given the firm's huge exposure to the CDS market, it began buying protection against AIG as well. If the insurer failed, Goldman wanted to be sure it got what it was owed. Seems logical enough, right?
Why Did Goldman Demand More Than Others?
Here's the supposed problem, via the New York Times:
"Goldman was first going in the door asking for collateral. Goldman was by far the most aggressive in terms of the timing and amount asked for," Phil Angelides, the chairman of the commission, said. "You were way ahead of everyone else in terms of the amount being demanded and the timing for that."
Well, yes -- because Goldman was way ahead of everyone in picking up on the mortgage market's imminent collapse. Why was Goldman so aggressive about it? Uh, because it's Goldman. That's its job. Anyone who finds it strange that Goldman would be aggressive in getting people to pay it what they owe needs to study the investment banking industry a little harder.
The market for many of the securities that we're talking about was becoming illiquid at the time Goldman was demanding collateral. As a result, it relied on its internal assumptions in part to determine how the value of these assets had changed. Since its assumptions were a more accurate depiction of the coming mortgage market meltdown than those of other banks, it's not at all surprising that it demanded more from AIG than other counterparties.
Did This Cause the Crisis?
The FCIC appears to imply that Goldman's pressure on AIG was a cause of the credit crunch. This is a bizarre view. Again, Goldman was merely the first to pick up on the mounting problems, so it left the mortgage party before other banks. The idea that Goldman should be blamed for causing a panic could only be true if there was no reason to panic. Obviously, there was ample reason. The housing bubble was on the verge of an epic explosion. The fact that Goldman was the first firm to worry doesn't mean it led others to worry irrationally. It means Goldman was smarter than the rest of the pack.
The FCIC's decision to waste its time investigating this question is troubling, because it has nothing to do with its mission of determining what caused the financial crisis. Goldman demanded collateral from AIG because it's the job of an investment bank to demand cash from a derivative's counterparty when asset deterioration occurs. The only explanation for spending two days questioning the bank about this issue is a desire to mimic other politicized pursuits of using Goldman as Washington's favorite punching bag. The commission should focus on real causes of the crisis, not convenient targets.