This editorial appeared in The Miami Herald.
Investment wizard Warren Buffet once observed, "It's when the tide goes out that you find out who has been swimming naked." With the economy contracting, insurance giant AIG stands exposed as the biggest naked swimmer of all.
The company made a huge bet that real-estate prices would always go up, never preparing for the day when it might have to cover its losses. As the world's biggest insurer, however, its failure would cripple the global financial system, which is why the government believes it has no choice but to intervene.
AIG insured hundreds of billions of dollars in subprime mortgages that had been turned into securitized debt – pools of loans converted into securities. These pools often consisted of mortgages that could not be repaid. When push came to shove, AIG was caught short. The failure of its mistaken investment strategy was compounded by a failure to set aside enough reserve for the risk it bore.
The result is that AIG must either stay in business with government help or go into default. In such a scenario, there are no good options, but what analysts describe as the "least worse" option is a government rescue. This has already entailed a huge cost to the American taxpayer – some $170 billion, including this week's latest round of outlays – and there will probably be more in the future.
To read the complete editorial, visit The Miami Herald.