Federal regulation at the holding company level would have prevented the near-failure of American International Group in 2008—and had the company actually failed, it would have disrupted the entire financial system, AIG’s CEO suggested on Wednesday.
Speaking two days after the Financial Stability Oversight Council designated AIG as a systemically important financial institution, AIG President and CEO Robert Benmosche confirmed his belief that the SIFI title is appropriate during a panel discussion at the Standard & Poor’s Annual Insurance conference.
Recalling the problems with financial products or credit default swaps that moved AIG toward a near-collapse and a federal bailout, Benmosche said: “If AIG were to have failed, or [if] the perception one or two days later was that it was going to fail, I think we would not be here today with the financial system we have today.”
“And the economy would not be where it is today,” he added. “We touch everything.”
Benmosche made the comments after discussing how AIG is working to get federal and state regulators to work together to oversee the company. “We’re starting to broker some consolidation of thinking and approach,” he said.
He emphasized that although the degree of federal oversight has to be worked out, “we [do] have to have someone overseeing the overarching enterprise.”
“The fact is we had a crisis in 2008, [and] to say we were regulated is not correct,” he said, referring to regulation at the holding company level prior to the SIFI designation.
“There is no one like [AIG] in terms of the amount of resources sitting at the holding company,” Benmosche said, supporting belief that holding company oversight for large financial institutions is needed by using an example close to home.
“If you bring more and more resources [into the holding company] and dividend out of the insurance companies…, well maybe you can use that to—I don’t know—how about credit default swaps? There’s an idea,” he said facetiously, referring to the instruments that pushed AIG to the brink in 2008.
Benmosche noted that getting banking regulators to understand that insurers are not banks is part of the task now at hand. But he also suggested that the exacting standards of banking regulators will be beneficial to insurers.
“Banks really want everything reconciled and done and controlled before you do it,” he said, noting that Wall Street firms and insurers are less disciplined.
“The Federal Reserve will force our industry to have a lot more discipline…They’re going to look at your policies. They’re going to look at your procedures. And not only having policies and procedures, but how do you know you followed them,” he said, noting that there will need to be a lot more documentation.
“It’s SOX 404. It’s form over substance, but they want to see that you’re actually doing the things that you say you’re supposed to do.”
“They will impose an enormous discipline on our industry at the more senior levels,” he said.
Benmosche went on to describe bank-style stress tests that SIFI-designated insurers will be forced to go through “on a CUSIP-by-CUSIP level.”
Describing the stresses being applied, he listed: a 50 percent drop in the S&P; a 400-500 basis-point decline in interest rates; unemployment levels moving up to 12.5 percent; and housing prices tumbling 10-20 percent.
“You add that all together and they want to know if you have any money left over.”
Had AIG done those tests in 2008—”had you run the liquidity tests and [been] forced to show the pricing that came from fair-value accounting—you would have seen that there was no way this company could withstand those types of markets.”
Benmosche noted that banking regulators have trouble understanding long liabilities and assets of insurers because they are used to a world focused on deposits, in which massive bank runs are possible.
“We’ve got to work with the Federal Reserve to bring them up to speed. But in the end, we need somebody that’s doing more in-depth analysis—that says this company can continue to function, and if it doesn’t, it will bring the financial system down.”
Still, Benmosche agreed with another panelist, William R. Berkley, chairman and CEO of W.R. Berkley Corp., who observed that the federal scrutiny puts AIG and other SIFI at a competitive disadvantage.
“I actually feel sorry for them,” Berkley said, recalling a time in the history of his organization when it had a holding company that had a savings and loan, drawing oversight from the Federal Reserve “on an interim informal basis.”
“The informal basis got me to tell my board that my No. 1 objective for the year was to get away from being a bank holding company,” Berkley said.
“Bob [Benmosche] accepts his fate, [but] it’s a real pain. It makes your life very difficult. You have less flexibility. You can’t turn on a dime. No matter how good you are, it makes it more cumbersome to manage the business.”
“It takes away a lot of risk, but I think it’s a harder business to run. You’re less nimble,” Berkley said, concluding that it’s a competitive disadvantage.
Berkley said that the problems go beyond just making the management of large companies more complex because there’s another layer of regulation. “Banking regulators are persistent, and their mindset [relates to a business] where the liabilities can be demanded every day. Therefore, they look at the business in a different way,” he said.
Greg Case, president and CEO of Aon plc, offered the perspective of his brokerage clients, picking up on the carrier executives’ comments about the fundamentally different business models of banks and insurers. “If regulators react the same way” to both types of financial firms, applying capital requirements in the same way, clients want to know, “net-net, is my cost of insurance going to go up? Is it going to go up inappropriately? What’s going to be appropriate? What’s going to be the tradeoff?”
The questions don’t just apply to large institutions, Case said. “This cuts across Solvency II [and] all the regulation globally. How do we get it proportionately right—get the oversight, [but] also allow the industry to do what it needs to do?”
That’s not the only issue, Berkley said. “If you have regulation that’s so strong that no one can fail, then you don’t have any real competition either,” the carrier executive said.