[House Hearing, 110 Congress]
[From the U.S. Government Publishing Office]





               THE CAUSES AND EFFECTS OF THE AIG BAILOUT

=======================================================================

                                HEARING

                               before the

                         COMMITTEE ON OVERSIGHT
                         AND GOVERNMENT REFORM

                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED TENTH CONGRESS

                             SECOND SESSION

                               __________

                            OCTOBER 7, 2008

                               __________

                           Serial No. 110-208

                               __________

Printed for the use of the Committee on Oversight and Government Reform


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                               index.html
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              COMMITTEE ON OVERSIGHT AND GOVERNMENT REFORM

                 HENRY A. WAXMAN, California, Chairman
EDOLPHUS TOWNS, New York             TOM DAVIS, Virginia
PAUL E. KANJORSKI, Pennsylvania      DAN BURTON, Indiana
CAROLYN B. MALONEY, New York         CHRISTOPHER SHAYS, Connecticut
ELIJAH E. CUMMINGS, Maryland         JOHN M. McHUGH, New York
DENNIS J. KUCINICH, Ohio             JOHN L. MICA, Florida
DANNY K. DAVIS, Illinois             MARK E. SOUDER, Indiana
JOHN F. TIERNEY, Massachusetts       TODD RUSSELL PLATTS, Pennsylvania
WM. LACY CLAY, Missouri              CHRIS CANNON, Utah
DIANE E. WATSON, California          JOHN J. DUNCAN, Jr., Tennessee
STEPHEN F. LYNCH, Massachusetts      MICHAEL R. TURNER, Ohio
BRIAN HIGGINS, New York              DARRELL E. ISSA, California
JOHN A. YARMUTH, Kentucky            KENNY MARCHANT, Texas
BRUCE L. BRALEY, Iowa                LYNN A. WESTMORELAND, Georgia
ELEANOR HOLMES NORTON, District of   PATRICK T. McHENRY, North Carolina
    Columbia                         VIRGINIA FOXX, North Carolina
BETTY McCOLLUM, Minnesota            BRIAN P. BILBRAY, California
JIM COOPER, Tennessee                BILL SALI, Idaho
CHRIS VAN HOLLEN, Maryland           JIM JORDAN, Ohio
PAUL W. HODES, New Hampshire
CHRISTOPHER S. MURPHY, Connecticut
JOHN P. SARBANES, Maryland
PETER WELCH, Vermont
JACKIE SPEIER, California

                      Phil Barnett, Staff Director
                       Earley Green, Chief Clerk
               Lawrence Halloran, Minority Staff Director













                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on October 7, 2008..................................     1
Statement of:
    Dinallo, Eric R., superintendent, New York State Insurance 
      Department; and Lynn E. Turner, former Chief Accountant, 
      Securities and Exchange Commission.........................     6
        Dinallo, Eric R..........................................     6
        Turner, Lynn E...........................................    17
    Sullivan, Martin J., former chief executive officer, AIG; and 
      Robert B. Willumstad, former chief executive officer, AIG..    83
        Sullivan, Martin J.......................................    83
        Willumstad, Robert B.....................................    91
Letters, statements, etc., submitted for the record by:
    Braley, Hon. Bruce L., a Representative in Congress from the 
      State of Iowa, article dated September 9, 2008.............   135
    Dinallo, Eric R., superintendent, New York State Insurance 
      Department, prepared statement of..........................     9
    McCollum, Hon. Betty, a Representative in Congress from the 
      State of Minnesota, article dated September 28, 2008.......    59
    Sullivan, Martin J., former chief executive officer, AIG, 
      prepared statement of......................................    86
    Turner, Lynn E., former Chief Accountant, Securities and 
      Exchange Commission, prepared statement of.................    20
    Waxman, Hon. Henry A., a Representative in Congress from the 
      State of California:
        Letter dated October 4, 2008.............................   101
        Letter dated October 7, 2008.............................   148
        Prepared statement of Mr. Greenberg......................   151
    Willumstad, Robert B., former chief executive officer, AIG, 
      prepared statement of......................................    93

 
               THE CAUSES AND EFFECTS OF THE AIG BAILOUT

                              ----------                              


                        TUESDAY, OCTOBER 7, 2008

                          House of Representatives,
              Committee on Oversight and Government Reform,
                                                    Washington, DC.
    The committee met, pursuant to notice, at 10:04 a.m., in 
room 2154, Rayburn House Office Building, Hon. Henry A. Waxman 
(chairman of the committee) presiding.
    Present: Representatives Waxman, Maloney, Cummings, 
Kucinich, Tierney, Watson, Higgins, Yarmuth, Braley, Norton, 
McCollum, Van Hollen, Sarbanes, Welch, Speier, Davis of 
Virginia, Shays, Mica, Souder, Turner and Bilbray.
    Staff present: Kristin Amerling, general counsel; Russell 
Anello and Stacia Cardille, counsels; Caren Auchman, press 
assistant; Alvin Banks, staff assistant; Phil Barnett, staff 
director and chief counsel; Jen Berenholz, deputy clerk; 
Zhongrui ``JR'' Deng, chief information officer; Ali Golden, 
investigator; Michael Gordon, senior investigative counsel; 
Earley Green, chief clerk; Karen Lightfoot, communications 
director and senior policy advisor; David Rapallo, chief 
investigative counsel; Leneal Scott, information systems 
manager; Roger Sherman, deputy chief counsel; Mitch Smiley, 
special assistant; Lawrence Halloran, minority staff director; 
Jennifer Safavian, minority chief counsel for oversight and 
investigations; A. Brooke Bennett, minority counsel; Brien 
Beattie, Molly Boyl, Alex Cooper, Adam Fromm, and Todd 
Greenwood, minority professional staff members; Larry Brady, 
John Cuaderes, and Nick Palarino, minority senior investigators 
and policy advisors; Patrick Lyden, minority parliamentarian 
and Member services coordinator; and Brian McNicoll, minority 
communications director.
    Chairman Waxman. The committee will please come to order. 
Today we're holding our second day of hearings on the financial 
crisis in Wall Street. Yesterday we examined the collapse of 
Lehman Brothers. Our focus today is AIG.
    There are obvious differences between Lehman and AIG. 
Lehman is an investment bank. AIG is an insurance company. 
Lehman fell because it placed highly leveraged bets in the 
subprime and real estate markets. AIG's problems originate in 
the complex derivatives called credit default swaps. But their 
stories are fundamentally the same.
    In each case, the companies and their executives grew rich 
by taking on excessive risk. In each case, the companies 
collapsed when these risks turned bad. And in each case, their 
executives are walking away with millions of dollars while 
taxpayers are stuck with billions of dollars in costs. The AIG 
CEOs are like the Lehman CEO in one other respect: In each 
case, they refused to accept any blame for what happened to 
their companies.
    In preparation for this hearing, the committee has received 
tens of thousands of pages of documents from AIG. Our review of 
the documents raises three fundamental sets of questions. 
Answering these questions will be the focus of today's hearing.
    The first set of questions is whether AIG's executive 
compensation practices were fair and appropriate. AIG has a 
Seniors Partners Plan that provides cash bonuses for its 70 
executives. These are the top 70 executives. This plan is 
supposed to be performance based. In 2005, AIG's CEO, Martin 
Sullivan received $2.7 million under this plan. In 2006, his 
first full year as CEO, he received $5.7 million under the 
plan. These payments are not in question. Both years were good 
years for AIG, and as CEO, Mr. Sullivan naturally was well 
rewarded.
    2007 is a completely different story. AIG lost over $5 
billion in the final quarter of 2007 due to the losses 
attributable to its Financial Products Division called AIG-FP. 
Under the terms of the Senior Partners Plan, Mr. Sullivan and 
the other top executives should have had their bonuses slashed 
due to poor performance. But when the compensation committee 
met on March 11, 2008, the award bonuses for 2007, Mr. Sullivan 
urged the committee to ignore the losses from the Financial 
Products Division in calculating his bonus and the bonuses of 
the other top executives. We obtained a copy of the minutes 
from that meeting, and here's what they say: Mr. Sullivan next 
presented management's recommendation with respect to the earn-
out for the Senior Partners Plan, suggesting that the AIG-FP 
unrealized market valuation losses be excluded from the 
calculation. The board approved this change in the Senior 
Partners Plan, ignored the losses from the Financial Products 
Division, and gave Mr. Sullivan a cash bonus of over $5 
million. Today we'll ask what could possibly justify this 
change in the compensation formula.
    There are other compensation questions we will also ask. In 
March, the board approved a new compensation contract for Mr. 
Sullivan that gave him a golden parachute worth $15 million. We 
will ask why that was in the interest of the shareholders. And 
we will ask about the compensation of Joseph Cassano who was 
the executive in charge of the Financial Products Division. Mr. 
Cassano was well compensated by AIG. He received more than $280 
million over the last 8 years. After his division imploded, AIG 
terminated him without cause in February and did not seek to 
recover any of Mr. Cassano's compensation. Instead, AIG allowed 
him to keep up to $34 million in unvested bonuses and put him 
on a $1 million-a-month retainer. Last month the taxpayers 
bought out AIG in an $85 billion bailout. This was a direct 
result of the mistakes made by Mr. Cassano. Yet even today he 
remains on the company payroll, receiving $1 million a month.
    The Federal bailout occurred on September 16. Less than 1 
week later AIG held a week-long retreat for company executives 
at the exclusive St. Regis resort in Monarch Beach, California. 
And we have a photograph on display of that resort. Rooms at 
this resort can cost over $1,000 per night. Invoices provided 
to the committee show that AIG paid the resort over $440,000 
including nearly $200,000 for rooms, over $150,000 for meals, 
and $23,000 in spa charges.
    Well, average Americans are suffering economically. They're 
losing their jobs, their homes and their health insurance. Yet 
less than 1 week after the taxpayers rescued AIG, company 
executives could be found wining and dining at one of the most 
exclusive resorts in the Nation. We'll ask whether any of this 
makes any sense.
    The second set of questions we'll ask is whether Mr. 
Sullivan and Robert Willumstad are right when they say they 
bear no responsibility for the collapse of AIG. Mr. Sullivan 
was CEO from March 2005 to June 2008. Mr. Willumstad was his 
successor. He joined the AIG board in January 2006 and has 
served as chairman from November 2006 until he was named CEO in 
June 2008. According to their testimony, AIG failed because it 
was caught in a vicious cycle and hit by a global financial 
tsunami. Mr. Willumstad says, ``I don't believe AIG could have 
done anything differently.''
    The information we received paints a different picture. We 
have obtained a confidential letter from the Office of Thrift 
Supervision to AIG's general counsel. In this March 10, 2008 
letter, the Office of Thrift Supervision writes, ``we are 
concerned that the corporate oversight of AIG Financial 
Products lacks critical elements of independence, transparency 
and granularity.'' Internal documents show that AIG's auditor, 
PricewaterhouseCoopers, reported similar problems. Minutes from 
a meeting of the board's audit committee in March 2008 revealed 
that PricewaterhouseCoopers told the committee that the root 
cause of AIG's problems was that risk control groups did not 
have appropriate access to the Financial Products Division.
    As part of our investigation, the committee requested 
information from a former AIG auditor Joseph St. Denis. Mr. St. 
Denis was a senior SEC enforcement official who was hired by 
AIG to address its ongoing accounting problems. But when he 
expressed concerns about how the Financial Products Division 
was valuing its liabilities, Mr. Cassano told him, ``I have 
deliberately excluded you from the valuation because I was 
concerned that you would pollute the process.''
    Ultimately, Mr. St. Denis resigned in protest. As he 
explains, Mr. Cassano took actions that I believe were intended 
to prevent me from performing the job duties for which I was 
hired. Unlike Mr. Cassano and Mr. Sullivan, Mr. St. Denis's 
actions cost him his bonus.
    There are other questionable actions by Mr. Sullivan and 
Mr. Willumstad. As losses were mounting and resources were 
getting scarce, AIG depleted its capital by over $10 billion 
through stock buybacks and rising dividend payments. This 
prompted shareholders to write the board, ``the management and 
board inexcusably and inexplicably raised the dividend while 
simultaneously issuing expensive preferred stock at a 
discount.''
    And finally, we'll ask whether AIG and in particular Mr. 
Sullivan misled investors and the public about the financial 
conditions of the company. On December 5, 2007, Mr. Sullivan 
told investors, ``we are confident in our marks and the 
reasonableness of our valuation methods. We have a high degree 
of certainty in what we have booked to date.'' What Mr. 
Sullivan didn't tell investors was that, on November 29th, 1 
week earlier, PricewaterhouseCoopers had raised their concerns 
about Mr. Sullivan, informing him that PWC believed that AIG 
could have a material weakness relating to the risk management 
of these areas.
    There is one witness who should be here today but who will 
be missing, Maurice ``Hank'' Greenberg, the long-time CEO of 
AIG. Mr. Greenberg blames Mr. Sullivan and Mr. Willumstad for 
the downfall of AIG. Many others think it is Mr. Greenberg who 
sowed the seeds that led to AIG's failure. Regrettably Mr. 
Greenberg has told the committee that he is too ill to appear 
today to answer questions.
    There is a lot of ground for this committee to cover today. 
We will probe AIG's executive compensation arrangements, the 
leadership of its top officials and the veracity of their 
public statements. Our goal is to examine the details of AIG's 
fall so that we can learn lessons about the reforms needed to 
restore stability to our financial markets.
    Like all of our witnesses, Mr. Sullivan and Mr. Willumstad 
know we will ask hard questions. I also want them and our other 
witnesses to know that we appreciate their cooperation and 
appearance before the committee today.
    Before yielding to Mr. Shays, who will deliver the 
statement on behalf of the Republicans, I do want to announce 
that the request that we have received to look at Fannie Mae 
and Freddie Mac, which is an investigation already underway, 
will be pursued in conjunction with the minority on the 
committee. And we will look at holding a hearing on those two 
as well as the other hearings that we have scheduled.
    Mr. Shays, I want to recognize you at this time.
    Mr. Shays. Thank you, Mr. Chairman.
    Today we consider the case of the American International 
Group, AIG, a global insurance conglomerate saved from 
insolvency by an $85 billion loan from American taxpayers. As 
part of the deal, we, the American taxpayers, own a controlling 
stake in the company. In these bailouts, the U.S. Treasury is 
now in the business of picking winners and losers as the global 
economy struggles to purge the toxins of speculative greed 
polluting capitalism's bloodstream. We need to understand what 
makes a private company like AIG too big to fail and what drew 
such a large and venerable enterprise to the brink of failure.
    In the search for causes, all roads lead to the housing 
market, dominated by the Federal National Mortgage Association, 
Fannie Mae, and the Federal Home Loan Mortgage Corporation, 
Freddie Mac. Without question, mortgage-backed assets sliced 
and diced and scattered throughout the financial system lie at 
the epicenter of the economic earthquake shaking world markets. 
Ripples from defaults on subprime loans underwritten by Fannie 
and Freddie grew to a tsunami that helped swamp Lehman Brothers 
and others, including AIG. And Fannie and Freddie were able to 
launch more than $1 trillion, $1 trillion of bad paper into the 
private market because regulators and Congress let them do it.
    This committee cannot conduct a credible examination of the 
current crisis without focussing on the market distorting power 
of the Federal mortgage giants and the firewall against reform, 
manned by their enablers here in Congress.
    No one is disputing the committee's focus on executive pay. 
We agree; company compensation is a telling indicator of a 
corporate culture detached from larger market realities and the 
fundamental fiduciary duty to be frugal stewards of other 
people's money. And that ``me first'' self-indulgence was just 
as rampant at Fannie Mae as in its private sector partners and 
competitors.
    From 1998 to 2003, Fannie Mae CEO Franklin Raines alone 
took over $90 million in salary and bonuses. The Raines team 
was even caught manipulating accounting practices to overstate 
profitability so they could grab what their overseer called, 
``ill-gotten bonuses'' in the hundreds of millions of dollars. 
The Fannie Mae board gave recently ousted CEO Daniel Mudd a 
$2.6 million bonus in 2005 on top of his $3.5 million salary 
based on a set of nonfinancial goals, such as promoting 
respect, appropriate and productive relationship with 
regulators.
    In the context of a $6 trillion mortgage securities 
portfolio, those paydays may seem like small change, but it's 
indicative of a prevalent and noxious rot that threatens the 
moral underpinnings of the entire capitalist business model. So 
we need to keep the toxic twins, Fannie and Freddie, at the 
center of this investigation, not on the edge, not out in the 
future but right now.
    Yesterday we sent a formal request to the chairman asking 
for a specific commitment to make the Federal mortgage 
companies a priority in this hearing, not after afterthought. 
We can't wait until Halloween to unmask these two failed 
monsters of mortgage finance.
    As for AIG, I'm interested in learning more about the 
corporate decisionmaking that took a solid insurance business 
into the far less stable world of credit default swaps and 
other exotic derivatives. They thought they were selling 
insurance, when in fact they were betting the company's soul in 
a high stakes game of Russian roulette. We need to ask what AIG 
knew about the risk behind these novel products, when they knew 
the bet soured, and how they informed investors, policyholders, 
regulators and the public that the company was in peril. AIG, 
like Fannie Mae and Freddie Mac, was considered too big to 
fail.
    Going forward we need to grapple with the implications of 
the concept, government will be there to break the fall of some 
large businesses but not others. It's been said, capitalism 
without failure is like religion without sin. Any doctrine 
loses its moral authority when bad conduct is rewarded and the 
consequences of poor choices are foisted on someone else. 
Investigating the causes and effects of this financial debacle 
should involve assigning capability, culpability, and restoring 
integrity and balance to the system of risks, rewards, and 
penalties our society uses to assign value to labor, capital, 
and commerce.
    Thank you, Mr. Chairman.
    Chairman Waxman. Thank you very much, Mr. Shays.
    Chairman Waxman. For our first panel, we'll hear from Lynn 
Turner, who served as Chief Accountant of the Securities and 
Exchange Commission from 1998 to 2001. He has served on the 
boards of public companies as a professor of accounting, as a 
partner in an auditing firm and as the managing director of a 
research firm. He is currently a senior advisor at Kroll, Inc.
    Eric Dinallo currently serves as the superintendent of the 
New York State Insurance Department. From 1999 to 2003, he 
served as the chief of the Securities Bureau at the New York 
State Attorney General's Office. Mr. Dinallo has also served as 
general counsel at a large insurance broker and as managing 
director for regulatory affairs at Morgan Stanley.
    We're pleased to welcome both of you to our hearing this 
morning. It's the practice of this committee that all witnesses 
that testify before us do so under oath. So I would like to ask 
if you would stand and raise your right hands.
    [Witnesses sworn.]
    Chairman Waxman. The record will indicate that both of the 
witnesses answered in the affirmative.
    You have given us prepared statements, some quite lengthy. 
And I want you to know that all of those statements, both of 
those prepared statements will be in the record in its 
entirety. What we would like to ask you to do is try to be 
mindful of 5 minutes that we allocate to the oral presentation. 
We won't cut you off if you exceed 5 minutes, but we will have 
a clock in front of you that will be green for 4 minutes. For 
the last minute, it will turn yellow. After 5 minutes, it will 
turn red. And then we would like you to then wind down your 
presentation.
    Mr. Dinallo, why don't we start with you.

 STATEMENTS OF ERIC R. DINALLO, SUPERINTENDENT, NEW YORK STATE 
    INSURANCE DEPARTMENT; AND LYNN E. TURNER, FORMER CHIEF 
         ACCOUNTANT, SECURITIES AND EXCHANGE COMMISSION

                  STATEMENT OF ERIC R. DINALLO

    Mr. Dinallo. Thank you, Chairman. Thank you, Chairman.
    It's an honor to be here. I'm here to try to explain, from 
our perspective, a little bit about what happened at AIG and 
what the New York State Insurance Department's role in that 
was.
    The Insurance Department regulates certain insurance 
companies. I think that's a very important distinction to make 
at the beginning. AIG was not strictly an insurance company, as 
was said earlier. It was probably the largest financial 
services company in the world. And in fact, I think its 
economic activity on the financial services side exceeded its 
economic activity on the insurance side.
    I agree that a large number of the problems there were due 
to credit default swaps and collateralized debt obligations 
stemming from subprime and the mortgage industry. But that 
activity was largely, if not exclusively, done out of Financial 
Products Division, which was sort of a subsidiary of the 
holding company.
    The most immediate problem that got our attention was the 
pending downgrade of the company. So one of the rating agencies 
had threatened on I think it was September, I don't know, 9th 
or so to downgrade the company. That's when I received a call 
from the general counsel and the former CFO asking if we would 
be able to help provide certain liquidity through the insurance 
subsidiaries, which were very solvent and well capitalized. For 
the time before that, we had been monitoring the situation but 
it was a monitoring of the situation based on the declining 
stock price of the company and our wanting to confirm that the 
insurance subsidiaries were solvent and policyholders were 
protected.
    So it was in those conditions that we showed up at the 
company on Friday, Saturday and Sunday, the long weekend, which 
went into Monday and Tuesday at the Federal Reserve where 
different private solutions were looked at. The history is well 
written now in the press. But I can answer questions about 
that.
    But the solvency problem was fine. The liquidity problem 
kept on growing over the weekend. And the hole looked larger 
and larger. And whatever we could have done through New York 
State, which the Governor of New York, David Paterson, had 
authorized us to try to help do, became not enough, and we 
ended up with a larger and larger liquidity holder problem.
    We were there to validate the concerns of the company, 
which were true. We were also there I think to validate for the 
Federal Reserve that there was real solvency and capital in the 
insurance companies which was what the bedrock of the 
transaction was. In other words, the $85 billion could not have 
been loaned if there was not any hope of getting the money 
back, and to a large extent whatever returns there are going to 
be is because of the robustness of the insurance company.
    To a large extent, I agree. I think that AIG got well away 
from its core competency of insurance. It went into very 
complex instruments called credit default swaps, which I can 
explain some of the basics as I've been asked. But overall, the 
State regulation of it, I think, worked quite well. It is a 
lesson for us to talk about, I hope, about what is the right 
way to regulate holding company undertakings.
    There were 71 U.S. insurance companies. As I said, without 
them, there would not have been a bailout. But to an almost 
exclusive extent, the problem was caused by activities 
conducted out of Financial Products. Those activities were 
largely through the writing of credit default swaps. They are a 
legitimate need for hedging of risk, which was the beginning of 
credit default swaps probably in the 1980's. It's where you own 
a bond, let's just say, you own Ford bonds. And you want to 
hedge your risk that Ford is going to default on those bonds, 
so you go to a third party and you ask them to essentially 
insure you against that default. That's the swap. That's the 
part of the swap. You're swapping the risk of the default with 
a third a party. That is called hedging also. And it is often 
also called insurance in the sense you are buying insurance 
against the default of the bond.
    But I think that the committee should know that is now only 
about 10 percent or so of credit default swaps that are 
outstanding in the world. There are probably over $60 trillion 
of credit default swaps. An overwhelmingly high percentage are 
what I termed a couple months ago naked credit default swaps. 
What that means is you enter into a contract with a party. 
Neither of you own any exposure to Ford. You're just taking a 
bet. You're taking a gamble on whether Ford is going to default 
or enter into bankruptcy or not. It's a form of shorting. It's 
the way we short the credit-worthiness of our industries. It is 
far larger than the equity shorting--and you've heard about 
naked shorting in the equities market and how Chairman Cox 
asked to have that prohibited and did.
    It's interesting that on the bond side, on the credit-
worthiness side, we've permitted this to run completely 
unchecked to the point that it is larger than the entire 
economic output of the world annually. That's where we are on 
credit default swaps.
    And the Governor has said that he's willing to regulate the 
piece that we can, which is the insurance piece, that original 
10 percent we can easily call an insurance product. We can 
regulate that because it is an insurance transaction as I 
described. You own the bonds. You have exposure. You're not 
going to the track and placing a bet, and that's when you get 
your exposure. And we can do that. And the Governor has 
announced that as of January 1st, if there is not a more 
holistic solution through a central counter-party clearing or 
an exchange or some kind of clearing house that the Governor 
and the insurance department is willing to do that to help sort 
of clarify what Chairman Cox called the regulatory black hole 
of credit default swaps.
    I will note, just because I'm in front of Congress and 
maybe this is helpful, that it required the Commodity Futures 
Modernization Act of 2000 which I believe was a statute passed 
by Congress to exempt credit default swaps, the naked kind that 
I described, from being subject to the gaming laws of the 
various States and to what are called the bucket shop laws. 
That is a very--it's kind of funny, but it is kind of funny. I 
could read to you that there's a law that's directly on point 
that prohibits that kind of activity, entering into this 
agreement without any exposure to the reference. And it 
required the CFMA to say that's not gambling. And likewise, as 
Chairman Cox pointed out, it also was required that it be not a 
security, otherwise it would have been regulated by the SEC.
    So the CFMA both in one fell swoop said CDSs are not a 
security, and they're also not subject to the gaming laws of 
the land. And I think when you talk about moral hazard and the 
way they got it right in the 1920's, which is the law I'm 
referencing, 1907, they probably understood some things then 
that we sort of forgot along the way. And now we're $63 
trillion to the worse. Later on, I can read you if you'd like, 
but it's pretty well established, and I think it's something 
that we should at least examine along with whether Glass-
Steagall was such a mistake or not and other ways that we sort 
of protect our depository institutions, like insurance 
companies and commercial banks, from attendant activities at 
the holding company level.
    Thank you very much.
    [The prepared statement of Mr. Dinallo follows:]

    [GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


    Chairman Waxman. Thank you, Mr. Dinallo.
    Mr. Turner.

                  STATEMENT OF LYNN E. TURNER

    Mr. Turner. Thank you, Chairman Waxman, committee members.
    I think this is a very important hearing in light of the 
fact that we're watching millions of Americans lose their jobs. 
They've lost their homes. Now, as we watch the stock market 
come down, they're also losing their savings. Much of this is 
destruction and devastation I think that could have, and quite 
frankly should have, been avoided.
    Chairman Waxman. Could you pull the mic a little closer to 
you? There is a button on the base.
    Mr. Turner. It is on. Is that better?
    Put it in the words of philosopher George Santana, those 
who cannot remember the past are condemned to repeat it. And 
certainly we fall in that category today.
    AIG serves as a reminder, an unfortunate but excellent 
example of what is wrong with our financial system today. While 
there are many capital participants that have operated within 
sound business, ethical, and legal boundaries, there have been 
far too many that have not. We began the decade with the mess 
around names such as Enron and WorldCom, followed by the Wall 
Street analyst scandal, then on to mutual fund late trading and 
market timing, then the stock option backdating at such 
companies as United Health, and now we find ourselves in the 
midst of the biggest and by far and away the most destructive 
of all, the subprime fiasco.
    This is a crisis that could have and, in my opinion, should 
have been averted before it cost the American taxpayers what 
appears to be in excess of a trillion dollars before we're all 
said and done with it. And certainly there's plenty of blame to 
go around. All of us I think probably share in that to some 
degree. But I hope the focus of Congress and this committee 
would be, on a bipartisan basis, holding hearings that, much 
like an investigation occurs when a plane crash goes down, 
determines what went wrong and then promptly turns around and 
fixes it so we don't repeat history.
    From my perspective, some of the causes of this economic 
crisis include executives and mortgage brokers engaging in 
unsound if not illegal business practices, compensation and 
incentives resulting in some business executives being paid 
both coming and going as they walk away from the equivalent of 
quite frankly a train wreck with huge severance packages that 
their corporate boards actually agreed to; accounting standard 
setters who failed to provide the markets with the necessary 
transparency; woefully inadequate due diligence by investment 
banks underwriting the securities; cheap debt set up by our 
monetary policy people that created low interest rates and led 
to tremendous leverage in debt in this country; as Eric 
mentioned, a $62 trillion unregulated credit derivative market 
which had absolutely no transparency whatsoever; the SEC being 
handcuffed by a lack of resources, lack of regulatory authority 
and changes in policy that no doubt have hampered enforcement; 
the lack of a regulator that could regulate at the holding 
company level for national and global insurance companies; and 
the failure of the Federal Reserve and banking regulators whose 
exams failed to identify and rectify unsound lending practices 
at institutions such as IndyMac, WaMu, Countrywide, and 
Citigroup, and often these practices led to what is our 
fundamental problem, loans got made that people could not 
repay.
    In addition, policymakers and regulators have allowed 
financial institutions to merge and grow into colossal entities 
that have shown they can have a devastating impact on our 
economy when they get into trouble. Some are arguing that, as 
we've heard, they're now too large to fail. And with their 
failure now, though, resulting in taxpayers paying hundreds of 
billions to rescue them, it's time to examine good public 
policy to ensure that regulation of these entities provide much 
greater transparency, freedom from some of the conflicts we've 
seen, accountability for their actions and oversight.
    Investor confidence is paramount to the success of any 
capital market. And transparency is what creates that 
confidence. Indeed, it is the lifeblood of any capital market 
system. When people believe they can no longer trust those for 
whom they invest their money, they withdraw it quickly and find 
safer havens for it, as we're seeing today. And when they 
demand their money back from a financial institution for fear 
of losing it, it can cause a serious liquidity crisis and 
failure, as we've seen at Bear Stearns, Lehman, and others. And 
as the money dries up and demand for the investment of the 
stock in these institutions falls, so does their stock price, 
making capital difficult if not impossible to raise. It's a 
vicious cycle. But it is one that has occurred many times in 
the past.
    More specifically, with respect to AIG, there has been, in 
my opinion, poor management and governance that has led to a 
poor tone at the top and lack of risk management controls. I 
heard the chairman talk about Mr. St. Denis and his concerns. 
Mr. St. Denis worked for me at the SEC. He worked for me when I 
was a partner in the accounting firm. And his credibility is 
beyond reproach, and I'd seriously consider the comments that 
he has provided you.
    The company has engaged in questionable business practices, 
including assisting others engage in illegal activities. This 
along with a constant slew of errors being reported in its 
financial statements have led to various investigations by 
legal authorities and sanctions. It's not a company that has a 
good track record. And in addition, opaque disclosure has been 
less than forthcoming. In the summer of 2007 an AIG executive 
said that the company would not incur a dollar of loss, would 
not incur a dollar of loss on its derivatives. Yet by December 
of last year, counterparties to the credit insurance required 
posting a collateral of over $5 billion, a number that had 
grown to $14 billion as of June 2008. And in a stunning 
revelation, the company disclosed on October 3rd that it 
borrowed $61 billion of the $85 billion made available to it by 
the Federal Reserve. The rapid changing disclosures on this, 
from zero to $61 billion in less than 12 months, is phenomenal, 
and investors certainly have to raise the question of, did we 
get the straight scoop back a year ago?
    At the same time, AIG, in a move that appears to deflect 
criticism, blamed its problems on accounting rules which 
required it to disclose losses to its investors. This is like 
blaming the thermometer folks for a fever. As we saw with the 
savings and loan crisis and as the GAO, Congress's own watchdog 
has reported at the time, the ability of financial institutions 
to reporting--to avoid reporting to clients in the value of 
assets contributes to unsound business practices and large 
losses for the government who has to step in with a bailout. 
Again, we should not forget the past and repeat these costly 
mistakes. Thank you, Mr. Chairman.
    [The prepared statement of Mr. Turner follows:]

    [GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

    Chairman Waxman. Thank you very much, Mr. Turner. We'll now 
recognize Members for 5 minutes each to ask the two of you 
questions.
    And I want to recognize Mrs. Maloney first.
    Mrs. Maloney. Thank you, Mr. Chairman.
    And I'd like to welcome our panelists and thank them for 
their public service, particularly Mr. Dinallo from New York 
State. Thank you and the Governor for your creative response to 
the AIG crisis.
    Last night and this morning I have been criticized for some 
pundits of my line of questioning on deregulation. Some of them 
called it partisan. I just want to begin by saying that our 
financial crisis is not a partisan issue. I truly do believe 
that every Republican, Democrat, Independent, conservative, 
liberal are dedicated to working toward a solution, and I 
believe the Members of Congress want to find a solution.
    I am going to ask questions on deregulation and the 
relationship to the problems we confront. But I want to preface 
it by saying I am not being partisan. I am not criticizing 
anyone or any act or any particular thing. I am just trying to 
understand more about it.
    And so with that being said, I'd like to ask Mr. Dinallo a 
few questions about the lack of regulation around credit 
default swaps of which seem to be at the center of AIG's 
downfall. Credit default swaps are basically insurance 
contracts to protect against defaults on bonds and loans. It's 
an enormous market.
    Since 2000, it has exploded from $900 billion to $58 
trillion. That's roughly twice the size of the entire U.S. 
stock market. It is also bigger, I understand, than the annual 
output of the entire world economy for 1 year. And yet, 
incredibly, the market for credit default swaps is entirely 
unregulated. Although they operate like insurance contracts, 
parties selling these guarantees are not required to have 
capital reserves to protect the other party. And I would first 
like to ask, because they are so huge, $58 trillion, if there 
is no value behind them, as some economists allege, could they 
bring down our entire economy?
    Mr. Dinallo. Well, I guess we're going to find out. I hope 
not. But I will say that the distinction between credit default 
swaps and insurance policies is when you write an insurance 
policy, you're required to have a certain amount of solvency 
and capital behind that commitment. For a large, large, large 
percentage of credit default swaps, you're required to have 
absolutely no collateral or capital behind them. I--I do agree 
that it is interesting to note that, as Lynn said, it is not, 
you know, insider trading or late trading or the analyst cases 
or lax regulation or firm regulation or hard enforcement or 
soft enforcement that brought down the global economy.
    I think it's politically neutral to observe; it's what we 
chose not to regulate. And I don't think that's actually very 
partisan at all. I think we as a country in 2000 made certain 
choices, along Gramm-Leach-Bliley and the CFMA, to permit this 
kind of activity as being a way to, ironically, to hedge risk. 
This is the ironic part. CDSs were to meant to hedge risk. But 
they multiplied risk incredibly in part because now only about 
10 percent of what you describe is actually an insurance policy 
kind of transaction. The rest is really just a bet about the 
future of a company's credit-worthiness.
    Mrs. Maloney. So are those products just gambling, as you 
mentioned?
    Mr. Dinallo. Well, the Governor called them gambling.
    Mrs. Maloney. We had the bucket shop laws, and we banned it 
in New York State. And then the commodities law usurped our 
position, and you think that should change?
    Mr. Dinallo. We did ban it. In 1909, after the crash of 
1907, we banned this kind of activity that used to be done in 
bucket shops where they would just take bets on the market, 
bucket the trades. And yes, that is what we did. And it 
required this--and no lawyer, no good lawyer could convince a 
client that a naked credit default swap was not also possibly 
prosecutable as gaming, so the CFMA, appropriately, because we 
do need some kind of futures market--there is a role here--but 
it completely exempted them. And the results are, in part, what 
you see today, which is not necessarily all about credit 
default swaps, as Lynn said, but also just the opacity.
    One of the important points, I think, is when we were 
working through the bond insurers and back at MBIA and all the 
work we did on those, as you know, and at AIG, no one, 
including ISDA, could tell you how much credit default swaps 
were written on those entities as reference points. So if AIG 
had failed, no one knew how much CDS was written on AIG.
    Mrs. Maloney. My time has expired.
    Chairman Waxman. Yes. Thank you.
    Thank you, Mrs. Maloney.
    Mr. Mica.
    Mr. Mica. Thank you.
    First of all, let me say that I'm pleased that we may be 
looking at Fannie Mae and some of its responsibility in 
fomenting the financial crisis and the mess that we see right 
now.
    I'm disappointed, though, that we didn't start with some of 
the culprits, and we should actually have reviewed some of what 
took place with the Federal backed agency that helped, again, 
get us started down this wrong path. Yesterday and today we're 
sort of splashing around in the wading pool, and we really need 
to be looking at the cesspool. We're talking today about AIG, a 
private firm, now with government backing, but it was a private 
firm; and yesterday about Lehman Brothers, a private investment 
firm and their compensation, their running away with millions 
of dollars of investor dollars. And we're ignoring the core 
perpetrator of all this, Fannie Mae, whose executives ran away 
with tens of millions of dollars in public-backed bonuses, 
public-backed activities.
    Is it correct that AIG and Lehman are private investor 
firms as opposed to Fannie Mae?
    Mr. Dinallo. Yes.
    Mr. Mica. Just for the record, they both nodded their heads 
affirmatively.
    Mr. Turner, I read your written testimony. I agreed with 
most of it. You didn't mention Fannie Mae or Freddie Mac. Were 
their practices in any way contributory to the financial mess 
we're in?
    Mr. Turner. I have actually done work on behalf of OFHEO at 
both Fannie and Freddie.
    Mr. Mica. Ok, then I don't want to hear your opinion----
    Mr. Turner. But let me just say that I see great 
similarities between both of those institutions and AIG. And I 
applaud you, very highly, for taking a look at those two 
because I don't see a whole lot of distinction.
    Mr. Mica. Well, I want to do more than applaud because if 
this committee isn't going to investigate, I intend to ask the 
now--the special counsel statute has expired, but it's my 
understanding that the Attorney General can help us drain the 
swamp and go after those who created the cesspool. And I'm 
going to ask my fellow Republicans and Democrats to consider 
asking the Attorney General to go after those folks who robbed 
the American taxpayer and start with Fannie Mae, which is a 
federally backed institution, which you both nodded to, which 
started, in my opinion, this whole mess. There were 
contributing factors. Glass-Steagall, didn't that contribute? 
Just answer yes if you agree.
    Mr. Turner, did you think Glass-Steagall, the repeal----
    Mr. Turner. I think the repeal of Glass-Steagall was a 
contributing factor here.
    Mr. Mica. OK, Mr. Commissioner?
    Mr. Dinallo. I agree.
    Mr. Mica. One of the interesting things, too, New York 
did--in most cases, the States were pretty good regulators of 
insurance, is that correct?
    Mr. Dinallo. Thank you. Yes. I think the record would 
support that.
    Mr. Mica. And default swap is really out of your purview. 
But even regulation of what Fannie Mae and what they were doing 
and some of the activities that took place at government-
sponsored financial enterprises: 2002, Mr. Shays and I 
introduced a law that would have brought this activity under 
the SEC. That would have helped regulate it. 2004, it was 
introduced and passed, actually, I think in 2005 by the House 
and blocked in the Senate, is that right?
    Mr. Turner. It was actually--Congressman Frank, much to his 
credit, did introduce legislation that got passed in the House 
over here, and I applaud----
    Mr. Mica. But it was blocked in the Senate.
    Mr. Turner. But it was not passed in the Senate, and that 
was greatly unfortunate.
    Mr. Mica. Yes, I voted against it--Glass-Steagall, Mr. 
Waxman and I voted against--not to repeal that. We voted 
opposite for the regulation in 2005.
    But the responsibility lies with Congress, not with a State 
of New York Department of Insurance or some other State to 
regulate and go after some of these speculative investment 
activities at that level. Is that not right?
    Mr. Dinallo. The responsibility of the State regulators, 
which I think they executed on extremely well here----
    Mr. Mica. Yes, but you couldn't control the situation, is 
that correct?
    Mr. Dinallo. To protect policyholders and protect the 
solvency of the insurance company.
    Mr. Mica. It's the responsibility of the Congress of the 
United States, and also it's the responsibility of the Congress 
to start first with its--and clean up its own dirty cesspool, 
which is Fannie Mae. And we still don't have a commitment or a 
date to do that. And I know exactly why.
    Chairman Waxman. The gentleman's time has expired.
    Mr. Cummings.
    Mr. Cummings. Thank you very much, Mr. Chairman.
    And to the witnesses, I want to thank you all for being 
here.
    And my constituents are concerned about where the $700 
billion is going. They want to know, because they get up every 
morning. They work hard. They give up their tax dollars, and 
they're trying to figure out where did the money go? Where is 
it going?
    Mr. Turner and Mr. Dinallo, after the bailout of AIG last 
month, the U.S. Government effectively bought an 80 percent 
share in the company. That should have caused a fundamental 
change, you would think, in how the company was spending funds 
on compensation, bonuses and benefits. But it doesn't look like 
that's what happened. The committee learned that shortly after 
the bailout went through, executives from AIG's major U.S. life 
insurance subsidiary, AIG American General, held a week-long 
conference at an exclusive resort in California.
    The resort is called the St. Regis Monarch Beach. Let me 
put up some pictures of the hotel up on the screen. It's very 
impressive. This is an exclusive resort. The rooms start, 
gentlemen, at $425 a night. Some are more than $1,200 a night. 
By the way, that's more than some of my constituents pay on a 
mortgage payment every month on the homes that they're now 
losing, by the way.
    We contacted the resort where AIG held this week-long 
event. And we requested copies of AIG's bills. We learned that 
AIG spent nearly half a million dollars in a single week at 
this hotel. Now this is right after the bailout.
    Mr. Turner, have you heard of anything more outrageous, a 
week after taxpayers commit $85 billion to rescue AIG, the 
company's leading insurance executives spend hundreds of 
thousands of dollars at one of the most exclusive resorts in 
the Nation? Mr. Turner.
    Mr. Turner. I've been a business executive myself, and I 
tell you what, when our company--you know, when things got 
tough, you cut back on expenses. You just go out and eliminate 
those type of things. I'm sure they had the issue, they were 
probably already committed to it and were going to have to 
spend it one way or another. But nonetheless, I remember, we--
as business executive VP and CFO of a company, we would 
actually go out and cancel those conferences because we just 
didn't want to send a message to the employees that we are 
spending on this type of thing and we need to cut back 
expenses.
    Mr. Cummings. And if a company is drowning, then you're 
going to go and spend that kind of money? It's crazy. And I 
agree with you.
    Let me describe for some of you the charges that the 
shareholders who are now U.S. taxpayers had to pay. Check this 
out. AIG spent $200,000 for hotel rooms. And almost $150,000 
for catered banquets. AIG spent--listen to this one--$23,000 at 
the hotel spa and another $1,400 at the salon. They were 
getting their manicures, their facials, their pedicures and 
their massages while the American people were footing the bill. 
And they spent another $10,000 for, I don't know what this is, 
leisure dining.
    Ms. Speier. That's bars.
    Mr. Cummings. Oh, thank you very much.
    Mr. Dinallo, let me ask you, not as the insurance 
commissioner but as a taxpayer, does this look right to you?
    Mr. Dinallo. I think there are some regrettable headlines 
in that. But I will say one thing, having been at large global 
companies and knowing what condition AIG was in when the 
injection occurred, the absolute worst thing that could have 
happened to AIG after the Government extended $85 billion would 
have been for them to basically go into a run-off situation, 
for employees to leave, for traders and major underwriters to 
flee the company. So if there was a thinking that they needed 
to bring everybody together in order to keep the productivity 
of the insurance companies in tact and protect policyholders by 
keeping them from going into a run-off status, I do agree there 
is some profligate spending there, but the concept of bringing 
all the major employees together to mix--let me just--to ensure 
that the $85 billion could be as greatly as possible paid back 
would have been not a crazy corporate decision.
    Mr. Cummings. Well, I would tend to disagree with you. When 
it comes to pedicures facials manicures, the American people 
are paying for that.
    Mr. Dinallo. I agree.
    Mr. Cummings. And they're very upset.
    Mr. Dinallo. I said there are regrettable and wrong 
headlines in that. But the idea of making sure that you can get 
the game plan back on track so you can pay off the loan is not 
an irrational one.
    Mr. Cummings. That is an expensive way to get the game plan 
back on track.
    Mr. Dinallo. I agree.
    Chairman Waxman. The gentleman's time has expired.
    Mr. Bilbray.
    Mr. Bilbray. Thank you, Mr. Chairman.
    And, Mr. Chairman, let me say personally, thank you very 
much for agreeing to do a hearing on Freddie and Fannie. I 
appreciate you doing that. I hope we can get that date.
    Mr. Turner, I appreciate your frankness of saying, even 
though I'm not talking about it, we need to go back and look, 
concentrate on Freddie and Fannie.
    I appreciate, Mr. Chairman, your ability to respond to that 
reality.
    And in fact, Mr. Chairman I would almost say that we may be 
sitting in a situation that now that Freddie and Fannie has 
become public agencies, that we may want to talk to the 
Attorney General about the possibility of a special prosecutor 
to go in and take a look at that as one of the public agencies. 
And I think that's important to show the American people we 
really are serious at getting to correcting some of these 
problems and really doing it based on an in-depth study of the 
problem.
    Let me sort of backtrack. This issue of the credit swaps, 
it seems like there are two--there's a balancing line here, 
where it is an insurance hedge and then they move into a 
gambling. Now, the preemption that the feds put in to say it is 
not gambling totally, wouldn't you agree that maybe we ought to 
go back and revisit that and try to develop a bright line 
between what is gambling and the States can intervene on as 
opposed to what is insurance and States can't intervene?
    Mr. Dinallo. Yes. What I would have done is I would have 
said that each one of those activities had to get some kind of 
an exemption activity by activity. So there is a good argument 
that sort of, in crop insurance, you need futures to protect 
yourself against crop failure, etc. There are lots of hedging 
activities that are kind of on the border. You don't maybe 
absolutely own the security or the bond, but you do have 
exposure. But we basically through the law--I could read to 
you--we completely exempted all of it. And I think it needs to 
be seriously revisited.
    Mr. Bilbray. Mr. Chairman, this is the type of line that I 
wish, instead of just us meeting, and maybe we ought to ask the 
Speaker to reconvene the Financial Services Committee, to meet 
now, not out a month from now, to talk about the specific 
proposals that the House could come back into session and 
address.
    Gentlemen, if you were in Congress, you were a Member of 
Congress and maybe in the Financial Services Committee, what 
changes and what proposals would you propose to the Speaker of 
the House of Representatives, to the President and the leader 
of the Senate at this time and place?
    Mr. Dinallo. I would first revisit the CFMA on its credit 
default swap decisions that it's a completely unregulated and 
open field and that it's neither a security nor subject to the 
gaming laws and get back to the hedging instrument, which is I 
think core for our society and appropriate. I would take a 
serious look at Gramm-Leach-Bliley and decide whether the 
supermarket of financial services is worth it when sometimes 
things really smell on aisle six and infect the rest of what we 
view as kind of sacred stuff, which is depository money; 
whether it's insurance policy proceeds or banking, commercial 
banking deposits, there needs to be a greater clarity about how 
the holding company activities, which here did not bring down 
the insurance companies but did ding them from a franchise 
value greatly, can harm those two depository type institution 
activities, and whether it's always good to just let them 
willy-nilly be together under a holding company type umbrella.
    Mr. Turner. Congressman Bilbray, you actually raised a very 
good question. My first comment would be that certainly, I 
think, the American public were concerned about how quick we 
ran into the $700 billion bailout, but I do applaud you for 
doing the bailout. I think without a doubt it needed to be 
done. It could have been done in perhaps a different fashion.
    But I think the public is looking for Congress to do what 
this committee--and I agree with you, what the Financial 
Services and the Senate Banking Committee should be doing, and 
that is immediately holding a series of hearings, just like the 
Pecora hearings were held in the 30's. We need a set of 
hearings that first identify some of the issues where each of 
the problems should be. It should be all inclusive. It should 
be the whole swamp. As people mentioned, let's drain it all 
out, and then turn around and, once we know where each of the 
issues are, bring in very knowledgeable people, like a Chairman 
Volker and like a Chairman Leavitt and the type, to turn around 
and get the best of their thinking.
    And then with that, then let's go take a real good shot at 
putting in the things that need to be fixed. And there's a gob 
of things. There's questions about who should be doing the 
examination of these. There's questions about failures at the 
Fed and failures at the SEC. Do we need to restructure those 
examination functions, which I think we probably do? Do we have 
adequate resources? Do we need to repeal the Gramm-Leach-Bliley 
in light of what's happened with the growth of these 
institutions and they're too big to fail?
    Certainly there's things that need to be done in terms of 
transparency because both in the credit derivatives market as 
well as some of the other subprime stuff, there's been a 
tremendous, tremendous lack of transparency, which has directly 
contributed to the lack of confidence. And I serve on two--the 
boards of two investment funds. And right now, people can't 
tell which companies they can trust and which ones they can't 
because of that lack of transparency. Until we get that problem 
solved, we are going to continue to see days like we saw 
yesterday in the stock market.
    Mr. Bilbray. Mr. Chairman, thank you.
    I just got back from my district. And the outrage is not 
that we threw money at the problem but that we threw money at 
the problem and look like we've walked away for a month. And if 
it such a crisis to throw that much money out there, my 
constituents are saying there should be a crisis that you get 
in and not walk away from answers or demanding answers to solve 
the problem.
    Thank you very much for the opportunity to question the 
panel.
    Chairman Waxman. Thank you very much Mr. Bilbray.
    Of course, that's the purpose of this hearing.
    Mr. Kucinich.
    Mr. Kucinich. Thank you very much, Mr. Chairman.
    To Mr. Dinallo, Treasury Secretary Paulson is the former 
CEO of Goldman Sachs. Mr. Paulson, of course, was involved in 
helping to save AIG. And Goldman Sachs is AIG's largest trading 
partner. News reports say that Goldman Sachs had at least $20 
billion at stake in AIG.
    Now you, sir, were involved in negotiations to rescue AIG. 
Was the CEO of Goldman Sachs Lloyd Blankfein and other Goldman 
Sachs executives present at meetings to save AIG?
    Mr. Dinallo. Yes.
    Mr. Kucinich. Could you speak into the mic.
    Mr. Dinallo. Yes. Yes.
    Mr. Kucinich. Was Secretary Paulson at any of those 
meetings?
    Mr. Dinallo. None that I was present at.
    Mr. Kucinich. Do you have any knowledge that Secretary 
Paulson was present at any meetings relating to saving AIG?
    Mr. Dinallo. I'm not trying to avoid the answer. I just had 
no personal knowledge of that.
    Mr. Kucinich. Do you have knowledge that he was the former 
CEO of Goldman Sachs?
    Mr. Dinallo. Oh, absolutely. Oh, I can talk to you--I am 
happy to talk to you about this. You're asking me yes-or-no 
questions, and I'm finding it hard to----
    Mr. Kucinich. Before the bailout, did Secretary Paulson or 
other Federal officials raise concerns about the impact that 
the AIG collapse would have on Goldman Sachs?
    Mr. Dinallo. Yes, but not only Goldman Sachs. In fact, if I 
may, I'll just tell you that I--I admire Tim Geithner, the 
president of the Federal Reserve. He has taught me various 
techniques in working through some of these problems. One of 
them is he believes----
    Mr. Kucinich. I'm not really asking you about Mr. Geithner, 
so I want to know----
    Mr. Dinallo. Well, I just want to finish--please, sir.
    Mr. Kucinich. But you are on my time and I want you to 
answer my questions. Now my question is, the head of global 
commerce----
    Mr. Dinallo. Yes.
    Mr. Kucinich. For Lehman sent an e-mail on July 13, 2008, 
to Lehman's CEO which said, ``it is very clear GS,'' speaking 
of Goldman Sachs, ``is driving the bus with the hedge fund 
cabal and greatly influencing downside momentum,'' meaning that 
Goldman Sachs was working to intentionally drive down the price 
of Lehman's stock. This was in mid July; 2 months later, Lehman 
went down with tremendous impact on the market and impact all 
over the world. But AIG was saved.
    Now, what I'm trying to find out, you know, if Lehman's 
death was natural causes or murder. Now we're told that 
Secretary Paulson, as a former CEO of Goldman Sachs, has 
brought in another former Goldman Sachs employee to manage the 
$700 billion bailout fund.
    Now, Mr. Dinallo, you are the superintendent of New York 
insurance.
    Mr. Dinallo. Yes.
    Mr. Kucinich. You are a regulator. As a regulator, do you 
have any concerns that Mr. Paulson, as the former head of 
Goldman Sachs, was and continues to be in a position of 
conflict of interest with respect to being able to make 
decisions that would enhance the position of Goldman Sachs or 
be able to make decisions that would adversely affect those who 
might be in competition with Goldman Sachs? As a regulator, do 
you have any of those concerns?
    Mr. Dinallo. From what I witnessed in the 4 days and 5 days 
that I was exposed to what I was exposed to based on my 
personal knowledge, I don't have concerns. I can't personally 
attest to Secretary Paulson's management of whatever conflicts 
of interest.
    Mr. Kucinich. So your answer is you don't know?
    Mr. Dinallo. My answer is I don't feel I have the basis to 
answer the question asked. I could give you reasons that I 
think AIG was treated differently than Lehman. I could do 
that----
    Mr. Kucinich. Thank you, Mr. Chairman.
    Chairman Waxman. The gentleman yields back his time.
    The Chair now recognizes Mr. Souder.
    Mr. Souder. Thank you, Mr. Chairman.
    This unbridled greed, this callous abuse of trust of 
hardworking Americans' savings is just so disgusting it's hard 
to put into words. And the anger level in America is coming, as 
it often has, directly at Wall Street but at everybody. They're 
worried they're going to lose everything they've worked to save 
because some people were living so high on the hog, so 
disrespectful of what was going on. The issue of that hotel 
wasn't the amount of money. It is the insensitivity of how 
people behaved with our dollars. And it's just massive 
discouragement to all of us that--I wanted to ask a few 
questions about the State insurance fund first in New York.
    Is there sufficient guidelines to wall off the divisions 
from dipping in when they're dealing with these credit futures 
and money market things and so on to the insurance reserves? 
How is that walled off?
    Mr. Dinallo. Yeah. That's what I--I think the system worked 
well because there's a fairly strong regulatory moat around 
each of the insurance operating companies versus the holding 
companies. So I think that there is--there was kind of an 
instinct at AIG that maybe there was more capital for liquidity 
purposes than was really available. And that's how they got it 
arguably into their liquidity crunch. So policyholders are 
extremely well protected from the holding companies reaching 
into the operating companies for capital and liquidity needs--
--
    Mr. Souder [continuing]. Disclosure to stockholders at AIG 
that in fact those assets are walled off and cannot be used, 
and is part of the problem here that they discovered, the 
insurance assets were protected, markets started to adjust and 
caved AIG?
    Mr. Dinallo. That's a very sophisticated statement. And I 
think there is some truth to the--I don't know, because I'm not 
in their minds. But certainly there is--there is a--I think a 
good realization among policyholders across this country that 
their--the operating companies are relatively walled off from 
that kind of activity.
    Mr. Souder. In your State insurance fund, we have--I met 
with one company that's in danger of going under, an insurance 
company, because they had too much Fannie Mae stock. Do you 
have an inventory as a State insurance regulator of how exposed 
your insurance companies are in Fannie Mae? Because right now 
preferred stock's probably worth zero. Common stock certainly 
is.
    Mr. Dinallo. We do constant examinations of the company. We 
have--one of the reasons I think insurance companies have done 
well is there are fairly strict rules and accounting standards 
which Lynn and I could try about what insurance companies can 
buy and hold in their asset liability match. I will just tell 
you right now, the worst exposure an insurance company can have 
right now is some, but the percentages that we've looked at are 
very low, some exposure to what had been AAA rated, CDOs, the 
famous AAA rated mortgage-backed CDOs, but actually the default 
levels of those are still relatively small, so if you hold them 
to term, you may be OK for an asset liability match.
    Mr. Souder. This insurance company I believe had 25 percent 
liability in Fannie Mae. Do you have a guideline in New York on 
Fannie Mae?
    Mr. Dinallo. As I sit here today, I can't answer that. I do 
know that we have a bureau that sort of specializes in 
rehabilitation of distressed insurance companies.
    Mr. Souder. If I was trying to go through the different 
guarantee funds and so on, if insurance companies would start 
to need to be rescued, do you have a fee much like do we for 
FDIC----
    Mr. Dinallo. Yes.
    Mr. Souder. And others like the insurance companies would 
kick in?
    Mr. Dinallo. You are being very helpful. Thank you. Yes, we 
have what's called a guarantee fund.
    Mr. Souder. Do you have right now--because I would assume 
everybody should be going, because one of the debates here is, 
can the States do this as opposed to Federal?
    Mr. Dinallo. Yes.
    Mr. Souder. It sounded like you were looking at but do not 
have a clear analysis of the Fannie Mae exposure but others 
exposures that you have so that you could have an idea of your 
kind of your plan at the State level if the economy continues 
to tank, if more of these risky purchases that didn't seem so 
risky, because even Fannie Mae just this summer was insured by 
the Department of the Treasury, investors were told, hey, this 
is great. And then all of a sudden, it collapses. How are you 
dealing at the State level?
    Mr. Dinallo. We have very frequent reporting through our 
capital markets bureau. We regulate over a thousand companies. 
So I can't, on any one company, I cannot sit here and tell you 
what the numbers are. We do have in place a system where, if 
there was a distress, we would bring the company into what's 
called rehabilitation, which is a form of bankruptcy proceeding 
to protect the policyholders so the capital is there to pay off 
the loans. If there is a shortfall, there are, as you pointed 
out, both life and property guarantee funds behind those.
    What bothers me about the whole AIG episode the most from 
what I do for a living is I think it's--it's a broad 
misunderstanding bordering on the inappropriate that people 
would use it as an argument that there needs to be Federal 
regulation of insurance. I actually have been open to 
discussion of Federal regulation of insurance. I've testified 
several times in front of Chairman Kanjorski's committee, and I 
think I am one of the more open to those ideas. But AIG is 
Exhibit A for how well the States did, not how poorly they did. 
And that has to be said clearly because it's bad for policy 
holders if they think that actually their regulators did not 
execute well on that part of the industry.
    Chairman Waxman. Thank you, Mr. Souder.
    Mr. Tierney.
    Mr. Tierney. Thank you, Mr. Chairman.
    Let me followup on that, Mr. Dinallo. And Mr. Souder makes 
the point. You noted in your written statement that AIG is a 
holding company and owns a variety of insurance and other 
businesses. And Massachusetts' insurance commission was quick 
to share with me the fact that the problems at AIG are really 
those that deal not with its insurance subsidiaries but with 
its operations and holding company, those in the Financial 
Products Division, securities lending division and that area 
there. The State-regulated insurance subsidiaries remain 
solvent and able to that pay their claims, correct?
    Mr. Dinallo. Yes, sir. 
    Mr. Tierney. And in fact, it's that solvency and ability to 
pay their claims that really gives them the basis for the 
Federal loan and the comfort that it will be paid back.
    Mr. Dinallo. Absolutely.
    Mr. Tierney. Now your office regulates insurance 
subsidiaries, not the corporate parent. The only agency with 
authority to regulate the corporate parent is, in fact, the 
Federal Office of Thrift Supervision.
    Mr. Dinallo. Yes. That was a choice by the company back I 
think a few years ago. They could have chosen us.
    Mr. Tierney. Yes, they could have chosen a regulatory 
agency that would have been more difficult to deal with. And 
then they probably would have supervised them better.
    Mr. Dinallo. I didn't say that.
    Mr. Tierney. They chose the Federal Office of Thrift 
Supervision, which is not known for its expertise in this area, 
and we should get that on the table.
    But the committee has obtained a letter that the Office of 
Thrift Supervision sent to the AIG board on March 10, 2008. 
According to the letter, the agency criticized AIG's management 
and AIG's oversight of its subsidiaries, including in 
particular the Financial Products Division. I'd like to read 
from you a part of the letter and get your reactions.
    The letter says, we are concerned that risk metrics and 
financial reporting provided to corporate management by AIGFP 
and other key subsidiaries may lack the independence, 
transparency and granularity needed to provide effective risk 
management oversight.
    It also says, a material weakness exists within corporate 
management's oversight of AIGFP's super senior Credit Default 
Swaps, CDS, valuation process and financial reporting.
    Last, it says that AIGFP was allowed to limit access of key 
risk control groups while material questions relating to the 
valuation of the super senior CDS portfolio were mounting.
    So it wouldn't let in the people that would deal with this, 
and it kept that secret. Now, obviously, it says the oversight 
in key divisions has failed and that AIG apparently didn't have 
a full understanding of the risks taken by the financial 
products division. As an insurance regulator, I imagine you 
spend a lot of time assessing how well companies manage their 
risk, so we ask you, do the problems identified by the Office 
of Thrift Supervision sound serious to you?
    Mr. Dinallo. If I authored such a letter as a regulator, I 
would view those as very serious allegations, yes.
    Mr. Tierney. The letter also says that the AIG's outside 
auditor, PricewaterhouseCoopers, had reported the same 
criticisms to AIG's risk management and the lack of 
transparency issues. Things were so bad that the agency decided 
to downgrade AIG's risk management rating, its earnings rating 
and its composite rating.
    Mr. Dinallo, can you tell us what that means in layman's 
terms?
    Mr. Dinallo. It means that they were--I guess if they--I 
don't know where they downgraded it from and to, but it would 
indicate that they had some kind of enterprise risk management 
matrix and they brought them down at least a notch on how they 
were managing those core risks, which would, again, be 
something for concern.
    Mr. Tierney. Mr. Turner, you indicated at the beginning of 
your testimony, I think we ought to be looking at what went 
wrong here; and I agree. What's your reaction to the agency's 
conclusions about inadequate controls at AIG and what does it 
tell us about the corporate governance there?
    Mr. Turner. Given the fact that AIG had been going through 
numerous restatements, literally since the beginning of the 
decade have said they've had errors in their financials, to get 
a letter like that out of an agency saying you had those type 
of risk management problems I think is extremely serious. I 
would agree with Mr. Dinallo on that. And I would say that 
you've got a serious problem from the top down, tone at the 
top. People just aren't giving it enough attention and aren't 
serious enough about making sure these things are dealt with. 
And in an organization this big that can bring an organization 
down, and obviously there is a contributing factor here. So I 
think it's very, very serious.
    Mr. Tierney. So when our two next witnesses take the stand 
and tell us it's all about mark to marketing and circumstances 
beyond their control, in fact, management very much was a part 
of this problem in your understanding, is that correct?
    Mr. Turner. I would totally agree with that.
    Mr. Tierney. Thank you very much.
    I yield back, Mr. Chairman.
    Chairman Waxman. Thank you very much, Mr. Tierney.
    Mr. Turner.
    Mr. Turner of Ohio. Thank you, Mr. Chairman.
    Thank you both. I greatly appreciate your explanations, 
your descriptions. This is very helpful, not only just for the 
American people but for all of us in Congress as we're taking a 
look at what do we do next and how do we approach what other 
hearings are necessary.
    In looking at your written testimonies, Mr. Dinallo, you 
say that using its noninsurance operations AIG, just like many 
other financial services institutions, invested heavily in 
subprime mortgages.
    And then, Mr. Turner, you say--and I love this paragraph in 
your written testimony. You're talking about mark to market, 
and that comes into play because of the issue of subprime 
mortgages and the securitization of the mortgage-backed 
securities that were having to be mark to market. You say, I 
note the banks are requesting a moratorium on their fair value 
report card, but they are also requesting $700 billion of 
American's money to bail them out for the bad loans they've 
made, and they want both.
    Then you go on to say, it is a red herring, that obviously 
if it was just mark to market they wouldn't need both the shift 
on mark to market and the cash.
    And then you conclude here, ultimately, it's no different 
than someone who spends more than their paychecks each month, 
indicating that the banks spent more on assets bought or 
created than they are subsequently getting paid back.
    And that brings us back to the subprime mortgages. So I 
think it is so important that we have additional hearings on 
Fannie and Freddie and the subprime mortgage area. And I've got 
a question about that for you, and I want to tell you what the 
experience is in my community.
    Yesterday, when we had our hearing on Lehman Brothers, we 
had a panel that spoke beforehand. And they say that this all 
comes from a period of easy credit, housing prices escalating 
and then declining, securitization of mortgages, people using 
their houses as ATMs; and, of course, excessive CEO 
compensation was cited. In my community, subprime mortgage 
lending, predatory lending has had a decimating impact on 
neighborhoods and families. We are at the forefront of the 
foreclosure crisis.
    In 2001, our community held a hearing on predatory lending. 
A city commissioner, Dean Lovelace, pushed for this. There was 
legislation passed to try to deal with it that was ultimately 
knocked down.
    But the community experience is about 5,000 foreclosures a 
year, Ohio about 80,000 a year. Every 3 years, that's the size 
of an entire congressional district that we see being 
foreclosed.
    But the experience we found in those hearings and what is 
happening in Ohio is that, many times, these are loans where 
the loan origination amount exceeded the value of the property. 
It's not mortgage values declining, although they are now, 
which is compounding the problem, but that there was systematic 
efforts to give people loans that were in excess of the value 
of their homes. Many times capitalizing the fees, many times 
giving them terms that either had escalating rates or payments 
that got them into difficulty, and then also economic 
conditions causing them not being able to keep up with 
payments. Then having a house that has a greater mortgage than 
the value would result in abandonment and foreclosure.
    Many of the things that we hear about in this, what we 
should do and what has happened, fall in the category of bad 
business judgments or areas of regulation. But to me loaning 
people a loan greater than the value and then securitizing that 
and not disclosing that there's a gap between the loan value 
and the value of the ongoing asset should be, if it's not, a 
crime; and I believe it is. And I think, ultimately, when we 
start looking at all these things, we're going to find that 
there were real crimes committed here that real people stole 
and that had a big impact on our economy.
    What are your guys' thoughts on the subprime mortgage 
crisis that has brought this about? What are some of the things 
that we should be looking at, or practices like this, that 
might lead us to how we stop these practices? Because in the 
bailout Congress did not stop the practices that got us here.
    Mr. Dinallo. I would amend one of my earlier answers. I was 
asked what are the things that I would have the Financial 
Services Committee look at working with you, and I said CDSs, 
and I said Gramm-Leach-Bliley. The third would be that there is 
only so much good risk in any community. And we have permitted, 
through securitization underwriters, to basically do a set of 
loans to their community and then re-up the tank for doing more 
loans an endless amount of times.
    So the first set of loans that were CDO'd, the first set of 
mortgages performed very well; and that banker probably said, 
you know, there's at least twice as many loans that I would 
have made, because I got great people in my community. I wanted 
them to own homes, so I had to make some tough decisions. And a 
banker on Wall Street securitized it, and the second set did 
really well. And those were made with proper underwriting, due 
diligence decisions.
    After the sixth or seventh or eighth iteration, for however 
we got there, I think that there is a basic, fundamental issue 
with people not owning the underwriting risks of their 
decisions. They have to have exposure to their underwriting 
risks. And if you put into place a system where they no longer 
have to worry about whether they get paid back on their loans 
because they've handed it off to Wall Street who's handed it 
over to investors seven, eight times, we will repeat this 
again.
    Mr. Turner of Ohio. Mr. Turner.
    Mr. Turner. I would agree with Eric on this one, that this 
intermediation that the banking regulators allowed to happen to 
whoever was lending the money no longer had any skin in the 
game and you got paid handsomely for doing those type of deals 
is a major contributing factor here. And I think you got to go 
back and look at the regulation of the mortgage brokers. 
Certainly the appraisal process is going to be part of that.
    But I think people have to go back and say, as a matter of 
public policy, we all love securitization because it gave 
everyone a chance to get into a home; and no one was 
complaining about it when we gave everyone the chance to get 
into a home. But when we loaned up 100 percent on those values, 
and there were a lot of those homes, I think there's something 
like 55 million of these of which 10 or 12 to 13 million are 
now in foreclosure, clearly something wasn't working out about 
them; and someone needs to go back to the banking regulators. 
And they've done some work on this, but people need to make 
sure that they've done enough work to make sure those type of 
loans can't be made.
    And then the bigger question of the role of 
securitizations, which, quite frankly, Fannie and Freddie play 
a big role in here, we have to reexamine that policy and say, 
if there's securitizations, do we have enough safeguards? The 
underwriting that occurred on them was undue diligence by the 
investment bankers, was atrocious; and that played a role as 
well.
    Mr. Turner of Ohio. Thank you.
    Mr. Chairman, I just want to make an additional point that 
most of the loans that went into default in my community were 
actually refinances where the family had the American dream but 
that someone went back and sold them then a product that they 
could not maintain. Thank you, Mr. Chairman.
    Chairman Waxman. Thank you very much, Mr. Turner.
    Mr. Higgins.
    Mr. Higgins. Thank you, Mr. Chairman.
    Gentlemen, I would like to talk to you about internal 
audits of independent AIG auditors advising the CEO of AIG of a 
precarious situation that wasn't reported to investors in a 
conference call. In fact, the internal audits' warnings were 
ignored and an optimistic picture was painted relative to AIG's 
financial situation, which I think goes to the heart of 
credibility and trust. Or, in this case, lack of credibility 
and lack of transparency.
    For example, there was an all-day conference on December 5, 
2007. During this investor conference, Mr. Sullivan painted an 
optimistic picture of the firm's management and fiscal health. 
He said that we are confident in our marks and the 
reasonableness of our valuation methods. We have a high degree 
of certainty in what we have booked to date.
    However, according to internal minutes from the audit 
committee meeting on January 15, 2008, AIG's independent 
auditor, PricewaterhouseCoopers, raised serious concerns before 
this investor meeting took place. At this meeting, auditors 
warned Mr. Sullivan personally back in November in preparation 
for the investor conference. Here is what the minutes said:
    Mr. Ryan, a PricewaterhouseCoopers' auditor, reported, in 
light of AIG's plan to hold an investor conference on December 
5th, PricewaterhouseCoopers had raised their concerns with Mr. 
Sullivan and with Mr. Bensinger, the Chief Fiscal Officer, on 
November 29th informing them that PricewaterhouseCoopers 
believed that AIG could have a material weakness relating to 
risk management in these areas. Mr. Ryan expressed concern that 
the access that the enterprise risk management and the AIG 
senior finance officials have into certain business units, such 
as AIG Financial Products Group, may require strengthening. At 
no point during the December 5, 2007, investor conference did 
Mr. Sullivan mention these warnings from the auditors. He never 
disclosed them.
    Mr. Turner, you used to be a senior official at the 
Securities and Exchange Commission. What do you think about Mr. 
Sullivan's failure to disclose the auditor's warnings to 
investors?
    Mr. Turner. If you go back and look through the filings and 
go back and look through the third quarter filing for the 
period ending September 30th--and, Congressman, you raise an 
excellent question--you don't see any notion of the fact that 
this company probably doesn't have the necessary models to be 
valuing this stuff. So if you look at September 30th filings, 
there's no indication we don't have the ability to value these 
things in the way we do or no indication that you don't have 
controls. You're still saying things are fine.
    You go then to the communication from 
PricewaterhouseCoopers and then to an investors day meeting on 
December 5th where we're saying things are OK; we don't have a 
problem. If you're an executive and you've known by that point 
in time that you've got these disclosures out at September 30th 
saying in essence we don't have this problem--and while this is 
going on keep in mind you also, as I understand it, have 
counter parties to these derivatives starting to argue. And I 
think in fact there's some disclosure by October 31st people 
were questioning their valuations. So it's not only that you 
got a September 30th cue out there, you've now got questions 
from outside parties, not only the auditors but very well--you 
know, Goldman Sachs might have been one of them raising the 
questions.
    Back to the questions that Mr. Kucinich was raising, if 
you've got an outfit that is probably no one better in the 
world at valuing this stuff like Goldman Sachs about these 
values and your auditors are now raising your value, I think 
it's unconscionable you go out to the investors on an investor 
day and pretend like you've got yourself under control and you 
know what all the numbers are and there's no problem. And 
subsequent events turn around and I think pan that out when you 
say you've got $5 billion in collateral at the end of December 
and then up to $14 and now we've borrowed $61, it raises a 
serious question about was anyone on top of this.
    Mr. Higgins. I yield back, Mr. Chairman.
    Chairman Waxman. Thank you, Mr. Higgins.
    Mr. Yarmuth.
    Mr. Yarmuth. Thank you, Mr. Chairman.
    In the chairman's opening statement he said we were going 
to ask questions about the compensation packages of the CEOs at 
AIG, and so I'm going to ask that now.
    You said in your written testimony that one of the problems 
here is that we had CEOs walking away from a train wreck, 
essentially, with huge severance packages. And we've seen or 
heard many times now that in the fourth quarter of 2007 fiscal 
year, 2008 fiscal year, the loss posted by AIG was $5.3 billion 
and shortly thereafter that the compensation committee of AIG 
met and extended the contract of CEO Martin Sullivan, including 
a $15 billion severance package. And I guess my question that 
most every American would have is, is there any way that the 
compensation committee or corporation could justify that type 
of activity as being responsible, in the best interest of the 
stockholders if there was such a dramatic turnaround and loss 
in the corporation and then granting a very generous package in 
light of that?
    Mr. Turner. I'm a believer that if a company has performed 
well the executives should be compensated well for that. So I 
have no problem with people if they've done very well and 
created a lot of value--like I said, I am on the board of two 
of these investment funds. If they created a lot of value for 
our shareholder, I certainly am one that would support them on 
getting tremendous compensation.
    On the other hand, when you don't perform, having been an 
executive, I don't believe you deserve a bonus. If you've had a 
lousy year, you just shouldn't get a bonus. And then to walk 
away and get paid millions for walking away and doing nothing 
further to create value for us as shareholders I think is just 
wrong.
    In this case, the question probably goes back to did the 
board agree to that agreement when they first put Mr. Sullivan 
in place. That was probably not a high mark for this board.
    Twice I flew to New York and met with their then chairman 
of the board Frank Zarb and seriously questioned how they had 
gone through the process. They didn't go through an outside 
search for a new chairman. They just very quickly selected and 
put in place with very little due diligence the next chairman.
    And, quite frankly, then when you put in place a severance 
agreement with the guy and agree to it at that point in time, 
even if things turn out bad later on, you're committed to it 
and you need to honor a contract. But for the board to have put 
something like that in place just shows very, very poor 
governance, very poor.
    Mr. Yarmuth. And it was compounded subsequently because the 
next quarter the loss was almost $8 billion. So that's $13 
billion in two quarters. And at that point they terminated Mr. 
Sullivan but allowed him to retire so that he could receive 
that bonus. If they had terminated him for cause, then he 
wouldn't have received it, as I understand it. Is that 
something that you would consider to be in the interest of the 
stockholders or in his interest?
    Mr. Turner. Again, whenever you're paying someone for 
walking away from the company where they're not creating any 
further value and haven't been creating value, that's certainly 
not in the best interest of shareholders.
    Mr. Yarmuth. Thank you for that.
    I have a question going back to these credit default swaps 
that I would like to get some clarification on. We threw out 
the number or you threw out the number $62 trillion that's out 
there. Is that $62 trillion a potential loss, is it absolute 
obligation, is somebody going to have to pay $62 trillion at 
some point to somebody or is that just a potential loss and to 
whom is that owed? I mean, in general, to whom is it owed?
    Mr. Turner. The $62 trillion, which, by the way, I believe 
has come down to the mid 50's at this point in time. It's only 
$55 trillion or $57 trillion, you know. But you raise an 
interesting question, because I don't think anyone really knows 
what the real exposure is. That's the nominal value or the 
amount of debt that these things have been written on, although 
the actual amount of debt is actually substantially less than 
this.
    As Mr. Dinallo mentioned, some of this is nothing more than 
wagers of bets against one another in trading, and that's a 
fairly significant portion of that. But no one knows because 
there's no disclosure. There's no central market.
    And this isn't the first time this thing almost came apart. 
The Fed in 2005 had to bring about 17 of these institutions 
together because they had gotten so far late in just doing 
their paperwork no one knew who owed one at that point in time. 
Which goes back to your question then, does anyone really know 
what's going on here? And the answer is probably no. No one can 
tell you what's going on, there's no regulation, there's no 
FASB, and no one can answer the questions with a high degree 
ofcertainty because there's no place that gathers that data.
    Mr. Dinallo. This is just a very overly simplistic 
statement which will not hold in practice, but there's an 
argument that the total notional value of CDSs should not 
exceed the total face value of corporate bonds out there. 
Because if you bought insurance for all corporate bonds that 
anybody owned it would be--and I'm going to make up a figure. 
I've heard something like $15 trillion, $17 trillion--$6 
trillion, I'm being told $6 trillion.
    Well, I'm an optimist. So if you think of it that way, 
that's why we say 10 percent. Do you remember I said 10 
percent? So if it's 10 percent of 62--so, yes, $6 billion is 
the right number. Ninety percent of it is written on just going 
to the track and putting a bet on whether Ford is going to fail 
or not. It does not represent a securitized bond exposure to 
the companies.
    Mr. Yarmuth. If I can ask just one question in followup. So 
this is one corporation, in this case AIG, betting against 
another corporation on value that doesn't exist? I mean, 
they're wagering money, wagering presumably shareholders' 
money, and in this case it may turn out to be taxpayers' money, 
on basically you and I betting on a football game.
    Mr. Dinallo. Yeah. Just technically I'm going to correct 
you to the extent it kind of went the other way. People, they 
sold protection as a triple A or double A rated vehicle, they 
sold their protection to those who wanted to take a bet on 
whether Ford was going to say--I'm just making that up. I'm 
picking on Ford. It's unfair--Ford was going to default or not. 
And when they got downgraded--I think this is an important fact 
that didn't really come out. When they got downgraded, the 
reason they had the liquidity crisis that we've all discussed 
is when they got downgraded they had to put collateral beyond 
those obligations. When they were a certain high rating they 
didn't have to post any collateral.
    So getting back to the Congresswoman's point, I would say 
all the more frightening about all this is there's no ``there'' 
there. There's no collateral behind any of these four A, double 
A and triple A rated companies. And that's a big number that 
there may not be backing for. Not the case for insurance.
    Chairman Waxman. Thank you, Mr. Yarmuth.
    Mr. Braley.
    Mr. Braley. Thank you, Mr. Chairman.
    Mr. Dinallo, I want to start with you.
    Twenty-five years ago, I was a research assistant to 
Professor Alan Whitus, who was updating the Keeton and Whitus 
basic text on insurance law; and I think both Professor Whitus 
and Professor Keeton would be rolling over in their graves 
seeing what has happened to the industry that they were so 
passionate about. I think you would agree with me that industry 
has changed radically in the 25 years that I've been talking 
about.
    Mr. Dinallo. Yes. In particular going from mutual companies 
to publicly traded companies.
    Mr. Braley. And a lot of those demutualizations resulted in 
a significant financial loss to policy owners who owned the 
shares of those mutual companies--who owned the mutual 
companies and during the conversion in many cases were screwed 
out of their financial share of those companies.
    Mr. Dinallo. I might not use the same verb, but I will 
agree.
    Mr. Braley. I think you get my point.
    Mr. Dinallo. Well, I think it's important for everyone to 
know there's a very strong tension between policyholders' 
interest and shareholders' interest in a publicly traded 
company. The board and management has a fiduciary interest to 
shareholders under our law, fiduciary interest to shareholders, 
but, at the same time, whenever they release capital to satisfy 
that to get a bigger return on equity, they are necessarily 
taking incremental protection against policyholders.
    Mr. Braley. And you also have a fiduciary obligation to 
policyholders under their contractual obligation with the 
policyholder.
    Mr. Dinallo. Yes. Sadly, there is some debate, actually, 
because they've been so trained under our law and after Enron, 
etc., to worry about fiduciary duty to shareholders that there 
is a good argument that, although it's in their blood to worry 
about policyholders, the legal requirements are a little bit 
gray, actually.
    Mr. Braley. Well, one of the things we know, in your 
opening statement you said AIG was not strictly an insurance 
company. And that's one of the big problems. Because insurance 
companies are fond of talking to consumers about gaps in 
coverage and how they should eliminate those gaps. But based on 
both of your testimonies we've got a massive $63 trillion gap 
in coverage where we've got a product that according to most 
commonsense interpretations would be considered insurance. 
We're not regulating in the State insurance commissioners' 
offices. We've taken action in Congress before I got here to 
declare that it's not subject to gaming regulations, which 
again under the Constitution are historically made by States 
rather than by the Federal Government, and you've eliminated 
any oversight from the Securities and Exchange Commission, 
which has the only Federal capability to exercise jurisdiction 
over these companies. So how did we get here?
    Mr. Dinallo. I wish I could have said it so clearly. I 
don't know how we got here. We thought it was important to 
permit leverage, we thought it was important to permit risk 
mitigation, and we thought that mega holding companies were 
accretive to shareholder value and to be competitive.
    And I will say that we are--that one of the big issues is 
after Basel II and what's called Solvency II we are in danger 
of going the European route, which is a lot more holding 
company control over the operating company, which is code for 
much more ability to move around policyholder money--that's 
what we are talking about--around for holding capital liquidity 
purposes. If AIG had been under a Solvency II regime, I would 
think we would be in much worse straits than we are today.
    Mr. Braley. But one of the concerns I have is this blurring 
distinction between financial services providers--real estate, 
insurance, banking, other financial institutions--and how you 
hold accountability when these holding companies are involved 
in all these different financial services. Because clearly the 
system we have in place now is not working.
    Is it time for Congress to revisit the fundamental premise 
of the McCarran-Ferguson Act and talk about a Federal 
intervention that takes into account the need to have some 
oversight of insurance companies that choose to engage in risky 
financial propositions like the ones we've been talking about 
today with no ability to have accountability to their 
shareholders?
    Mr. Dinallo. Earlier, I said we should--I think I would 
recommend a revisitation of Gramm-Leach-Bliley and the concept 
of supermarkets when you're dealing with policyholder money and 
depository commercial--money. I'm not sure--I will just remain 
agnostic--whether the solution is a Federal oversight or 
continue with the States or some hybrid.
    Because I think that it is important to have States in the 
solvency business. They've done extremely well on that. They've 
done not so well, clunky on other things like product 
registration and licensing of the agencies. We're pretty clunky 
on that. But the one thing we got right and the reason that 
we're even here today to the extent there's optimism here is 
because there was solvency done by State regulators.
    Mr. Braley. And just to followup on Mr. Souder's comment 
about the guarantee funds, you would agree that most State 
insurance laws provide a cap on those guarantee funds typically 
in the amount of $500,000 or surely $1 million or less. And 
when you're talking about an exposure of $63 trillion that 
would have no impact to protect taxpayers.
    Mr. Dinallo. Actually, New York is one of the richest 
guarantee funds; and I think the numbers you just described are 
New York numbers. Most States--and this is not to be pejorative 
to other States--but most States are substantially lower. Some 
people think that lower is better because it stops the moral 
hazard of writing bad policies because there's always the 
guarantee fund behind it. But, yes, it would have been a real 
stress on the system, undoubtedly.
    Chairman Waxman. Thank you, Mr. Braley.
    Mr. Davis.
    Mr. Davis of Virginia. Thank you.
    Do you think anybody ought to go to jail over this? Do you 
want to take a stab at that? Do you think anybody should go to 
jail over this?
    Mr. Dinallo. To whom is your question directed?
    Mr. Davis of Virginia. Both of you. I'm not asking you to 
name anybody or build a case. But I'm just saying, looking at 
the end results, how the companies operated, at this point, 
were they all within the law or did somebody break some rules 
along the way because nobody caught it?
    Mr. Dinallo. I don't have sufficient evidence to have an 
opinion about it.
    The only thing I would say is I think that as a regulatory 
society, so to speak, we all did kind of chase after mortgage 
default numbers. In other words, some of what was described 
earlier about the escalating losses at AIG were certainly a 
default rate loss. In other words, we've all seen how the 
rating agencies have hugely changed the ratings based on how 
quickly the default numbers are coming in for mortgages.
    And I'm not taking a position whether it's criminal or even 
civil, but it is the case that a lot of us, including the best 
rating agencies, some of the best securitization people in the 
world and some regulators, got wrong what was going to be the 
default rates, which it turned out our global economy was 
hinged on.
    Mr. Davis of Virginia. Well, if it wasn't criminal, was it 
at least negligent in some areas?
    Mr. Dinallo. I won't even opine on that. But I would say 
that--I did say that the letter, if true, that I heard is 
something that you would be concerned about.
    Mr. Davis of Virginia. Mr. Turner, do you have any thoughts 
on that?
    Mr. Turner. Yes Congressman. I don't think you send people 
to jail for making bad business decisions. That happens day in 
and day out, and people shouldn't be prosecuted for that.
    On the other hand, if someone knew there were problems in 
the company and failed to comply with the security laws and 
disclosed those to investors who bought them and are now seeing 
their retirement savings go away and disappear, then, yes, I 
would turn around and say a little time behind the bars would 
probably be good.
    Mr. Davis of Virginia. Well, let me ask this. How about the 
people writing the mortgages? You talked about the first tier 
and the second tier and how it got lax. I mean, at the end, 
they weren't even asking tough questions.
    Mr. Dinallo. I think the term is a NINJNA, no income, no 
job and no assets, or something like that. It's unbelievable. 
We were harvesting mortgages at a rate that I think is 
completely unacceptable as a society; and we were in various 
ways encouraging people to engage in underwriting decisions 
that I find shocking, frankly.
    Mr. Davis of Virginia. In fact, didn't AIG--they got caught 
up in this. Their competitors were doing it. They started a new 
line that they had no expertise in, used an insurance model, 
and it just blew up on them. Is that basically what happened?
    Mr. Dinallo. I think to a large extent people did not--this 
is what I was trying to say before. We relied on historical 
default rates in housing that maybe for the first two 
iterations of loans was wholly appropriate. By the seventh or 
eighth, we had basically injected--we correlated the system 
because we weren't securitizing natural loans, we were 
securitizing created loans.
    Mr. Davis of Virginia. Now, your argument, as I understand 
it, is that the Commodities Futures Modernization Act, in 
retrospect, went too far. It was a mistake.
    Mr. Dinallo. I think that's a fair implication of what I 
said, yes.
    Mr. Davis of Virginia. And that was signed just on the eve 
of the 2000 election. I think it passed Congress. Fortunately, 
I did not support it. But as I was looking at that, just going 
through the votes and everything, it was signed right on the 
eve of the 2000 election. Obviously, some modernization was 
needed, because there was a huge congressional and, at that 
point, administration consensus. But you think it just went too 
far. You wouldn't have argued it shouldn't have been changed. 
You just think in retrospect it went too far.
    Mr. Dinallo. No, it was just absolute. It says this act 
shall supercede and preempt the application of any State or 
local law that prohibits or regulates gaming or the operation 
of bucket shops other than anti-fraud provisions.
    Mr. Davis of Virginia. I agree.
    What about the reauthorization act this year, did you 
follow that, that was reauthorized this year? Do you know how 
they reauthorized it? They attached it to a farm bill, an 
agriculture bill, which was vetoed by the President and 
overridden in Congress. That's how a lot of these things get 
done. So that's how a lot of this business gets done.
    What about Gramm-Leach-Bliley in retrospect? Again, that 
was done over 8 years ago. In retrospect, obviously, a need to 
modernize Glass-Steagall. Would you agree with that?
    Mr. Dinallo. Yes. Some in need, yes. But I've learned a lot 
through this process.
    Mr. Davis of Virginia. Well, let me finally ask, should the 
SEC or should Congress have stepped in much earlier to suspend 
the mark-to-market accounting rules as a way to head off some 
of the problems we're experiencing today?
    Mr. Dinallo. I think Mr. Turner would be better qualified 
to answer that. I'll just say that insurance companies do it a 
different way; insurance regulators do it a different way. It's 
much more conservative and, fortunately, beneficial, I think, 
to what we're talking about.
    Mr. Davis of Virginia. Mr. Turner, do you have any thoughts 
on that?
    Mr. Turner. I don't think Congress should step into that. 
As I mentioned in my testimony, the GAO found--actually 
supported going to mark to market and believes that when you 
suspend it--when you allow a bank to turn around and have 
losses, OK, and not tell us as investors about it, I got to 
tell you we ain't got any confidence in the system or trust. 
And if Congress goes in and says, we're going to let you hide 
those things from us, I got to tell you, you're going to see a 
devastation in spark. We will not be investing in financial 
institutions if you do that.
    Mr. Davis of Virginia. OK. Thank you.
    Chairman Waxman. Thank you, Mr. Davis.
    Ms. McCollum.
    Mr. Davis of Virginia. Mr. Chairman, can I ask unanimous 
consent that Members be allowed to submit statements for the 
record today?
    Chairman Waxman. Without objection, that will be the order.
    Ms. McCollum. Thank you, Mr. Chairman.
    Mr. Turner and Mr. Dinallo, AIG didn't suddenly collapse 
and need to be bailed out on September 18th. AIG's financial 
situation had been growing increasingly dire with each passing 
quarter, but AIG's executives kept telling shareholders that 
their finances were in great shape.
    And in fact, Mr. Chair, I would like to submit a New York 
Times article dated September 28th which numerates time and 
time again how these people have said AIG was in great shape.
    [The information referred to follows:]

    [GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

    Ms. McCollum. In December 2007, for example, Mr. Sullivan 
told AIG investors, ``we believe we have a remarkable business 
platform with great prospects that represent tremendous 
value.'' Two months later, AIG posted $5.3 billion losses for 
the quarter.
    February 2008, Mr. Sullivan said, based on our most current 
analysis, we believe any credit impairment loss realized over 
time by AIGFP would not be material to AIG's consolidated 
financial condition. Then AIG posted $7.8 billion in losses for 
that quarter.
    On May 28th, Mr. Sullivan told investors, the underlying 
fundamentals of our core business remains solid. The next month 
the board voted to replace Mr. Sullivan.
    Mr. Turner, I have a couple of questions. What do you think 
of Mr. Sullivan's statements? Do you think they accurately 
reflected AIG's conditions? And, Mr. Dinallo, I would like to 
know if have you a view on that as well.
    Mr. Turner, in your written statement you said--and I'm 
going to quote you--trust and confidence in markets and in any 
company begins and ends with transparency, transparency that 
ensures investors can fully understand the assets and rewards 
of investing in a company. You should be able to trust what the 
CEO is saying.
    So if you gentlemen could please elaborate.
    Mr. Turner. As you go through these filings and you look at 
the disclosures that start to occur and the timeframe in which 
they are, the one thing I take away from this is I don't think 
the company ever was honest with the investors about the 
magnitude of the potential impact of these things. And I think 
that's what is grossly missing here. And then, as things start 
to go bad, they go bad very quickly; and we're finding out 
about everything not prospectively here's what could happen.
    Keep in mind, the SEC rules are very clear. They require 
you to tell the investor right through the eyes of management 
what's happening with the company. And I don't think we ever 
get that out of here. I don't think the rules were followed.
    I just think it's astounding that all of a sudden you're 
borrowing $61 billion and yet you've never told the investors 
up to that point in time, hey, we've got these credit 
derivatives out there that could cause us such a problem that 
we could come short.
    And granted the market goes down, OK, and certainly people 
were not wishing for the market to go down the way it was, but, 
nonetheless, when you've got that type of exposure and that 
type of potential, you owe it to me as an investor to tell me 
that's the type of risk I'm taking on when I'm investing in 
you. You've got this thing that may all of a sudden blow up and 
cause you to need tens of billions and you can't get to it 
because all the cash is in regulated subsidiaries that Mr. 
Dinallo is appropriately trying to protect. And that's the 
disclosure, the gist I cannot find in these filings.
    The SEC and the DOJ I hope will go through, get the e-
mails, get the data and then everyone is entitled to their day 
in court and due process. But, right now, there is a question 
there that I can't answer for myself as to why we didn't get 
that.
    Ms. McCollum. Mr. Dinallo.
    Mr. Dinallo. Obviously, I have to be sort of--I'm not 
informed enough at the holding company level on some of the 
disclosures to have a position about this.
    I think I did say earlier that I witnessed sort of a very 
shocking realization as to the liquidity needs of the company 
on that weekend. I was surprised that some of the risk was 
being rolled up at that--sort of contemporaneously at that 
time.
    I will say, just one observation that we just touched on, 
which is one of the lessons learned. There are these things 
called lines of credit that every company has, and they assume 
they're there in these liquidity crunches. But what is kind of 
interesting I think that the committee should know about, and 
the Financial Services Committee should probably be told about, 
is if you touch them you get a three-notch downgrade from the 
rating agencies. And so they're kind of fictitious in some 
ways.
    I don't mean this badly, but people have them and they 
convince us that they have this line of credit that will help 
them through these tough times. But God forbid you need to hit 
the $15 billion line of credit these companies have. The 
consequences are such that you might as well not have them 
because you might as well have gone through the downgrade 
because you're going to go through it for touching the line of 
credit. We're all learning together to some extent. And I think 
that's one of the lessons that I would kind of inject in this.
    Ms. McCollum. Thank you, Mr. Chair; and thank you for the 
hearing because I think this is clearly showing people were 
gambling--they weren't investing--with the dollars that these 
investors had.
    Chairman Waxman. Thank you, Ms. McCollum.
    Mr. Van Hollen.
    Mr. Van Hollen. Thank you, Mr. Chairman.
    Thank you both for your testimony today.
    Mr. Turner, I just want to followup on my colleague Mr. 
Yarmuth's questions. He asked you about some of the golden 
parachutes that were available for Mr. Sullivan and others at 
AIG.
    I want to talk about the regular compensation and bonus 
plan. And as you state in your statement you talked about the 
dangers that bonus plans that are, ``designed to pay executives 
hundreds of times what their average employees made as they 
engaged in business that would eventually cripple the business 
that they ran.'' And you hear a lot of talk from some of the 
CEOs about how they have these pay-for-performance plans, that 
in the good times they benefit but when times are bad they take 
a hit. And I think the more we look at these different 
companies like AIG you find that they rigged the rules so in 
good times they do well and in bad times they do well.
    I would like to get your opinion of the actions of AIG's 
former CEO Martin Sullivan at a meeting of the company's 
compensation committee on March 11, 2008. The committee has 
obtained documents of that meeting.
    AIG has two bonus programs. The first is called the 
Partners Plan, and that covers the top 700 executives. The 
second is called the Senior Partners Plan, and that applies 
only to the top 70 executives. Mr. Sullivan benefits from both 
plans.
    Now, according to the plans--and, again, if you listen to 
what they're saying, rewards were supposed to be based on the 
company's performance. But I want to show you or at least 
mention to you--I don't if we have it on the screen, but we 
have the internal minutes of the meeting that was held by AIG's 
compensation committee on March 11, 2008; and, as you can see, 
what those committee meetings show is that Martin Sullivan, who 
was CEO at the time, personally urged the committee to waive, 
to waive the bonus rules right after the company posted a 
record loss.
    And as you can see that what the minutes say is Mr. 
Sullivan next presented management's recommendation with 
respect to the earnout for the senior partners for the 2005 
through 2007 performance period suggesting that the AIGFP--
that's the financial products division--that their unrealized 
market valuation losses be excluded from the calculation. 
Essentially what he's saying there is the rules, if we applied 
them, wouldn't let me get my bonus, so let's change the rules, 
isn't that right?
    Mr. Turner. That's the way I would read that.
    Mr. Van Hollen. And this comes on the heels of the February 
8th--28 AIG posting of losses of $5.3 billion for the quarter, 
which came primarily from the financial products division, 
isn't that right?
    Mr. Turner. Yes.
    Mr. Van Hollen. And the record also makes clear that in 
fact the board, not surprisingly, agreed with their CEO; and he 
got his $5.4 million bonus, despite the fact that AIG ran up 
$5.3 billion in losses in the quarter before.
    I just have to ask you, you know, because people understand 
when people get rewarded for doing well. But everybody else out 
there operating in the economy, when they don't perform, they 
get their pay cut. They get fired. These guys, there is 
absolutely no accountability. So I would like you to comment on 
the kind of changes that need to be made in your view to make 
sure this kind of thing does not happen going forward.
    And then, Mr. Dinallo, I would like any comment you've got.
    Mr. Turner. As someone who has followed governance and read 
many of these type of plans--quite frankly, when I was running 
the research at Glass, Lewis, this is not an isolated 
occurrence. We've seen this time and time again in corporate 
America where you set up a pay for performance plan but then, 
when you didn't hit the performance triggers, you changed the 
triggers, you didn't change the compensation. And there's just 
something fundamentally wrong with that.
    And that's one of the reasons this institution, quite 
appropriately so, I believe, last year voted and approved the 
``say on pay proposal'' that is a middle of the ground proposal 
and a very, very good proposal. It's unfortunate. I know it was 
in one of the drafts of the bailout legislation and didn't stay 
in it. That is very unfortunate.
    But I think certainly we need to have in this country--give 
the shareholders the vote and opportunity to pay on--or vote on 
situations like this with full disclosure so you're aware this 
type of stuff is going on; and I think only by doing that are 
we going to get this reigned in. I think anything short of that 
is going to leave these plans in place, leave this type of 
behavior in place, and people are going to continue to be 
outraged about it, and you're not going to get the changes that 
you need.
    So when we have say on pay as investors, when we invest in 
the U.K., when we invest in Netherlands, when we invest in 
Australia, but we don't even have that right as investors here 
in the United States, there's just something fundamentally 
wrong with it. So we need this institution, the House, and we 
need the Senate, by golly, to follow your good leadership on 
that and pass the say on pay proposal now, not a year from now, 
but now.
    Mr. Van Hollen. Thank you. Thank you, Mr. Turner.
    Mr. Dinallo. I would only add that a lot of Wall Street and 
traders--and I think AIGFP is analogous to this--are paid on a 
revenue basis, as opposed to an end-of-year profit basis, and 
there is something to that. And you can create a lot of 
revenues without actually booking a profit sometimes. And so 
that's something that people have written about recently, about 
sort of changing that approach to compensation for certain 
financial services activities.
    Mr. Van Hollen. Thank you. Thank you both.
    Chairman Waxman. Thank you, Mr. Van Hollen.
    Mr. Sarbanes.
    Mr. Sarbanes. Thank you, Mr. Chairman.
    I'm trying to understand this in the context or in terms of 
how we got all these toxic assets infecting the markets out 
there which at the end of the day just gets back to this 
insatiable appetite to generate new loans. And when there 
weren't enough loans out there in the conventional market we 
then had these people that were reaching into the 
unconventional market, into a very risky market, and that 
created this toxin that went up the chain.
    So my interest in what AIG was doing is to the extent that 
it was seen as providing the hedge/insurance backstop to these 
Wall Street firms that were increasingly getting into the 
business of trading in very unstable or risky security 
products, with the effect, I take it--and I would like your 
view on this--with the effect that it increased their risky 
behavior, and that gets pushed down the chain. So they begin to 
encourage more and more risk on the front end. And once you've 
relaxed the underwriting standards on the front end of this 
thing, it becomes very difficult to continue to manage the risk 
up the line, because the original thing that you've created in 
and of itself is unstable.
    So talk to me about that. Talk to me how what the product 
that AIG was offering basically led to riskier behavior on the 
part of these Wall Street firms which in turn led them to 
encourage risky behavior all the way down the chain. Mr. 
Dinallo.
    Mr. Dinallo. Well, I think, Congressman, you sort of said 
it in there. They were arguably at the end of a chain of 
exceedingly ridiculous optimism about the value of these 
mortgages. So people harvested the mortgages. They securitized 
them. The rating agencies rated those at the highest levels; 
and, through CDO squared, triple A traders at various trading 
houses held them. And then wanting to prudently, arguably, have 
a default protection on those bought a credit default swap from 
certain guarantors, AIG being one of them.
    So I would say that at some level what AIG did was it 
gave--kind of it was the last line of defense with its high 
rating--I think it was double A at this time--saying, well, the 
rating agencies rated it triple A, so we'll even guarantee it 
against default.
    And one of your points I thought you were sort of making 
was maybe if anyone in that line of activity had acted with--
this will be a little bit impolite--but acted with common sense 
instead of models they might have said this doesn't feel right 
and I'm not going to put my reputation, assets, shareholder 
value, rating at risk for this.
    Mr. Sarbanes. Well, you had two things happening. You had a 
bunch of people along the way who could keep off-loading the 
risk to somebody further up the chain. So then they have no 
incentive themselves to stop or curb their behavior, 
particularly if they're making money off the deal.
    Then you start getting to the end of the chain, right, the 
people that are actually holding these securities at the end of 
the line. And the way they, ``offload the risk is to go insure 
against it.'' So they turn to an AIG as a way of doing that.
    And I guess in the initial iteration of that maybe it made 
sense. But then you have AIG basically opening a casino in 
London, right, to start this other activity. So at what point 
should the investors that were purchasing this as an insurance 
policy, should they have known that AIG, their, ``insurer was 
getting into this other risky enterprise?'' Did they know that? 
Did they realize that they had opened the casino in London and 
something else was going on that was putting their policies, 
``at risk?''
    Mr. Dinallo. I just want to clarify. I think we're mixing 
the term insurance policy somewhat loosely. When you ask that, 
you mean the people who had actual property--the common man and 
woman who had life insurance policies and property polices with 
AIG? Is that what you meant?
    Mr. Sarbanes. No, no. I'm talking about the insurance 
product that was the CDS, because it began that way, right?
    Mr. Dinallo. But my understanding, Congressman, is it was 
always out of financial products.
    Mr. Sarbanes. Right. But I'm saying is it began as a 
legitimate, ``hedge against the downside risk of this 
particular security that you hold.'' But the reason it got up 
to $55 trillion or $62 trillion or whatever it was is because 
it became a betting house. And what I'm trying to figure out 
is, at the point that happened, no longer should I as an 
investor who is hedging against the security that I actually 
own have taken any comfort from the fact that AIG----
    Mr. Dinallo. I think I can answer that, yes. I think that 
at AIG most of the activity in the CDS was off of covered, 
nonnaked activity. These people really owned the CDOs. These 
were traders that owned CDOs, and they wanted default 
protection on the CDOs. But it is actually a profound 
observation that the Governor has made that for the 10 percent 
of people who thought that they actually had capital and some 
kind of insurance protection behind those covered CDSs, it 
turns out that possibly the continued unregulated activity that 
is naked could seriously impact their ability to receive 
payment. I think that's what one of the Congress people was--I 
think that's what Congresswoman Maloney was very concerned 
about before.
    Chairman Waxman. Thank you, Mr. Sarbanes.
    Mr. Welch.
    Mr. Welch. Thank you very much.
    I really appreciate your testimony. Very informative, very 
helpful.
    A couple of things. One, Mr. Turner, I think you said that 
the SEC Office of Risk Management was reduced to a staff, did 
you say, of one?
    Mr. Turner. Yeah. When that gentleman would go home at 
night, he could turn the lights out. In February of this year, 
that we had gotten down to just one person at the SEC 
responsible for identifying the risk at all the institutions.
    Mr. Welch. So that included the $62 trillion credit default 
swap.
    Mr. Turner. That's correct.
    Mr. Welch. And how did he do?
    Mr. Turner. Well, I suppose he got the lights turned out 
but didn't get the problems taken care of.
    Mr. Welch. It reminds me we had a hearing earlier on in 
this committee about these tainted toys kids were buying, or 
they were getting toys that had lead paint. And it turned out 
that the Consumer Product Safety Commission apparently had one 
person--I hope it wasn't the same person--inspecting all the 
Chinese imports.
    Mr. Turner. In all fairness to the SEC, the staff over 
there that I've dealt with over the years have been excellent. 
But when you only have one person there's no way on God's green 
Earth anyone, Chairman Cox or anyone else, could have even 
imagined that this person could do the job. When you cut it 
down to one, you know what you're doing. You know that you're 
basically saying we're not going to do the job.
    Mr. Welch. Was there a systematic depopulating of the 
regulatory force so that it was impossible actually for 
regulation to occur? If you have one person in that office--and 
then I understand that 146 people were cut from the enforcement 
division at the SEC. Is that what you also testified to?
    Mr. Turner. Yes. I think there has been a systematic 
gutting or whatever you want to call it of the agency and its 
capability through cutting back of staff. We talked about risk 
management, we talked about enforcement, but as well just in 
some basic fundamental policies. The enforcement staff are now 
asked to jump through many more hoops before they can proceed 
with investigations, a change that's been written a lot about 
in the media, and it's not a healthy change for the agency.
    Mr. Welch. You in your testimony--and I think it was really 
supported by Mr. Dinallo--identified a number of things that 
have contributed--and there is plenty of blame to go around--
the executive compensation, people coming and going, making 
money, the accounting standards being lax, cheap debt, this 
whole unregulated casino-like $62 trillion credit default swap, 
handcuffing of the SEC, lack of regulation at the holding 
company level, failure of the Federal Reserve to tighten up on 
credit and mergers that were too large.
    But I want to get back--and that was quite a laundry list. 
In all the things that we could act on, but on this specific 
question of having public servants in the job so they can do 
the job on behalf of the American public, would it be your 
recommendation that we've got to boost the personnel levels at 
these organizations to protect the consumer?
    Mr. Turner. Unequivocally yes. I believe in the 
Appropriations Committee over in the Senate Banking they've 
given them about a $30 million increase. And I suspect that 
falls short. It probably is going to need to be--if you really 
want the SEC to do a job and you're serious about it, given the 
cutbacks that have occurred in the last 3 years or so, you're 
probably going to need an increase at the SEC realistically 
more in the range of $50 million to $75 million.
    Mr. Welch. And that's paid for by that SEC transaction fee?
    Mr. Turner. Yeah. And, in fact, the SEC collects more in 
transaction fees, substantially more in transaction fees from 
businesses than they actually pay out for their costs and their 
staff.
    Mr. Welch. Let me ask you this. Some of us have suggested 
that there be an SEC fee or transaction fee that would go into 
an escrow account to offset any cost to the taxpayer of this 
bailout. Is that something that you have an opinion on?
    Mr. Turner. I've always believed that the SEC from a 
funding perspective should be treated solely as an independent 
agency and that the SEC be given the ability to collect its 
fees and whatever it collect it spends on that and that those 
fees don't go elsewhere. They just basically go to fund the SEC 
so that they don't--you know, they get what they need but not 
more than what they need.
    Mr. Welch. Mr. Dinallo, how about you, both on this 
question of personnel to get the job done and establishing 
basically an escrow fund to help offset the cost of the 
bailout?
    Mr. Dinallo. Obviously, I'm a big fan of hiring regulators. 
I think the department is--I think we're well--you know, we 
have a lot of--there's hundreds of people who do what they do 
at the New York State Insurance Department. It takes a lot of 
people to regulate closely. I think it is definitely the case 
that you can design a system. I certainly feel independent in 
our work, but we are net, we are net, you know----
    Mr. Welch. Thank you.
    One last question for both of you.
    Mr. Dinallo. So I think you can do it without costing the 
taxpayer any money.
    Mr. Welch. There are a number of companies that are going 
to participate in this bailout program, and my question to you 
is this: Do you believe it would be right and appropriate for 
the taxpayers to have the right to claw back some of these 
outrageous executive salaries and golden parachutes from 
companies that have voluntarily opted to participate in this 
bailout?
    Mr. Turner. The provisions that are in the legislation, you 
know, does under what I would consider to be limited situations 
allow claw back. But people need to understand it's limited. 
It's not everyone. I thought it should have been everyone, 
quite frankly.
    Mr. Welch. That's what I'm asking. We have another crack at 
this. This was a gun-at-our-head piece of legislation we had to 
pass, we were told, in order to avert a catastrophe. But we 
have an opportunity to improve it, and we are going to have to. 
So would you support a stronger claw-back provision?
    Mr. Turner. Yes. And I communicated with Members of 
Congress already that I think the claw-back provision, the 
severance provision--there were three provisions there on 
compensation, and they all could have been much stronger than 
what was done the first go-around.
    Mr. Welch. Mr. Dinallo, how about you?
    Mr. Dinallo. I don't think I have enough of a basis to give 
an opinion. I think Congress did a pretty good job the first 
time around. But I would have to see some kind of proposal to 
know for all such instances.
    Mr. Welch. OK. Thank you.
    Thank you, Mr. Chairman.
    Chairman Waxman. Thank you, Mr. Welch.
    Ms. Speier.
    Ms. Speier. Thank you, Mr. Chairman.
    Mr. Dinallo, I am one of those that believes that the 
regulation of insurance companies should be at the State level. 
And if there ever was a great example of why it works it is 
AIG, because the insurance part of AIG is solid.
    Now, having said that, you as a regulator have the 
authority to conserve, to take institutions into 
conservatorship. And once you do that my understanding is, 
certainly is in California law, that all bets are off. The 
contract is off. You are there to make sure that the corpus is 
protected for the policyholders, is that correct?
    Mr. Dinallo. Yes.
    Ms. Speier. In this situation we now own AIG. The taxpayers 
of this country for all intents and purposes own AIG. It's in 
conservatorship. Mr. Cassano, who was the golden boy of the 
casino in London, had his compensation very attractively 
devised so that over the course of 8 years he actually earned 
more money than the CEO, some $280 million, because he was 
getting $0.30 back for every--on every dollar he was receiving 
$0.30 back in terms of the products that were being sold. So he 
also was eligible for bonuses. He was eligible for $34 million 
of what were unvested bonuses.
    But in February of this year he took that company, that 
division, down by $5.3 billion. And yet he was fired the next 
day, and the following week the committee has a copy of a 
letter, that's a contract, I presume, here, that confirms this 
agreement in which he was given the $34 million, and, oh, by 
the way, he is now on contract as a consultant to the tune of 
$1 million a year, and we, the taxpayers, are picking up that 
tab.
    So here's someone who brought the company down, the 
taxpayers now own this company, it should be in 
conservatorship, and this man is still getting $1 million a 
year. Now, in conservatorship as an insurance company, you 
would be able to void those contracts, wouldn't you?
    Mr. Dinallo. Yes.
    Chairman Waxman. Let me intervene just to say it's $1 
million a month.
    Ms. Speier. Excuse me. $1 million a month.
    Mr. Dinallo. If those contracts were----
    Ms. Speier. Thank you, Mr. Chairman, for that 
clarification.
    Mr. Dinallo. If those contracts were with an operating 
company that we brought into rehabilitation, which you would 
call conservatorship, we do have incredibly potent powers over 
policies and contracts. The company, we basically step in and 
become the management at our, you know, salary.
    Ms. Speier. So that fancy conference in California could 
have been stopped under those circumstances?
    Mr. Dinallo. Yes. Although I presume--yes. Although again 
we're talking about a holding company activity.
    Ms. Speier. So Mr. Turner, knowing what we know, knowing 
that Mr. Cassano now is getting a million dollars a month paid 
for by the taxpayers even though he's no longer working there 
and he did get his bonus even though he didn't earn it, do you 
think we should claw back?
    Mr. Turner. Well, there is always the legal question of 
legally what you can or cannot do. Unfortunately, one of our 
problems is we've paid out or investors are quite frankly going 
to pay out now, as you mention taxpayers time and time again, 
it's not just this situation, it's this situation as you aptly 
describe, others at their institutions, Merrill Lynch, 
Countrywide and the likes. If there's a way you could find 
legally to go enact legislation that would allow clawbacks of 
those sums where there was absolutely no pay and no 
performance, if not destruction, I would be a big fan of it. 
And the real question is legally whether or not you could do 
that. I would certainly say though we've learned a lesson and 
let's not repeat it again and let's go fix this going forward 
as well. If you can do something in the past, I'm sure--I've 
heard from a number of my fellow neighbors that they'd love to 
see you go get what you couldn't back from the past as well.
    Ms. Speier. One last question to Mr. Dinallo. You 
determined to take $20 billion from the insurance company and 
give it to the holding company.
    Mr. Dinallo. Yes.
    Ms. Speier. Explain to us why you did that. Did you think 
that was going to be enough to hold them over?
    Mr. Dinallo. Yes. So we didn't actually do it. But we did 
at a certain point offer to do it as part of a holistic 
solution. We did believe at the time that the liquidity problem 
of the downgrade that I talked about before was on the order of 
$15 billion, a need for liquidity. So there was a plan to take 
what was excess surplus--this is an important point. There's 
the asset liability match, promises versus assets held. There's 
a statutory surplus above that. And then there's excess surplus 
even above that which companies often have the right to decide 
how to use. And we thought that prudently we could loan that 
essentially through the property and casualty companies to fix 
the liquidity problem on the basis that the life insurance 
companies were going to be sold, which is part of the AIG plan, 
or some companies to repay that loan. So at the time the 
Governor thought given AIG's presence in the community, the 
number of jobs at stake, etc., that was a--and given it was not 
in any way going to put policyholder protection at risk, it was 
a reasonable use of excess surplus.
    Ultimately we didn't need to do to it. But that was the 
beginning of that weekend where I was called in and the 
Governor sent me in to understand how we could be pragmatic on 
a liquidity basis, yes.
    Ms. Speier. Thank you.
    Chairman Waxman. Thank you very much, Ms. Speier. Ms. 
Watson.
    Ms. Watson. Mr. Chairman, I want to thank you for this 
opportunity to have the public listen in as we try to 
unscramble eggs. And Mr. Dinallo, Mr. Turner, thank you very 
much. I don't know if your responses are really doing that, but 
at least I hope at the end of the series of hearings, we as the 
policymakers will have a little more clarity as to where we 
need to go forward and what we need to do.
    Mr. Turner, in your written testimony you told the 
committee about AIG's disclosure on May 2005 that it had 
inadequate internal controls. You also said the errors 
overstated AIG's income by approximately $3.9 billion. And Mr. 
Turner, AIG has had a history of internal control problems. 
Would you say that's true?
    Mr. Turner. Yes.
    Ms. Watson. OK. As part of the committee's investigation, 
we reviewed internal minutes from AIG's audit committee 
meetings, which are not public, and these minutes show that the 
company's independent auditor, PricewaterhouseCoopers warned 
the company as recently as this year that there were 
significant problems and that these problems were growing 
worse. Now here are some of the examples, and they might be up 
on the screen.
    As of February 7th, the meeting of the audit committee, PWC 
warned that the role and reporting of risk management needs a 
higher profile in AIG. And at a February 26th meeting, PWC 
indicated that the process at AIG seemed to break down, in 
that--and it was kind of unlikely that other companies, where 
there was good dialog at appropriate levels of management on 
the approach, alternatives considered and key decisions--at AIG 
only AIG-FP was involved in the December valuation process.
    At the next meeting on March 11th PWC reported that there 
is a common control issue and root cause for these problems and 
that AIG does not have appropriate process or access or clarity 
around the roles and responsibilities of critical control 
functions.
    Mr. Turner, as a former SEC accountant, do you consider 
these deficiencies serious? Can you elaborate?
    Mr. Turner. Yeah. Again going back into 2007, there's 
obviously some questions about whether the company at a time it 
had disclosed--and in all fairness to the company they had 
disclosed that they had a half trillion in nominal value of 
these derivatives. They didn't tell people just the magnitude 
of what that could turn into, but they had told the public they 
had a half trillion. But in light of that and the fact there 
was some very, very serious concerns about the models and where 
they could do the valuation right, which would raise the 
question of could you actually disclose something with 
integrity, I think the things that PWC is telling the company 
here are extremely serious. If I was--I must say though if I 
was sitting on the audit committee--and I've chaired a couple 
of audit committees--one of my concerns would be obviously the 
company has been doing credit derivatives for quite some period 
of time. And now all of a sudden we're just seeing it from the 
auditors for the very first time as we get down to a very 
critical stage and things are in essence imploding on us. I 
would have the question for AIG management, one, why hadn't you 
solved the problem before now? Why didn't you have the systems 
in place to make sure you could get your hands around these and 
get the right disclosures? But I'd also have a question for 
PWC, who had been for a number of years auditing the internal 
controls, why are you just now coming and telling me about this 
at December--November/December 2007 going into 2008? If I was 
audit committee Chair, I would feel almost blinded that the 
auditors hadn't come and told me about this beforehand as well. 
So--and quite frankly, if the auditors were just coming and 
telling me this as CEO, if I was sitting there in Mr. 
Sullivan's position, I would be raising the same question with 
the auditors.
    Ms. Watson. OK. And I would just like to get Mr. Dinallo's 
opinion on this, too, as well.
    Mr. Dinallo. I think that those are--I think that those 
would certainly get my attention. Whether they were rectified 
or not, I can't say. So I think it's--I think it's important. I 
think you want outside auditors and risk management to come in 
and make those kinds of assessments. And the way you should--
this is my modest opinion. The way you should judge sometimes 
is what the company did in response.
    Ms. Watson. Thank you very much, gentlemen.
    Chairman Waxman. Thank you, Ms. Watson.
    Mr. Shays.
    Mr. Shays. Thank you. Mr. Turner, Fannie Mae had assets 
ranking at No. 2--only Citigroup had a larger asset ranking. 
Freddie Mac ranked No. 5. Just to give you some perspective, GE 
ranked No. 11, Goldman Sachs No. 12, Ford Motor Co. 15. That 
was in the year 2002 when I introduce a bill to say they need 
to be under the SEC. Did it ever strike you as curious that the 
second highest ranking asset company in the marketplace and the 
fourth were not under any oversight by the SEC?
    Mr. Turner. I just think it was flat out wrong. That's the 
only way to say it. I think that someone that's selling that 
much of--you know in the securities market in trading and being 
held by public investors, I think unquestionably it should have 
been from the git-go underneath SEC regulation, nonexempted.
    Mr. Shays. Would you take issue with Federal Chairman Alan 
Greenspan's warning to Congress in 2005 about the growth of 
Fannie and Freddie's portfolios when he said, so I think that 
going forward, enabling these institutions to increase in size, 
we are placing this total financial system of the future at a 
substantial risk. Would you disagree with that?
    Mr. Turner. At the beginning of 2007 I think these two 
institutions were doing somewhere in the mid 30, 35 percent of 
the total mortgage loans in the country. And by September or so 
of last year it had gotten up to about 75 to 78 percent. There 
is no question as that risk expanded--and keep in mind the 
decision was made quite frankly going back into the late 90's 
to allow these two institutions to grow the way they did. If 
you allow them to grow, you have to make sure you've got 
adequate controls and processes around them. And regulator. And 
quite frankly----
    Mr. Shays. And we had a weak regulator named OFHEO.
    Mr. Turner. A very weak regulator.
    Mr. Shays. The Federal Housing Enterprise Regulatory Reform 
Act of 2005, under the previous Congress, passed and was sent 
to the Senate. It would establish what we basically did in 
2008. But when it got to the Senate, it was unanimously opposed 
in committee by, candidly, the Democrats. And therefore it 
never had a vote on the House floor.
    When I introduced this bill with Mr. Markey, it had 22 
cosponsors. And one of the individuals when we were talking 
about having a stronger regulation in committee said that this 
was a political lynching because we were questioning Frank 
Raines and our oversight of this committee. I want to know, do 
you think that somehow Mr. Raines who got $190 million, do you 
think that somehow he should be exempt from coming before this 
committee if we're going to have others with less 
responsibility getting the same sums? If you don't want to 
answer, you don't have to.
    Mr. Turner. No, no. You asked the question, and the 
question's fair, OK? First of all, I go back to what 
Congresswoman Maloney said at the beginning. This is not a 
partisan issue. And as I said, this issue needs to be dealt 
with on a bipartisan basis. I think you need to drain the 
entire swamp, Congressman, and I think you need to take a good 
look at what went wrong at all of these institutions. Freddie 
and Fannie are two humongous institutions that we've had to 
bailout here and it has an impact. And having worked with OFHEO 
on both of those institutions, I would encourage you to bring 
the executives, the appropriate executives and appropriate 
board members before the committee.
    Mr. Shays. In that bill that we sent to the Senate we had a 
clawback provision to be able to go back after these outrageous 
salaries. Would you recommend that be part of any bill?
    Mr. Turner. As I said earlier, I am a big supporter of the 
clawback. What was in the bill was exceedingly weak to the 
extent that Congress can determine that there is a legal--an 
appropriate legal remedy to go back and give power to someone 
to claw back. For prior severance where there was no 
performance, I would certainly support that.
    Mr. Shays. Thank you, Mr. Turner.
    Chairman Waxman. The gentleman yields back the balance of 
his time. I agree with you, Mr. Turner, that this should not be 
a partisan issue. And that's why I was somewhat taken aback 
when the Republicans on--some Republicans on this committee 
started making a big deal about Freddie and Fannie. It is an 
important issue. And they're right. And our committee staff has 
already been looking into this thing, and we are going to hold 
a hearing on it. So I think it's appropriate.
    Mr. Shays. When?
    Chairman Waxman. We'll have to negotiate that with the 
minority to get a day that will be convenient for the staff. 
But obviously we're going to do it.
    Mr. Shays talked about a bill that he introduced which you 
thought was a good idea. I'm a cosponsor of that bill. And some 
of the proposals that have been put forward Democrats and 
Republicans have supported. Unfortunately some of the proposals 
have not been agreed to, as we were discussing with the 
clawback provision in the Barney Frank bill that was just 
adopted. We would have wanted it to be stronger. The 
transparency provisions that we suggested to Chairman Frank as 
well as some of the other provisions that you've mentioned that 
we ought to adopt, we've also recommended should have been in 
that bill. When you do legislation, you get what you can. You 
don't always get what you want.
    But I want to thank both of you for your presentation. I 
think you've been superb witnesses. You've educated this 
committee enormously. And I have to say about the members on 
both sides of the aisle, I thought the questions had been asked 
of the two of you in the conversation--more of a conversation 
than anything else has been very, very constructive and 
generally not partisan because these are not partisan issues. 
Our country and our economy is at stake, and therefore we've 
got to work together and not look for--even though we're a 
short time before an election--opportunities to try to zing the 
other party. These are not the kind of issues that ought to be 
put out--in my view--on a partisan basis. They're the kinds of 
things that we need to look at very carefully together. I don't 
know that there's a Republican or a Democratic response to 
abuses of shareholders and taxpayers. I don't think there's 
going to be any difference as we look at those issues together. 
And that's why we're holding these hearings to find out how we 
got to where we are and what kinds of suggestions we want to 
put forward for the future. We don't have the jurisdiction that 
the Banking Committee has, but we certainly can put ideas out 
there. And I would hope that on a bipartisan basis not only are 
we going to hold these hearings but we may come out with some 
suggested proposals that I hope the committees in charge and 
the leadership of both the Democratic and Republican side of 
the House and the Senate will entertain.
    Mr. Shays. Would the gentleman yield for a question?
    Chairman Waxman. Yes.
    Mr. Shays. Thank you. I want to compliment this committee 
on the way they have asked their questions. I do think we're 
trying to get at the answer both on a bipartisan basis. What is 
troubling to us though is we scheduled five hearings. And 
Fannie Mae and Freddie Mac are not scheduled. And we didn't 
hear that you were even doing this investigation, which our 
side isn't a part of, until we raised this question. Is it fair 
to assume that we will have this hearing within this five 
hearing range? Or is it your intention to do it after the 
election?
    Chairman Waxman. Well, we'll have to look at the schedule. 
We have, for the interest of the witnesses and the public, we 
had a hearing yesterday on Lehman, which many people say 
triggered the stampede. We had the hearing today on AIG. Next 
week we're going to have a hearing on the rating--I think it's 
the rating agencies. And we're going to hear--have a hearing 
from the regulators. And what is--what am I missing?
    Mrs. Maloney. Hedge funds.
    Chairman Waxman. And we're going to have a hearing on hedge 
funds, because they're involved in this whole new world that 
our regulatory system did not anticipate. So while we've 
scheduled those hearings, Members on the other side of the 
aisle say, well, what about Freddie and Fannie, Fannie Mae and 
Freddie Mac? Well, we're looking at that in preparation for 
hearings. I will work with the Republican staff and Republican 
Members to make sure that we have all the hearings that's 
necessary and I think it's appropriate that we will look at 
them and we will hold a hearing on it. And we will have to 
discuss the date. 
    Mr. Davis of Virginia. Mr. Chairman, let me just add that 
we look forward to working with you on that. I think Freddie 
and Fannie are huge pieces of this puzzle, and our testimony 
today illustrates that as well. It's a shame that the 
committees of jurisdiction didn't hold hearings on this 18 
months ago. I think we might not have been in the bind we're 
in. But I very much appreciate you calling this now and that we 
can examine what happened and what we might do as we move 
forward in the future.
    Chairman Waxman. Thank you. I do want to mention that one 
of the reasons we hadn't scheduled that as the first hearing, 
as some Members suggested, is that the committee of 
jurisdiction just held a hearing on Freddie Mac and Fannie Mae 
2 weeks ago with their CEOs. So we thought we would go into 
this in a different direction.
    Mr. Shays. Would the gentleman yield just for a second 
question?
    Chairman Waxman. Yes.
    Mr. Shays. We have 360 degrees jurisdiction over every 
activity of government for investigation. We have no 
jurisdiction in any of these issues to promulgate legislation. 
So I just don't want there to be the impression that somehow we 
don't have jurisdiction over Fannie and Freddie. We have total 
jurisdiction to examine anything they have done.
    Chairman Waxman. I don't think anybody would deny that.
    Mr. Davis of Virginia. We don't have jurisdiction over 
anyone. We have oversight.
    Chairman Waxman. Oversight jurisdiction. I think that's 
what the gentleman from Connecticut was referring to.
    You've been very generous in your time and in your answers 
to the questions.
    Mr. Davis of Virginia. Mr. Chairman, can I just say thank 
you very much. I think they're great witnesses. I think you've 
added a lot to both sides of the record.
    Chairman Waxman. And let me ask unanimous consent of the 
committee that all the documents and exhibits that have been 
referred to by members of the committee be made a part of the 
hearing record.
    Mr. Davis of Virginia. Mr. Chairman I also just ask 
unanimous consent to have AIG's PAC contributions over the last 
decade be put in the record as well.
    Chairman Waxman. Without objection, they will be put in the 
record as well.
    Thank you very much. We will move on to the next panel, but 
we will break for sufficient time for these witnesses to leave 
and for the next two witnesses to come to the table.
    [Brief recess.]
    Chairman Waxman. The committee will please come back to 
order.
    We're pleased now to welcome to our committee hearing 
Martin Sullivan, who served as the CEO of AIG from March 2005 
until June 2008. Before being named CEO, Mr. Sullivan served as 
vice chairman and co-chief operating officer of AIG. And Robert 
Willumstad, who served as CEO of AIG from June 2008 until 
September 2008. Prior to being named CEO, Mr. Willumstad served 
as chairman of AIG's Board of Directors beginning in November 
2006. He was first elected to AIG's Board of Directors in 
January 2006.
    We're pleased to welcome both of you to the hearing. It's 
the practice of this committee that all witnesses who testify 
before us do so under oath. So I'd like to ask if you would to 
please stand and raise your right hands.
    [Witnesses sworn.]
    Chairman Waxman. The record will indicate that both the 
witnesses answered in the affirmative. And before we even 
begin, I'd like the police officer in charge to take the person 
who's holding up a sign and let's get that cleared out of the 
room right now. That woman who was holding up the sign, who 
intends to hold up a sign and to make a raucous. I don't think 
it's appropriate in a congressional committee.
    Gentlemen, your prepared statements will be in the record 
in full. And we want to recognize you for any oral presentation 
that you wish to make. While we usually give 5 minutes and I 
know you're mindful of that, I don't want to limit you in any 
way in the amount of time you have to make your statement.
    Mr. Sullivan, why don't we begin with you?
    Mr. Sullivan. Thank you very much, Mr. Chairman.
    Chairman Waxman. There's a button on the base of the mic.
    Mr. Sullivan. It's on. Is that much better? OK. I have it 
now. Thank you.
    Chairman Waxman. OK. That's better.

   STATEMENTS OF MARTIN J. SULLIVAN, FORMER CHIEF EXECUTIVE 
OFFICER, AIG; AND ROBERT B. WILLUMSTAD, FORMER CHIEF EXECUTIVE 
                          OFFICER, AIG

                STATEMENT OF MARTIN J. SULLIVAN

    Mr. Sullivan. Thank you, Mr. Chairman, and a very good 
afternoon. My name is Martin Sullivan. As you said, from March 
2005 until June of this year, I was president and chief 
executive officer of AIG. Though I was no longer with the 
company as the events of last month unfolded, I'm here today to 
assist the committee in understanding the events that led to 
the Federal rescue of AIG, how the example of AIG fits into the 
broader financial crisis currently plaguing the world economy, 
and the regulatory lessons that we can learn from AIG's 
experience.
    People around the world are reeling from the financial 
tsunami that has ravaged the global economy. While we had all 
hoped the unfortunate collapse of Bear Stearns this past spring 
would be an isolated incident, instead the financial storm 
gained momentum and many of the world's most respected 
financial institutions crumbled one after another. The Federal 
Government took control of Freddie Mac and Fannie Mae, Lehman 
Brothers and IndyMac declared bankruptcy and Washington Mutual 
and Wachovia had to be taken over to avoid a similar fate.
    Meanwhile, other prominent institutions sought additional 
capital, merger partners and redefined their corporate status. 
Of course AIG avoided potential bankruptcy only with the help 
of the government.
    Now the U.S. Government is establishing a $700 billion fund 
to provide additional relief to threatened financial 
institutions.
    I hope that my testimony about these events that occurred 
during my tenure at AIG can help the committee understand the 
formation of what is best described as a global financial 
tsunami. While we're all struggling to understand how this 
crisis happened in the first place and to find out what might 
have prevented it, there are no simple answers to these 
questions. I'm not an accountant nor an economist. I've been an 
insurance man all my life. However, many factors appear to have 
been at play, including lending and borrowing practices, 
illiquid markets, the absence of credit, loss of investor 
confidence, and even accounting rules which require companies 
like AIG to take billions of dollars of unrealized mark-to-
market losses.
    When in 2005 the AIG board asked me to step into the role 
of Chief Executive Officer, the company was straining under the 
weight of several crises very different from the financial 
crisis currently threatening our financial institutions. I 
became COO of AIG at a time when the company was in the midst 
of governmental investigations that had cast a cloud of 
suspicion over the company's future. In the face of that crisis 
my responsibility was to stabilize the ship and improve our 
relationships with our regulators. I think I succeeded.
    It was against that backdrop that I began my tenure as CEO 
of the company. I'm very proud to say that in spite of these 
challenges AIG emerged as a successful and resilient company. 
In 2006 and in early 2007 AIG was enjoying great success, and 
those of us within the company's management had tremendous 
confidence in our company's future.
    However, as we now know, the different storm was gathering 
over the global financial markets. No disaster as massive or as 
unforeseen and as unprecedented financial market disruption 
that has occurred over the past year is the result of a simple 
or single cause. The world's current economic challenges are 
obviously related to multiple actions by multiple parties.
    To assist the committee, I would like to focus on one 
particular factor, the role played by one accounting rule 
applied to corporations. The accounting rules require that 
certain assets be mark to market. In other words, companies 
must declare the value of those assets on a quarterly basis at 
the price such assets could sell for on the market at that 
point in time. Companies must declare these values on their 
books even if they have no intention of or immediate need to 
sell the assets or even if they have not realized any actual 
gain or actual loss.
    FAS 157, which was adopted relatively recently, set out 
specific guidelines as to how companies must determine the 
market price of certain categories of assets. However well FAS 
157 operates under any reasonably foreseeable market conditions 
in the unprecedented credit crisis which began in the summer of 
2007, FAS 157 had, in my opinion, unintended consequences. In a 
distressed market where assets cannot be readily sold companies 
are forced to declare the value of those assets at fire sale 
prices.
    Just last week the SEC made changes with respect to the 
application of FAS 157 when entire markets stop functioning. Of 
course AIG did not have the benefit of this guidance during my 
tenure. At AIG I encountered FAS 157's unintended effects 
through the credit default swap portfolio of AIG financial 
products, the business that my predecessor had established and 
funded many years earlier. These credit default swaps 
essentially provided insurance to counterparties in the case of 
default on underlying bonds. The underlying bonds were very 
highly rated and the risk of default was viewed as extremely 
remote.
    Finally, the credit default swap business had since its 
inception in the late 1990's generated a reliable and steady 
source of income for AIG-FP. In fact, AIG-FP intended to retain 
its derivative interest in these highly rated bonds until they 
reach maturity. When the credit market seized up, like many 
other financial institutions, we were forced to mark our swap 
positions at fire sale prices as if we owned the underlying 
bonds even though we believed that our swap positions had value 
if held to maturity. The company nevertheless began reporting 
billions of dollars of unrealized losses on the basis of then 
current market valuations. Suddenly a company with a trillion 
dollars of assets was reporting unrealized losses on its income 
statement that ultimately climbed into the tens of billions. As 
AIG's reported losses mounted, there was a domino like series 
of repercussions. Although we had raised approximately $20 
billion in capital, it appears that even this precaution was 
not sufficient protection in the face of the overwhelming and 
unprecedented market crisis that exists today. AIG nevertheless 
suffered credit rating downgrades which triggered billions of 
dollars in collateral cause leading to the most recent events.
    Of course by the time the board was presented with the 
Federal plan, I had been out of the company for 3 months. In 
fact, just last week both the Securities and Exchange 
Commission and this Congress recognized the effects of FAS 157. 
The SEC recognized that FAS 157 can have unintended 
consequences for financial institutions where markets seize up. 
The SEC has attempted to provide more flexibility for companies 
operating and reporting under the rule.
    In the recently passed legislation Congress directs the SEC 
to further examine mark-to-market accounting and grants the SEC 
authority to suspend mark-to-market accounting requirements. 
These measures make a lot of sense to me.
    I have spent my entire adult life in service to AIG, and I 
am heartbroken as to what has happened. I hope to see the 
company and indeed the entire global economy emerge from this 
crisis.
    I hope that my testimony today has been helpful to the 
committee, and I will do my very best to answer any questions 
you may have. Thank you, sir.
    [The prepared statement of Mr. Sullivan follows:]

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    Chairman Waxman. Thank you very much, Mr. Sullivan. Mr. 
Willumstad.

               STATEMENT OF ROBERT B. WILLUMSTAD

    Mr. Willumstad. Good morning, Chairman Waxman, Ranking 
Member Davis, and members of the committee.
    AIG remains a great company, and I want to stress that 
AIG's problems never threatened AIG's policyholders. The crisis 
that required AIG to accept assistance from the Federal Reserve 
is a crisis in confidence that has affected the entire global 
economy. When I became CEO of AIG in June of this year, the 
decline in the U.S. housing market had already been underway 
for months. Though most homeowners were still making their 
mortgage payments, there was an unexpected and unprecedented 
breakdown in the market for mortgage-backed securities that 
were held by many banks and other financial institutions.
    Mark-to-market accounting rules forced AIG along with 
Citigroup, Merrill Lynch, and others to book tens of billions 
of dollars in accounting losses. By the end of the second 
quarter of 2008, AIG had booked $50 billion of losses. AIG was 
downgraded by the major rating agencies in early May. And AIG's 
stock price fell from a high in 2007 of $72 per share to $26 
per share this June. This decline occurred despite raising $20 
billion in new capital and the vigorous actions of AIG's board 
and Martin Sullivan before I became CEO.
    In June 2008, the board asked me to replace Martin Sullivan 
as CEO. I was initially reluctant to do so. However, the board 
ultimately persuaded me that my experience in the financial 
services industry, including my time as President and Chief 
Operating Officer of Citigroup, put me in a position to lead 
AIG in this difficult period.
    On my first day as CEO I publicly announced that I would 
present my plan for AIG in 90 days. It became apparent that if 
the markets continued to decline and if AIG were further 
downgraded by the rating agencies, AIG could potentially face a 
liquidity problem.
    I met with the rating agencies in July, and they told me 
they would not review AIG's ratings until after I announced our 
plan, which was then scheduled for September 25. Even so, I 
immediately took steps to cut expenses and further protect AIG 
in the event of a liquidity problem.
    We identified nonstrategic businesses, retained financial 
advisers and began the process of selling those businesses to 
raise cash. To conserve cash, we stopped discussions relating 
to a number of acquisitions. We were negotiating a transaction 
with Berkshire Hathaway that would have protected billions of 
dollars of AIG's liquidity.
    In late July I met with the President of the Federal 
Reserve Bank of New York to discuss the situation. These were 
precautionary steps. Through the first week of September we 
believed AIG could weather the difficulties in the financial 
markets. When the market meltdown began the week of September 
8th, the rating agencies indicated they would no longer wait to 
review AIG's ratings until September 25. AIG was in a vicious 
circle. The rating agencies were considering a downgrade 
largely because of market-driven liquidity concerns. But it was 
a downgrade or the threat of one that would trigger a liquidity 
crisis.
    We worked around the clock during the week of September 8th 
to take measures that would provide AIG the liquidity needed to 
make it through the crisis, but the private markets simply 
could not provide enough liquidity. On September 9th I met 
again with the Federal Reserve Bank, and during the rest of the 
week I stayed in contact with the Federal Reserve and the 
Treasury Department.
    On Tuesday, September 16, 2008, AIG was preparing for the 
unthinkable, bankruptcy. That afternoon the Federal Reserve and 
the Treasury Department told AIG they would provide the 
necessary liquidity because an AIG bankruptcy would have 
massive negative effects on the stability of the entire 
financial system. Terms of the offer were nonnegotiable. After 
a long discussion and with the advice of counsel and our 
financial advisers, the AIG Board of Directors accepted the 
Federal Reserve's plan as the best available option.
    As part of that plan I was asked by the Treasury Department 
and the Federal Reserve to step down as CEO, and I did so.
    Looking back on my time as CEO, I don't believe AIG could 
have done anything differently. The credit default swap 
contracts had been in place for years. The market seizure was 
an unprecedented global catastrophe. We and our advisers 
explored every avenue. There was no private market solution to 
AIG's situation.
    I regret the pain that events in the market have caused AIG 
employees and its shareholders. I'm grateful that the Treasury 
and the Federal Reserve and, most important, the American 
people offered their assistance to preserve a vital part of the 
financial system and a great American institution.
    Because my 3-month tenure as Chief Executive Officer did 
not provide me the opportunity to execute my restructuring plan 
and in light of the fact that AIG shareholders and employees 
have lost so much value, I have notified the company I do not 
intend to accept the payments available to me under the AIG 
severance plan.
    Thank you.
    [The prepared statement of Mr. Willumstad follows:]

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    Chairman Waxman. Thank you both very much. We are now going 
to have questions for members of the panel. And without 
objection, the chairman and the ranking member will be allotted 
10 minutes each to use as they see fit. And without objection, 
that will be the order.
    Both of you seem to be saying that these events had nothing 
to do with your management. It had to do with the tsunami of 
activities over which you had no control. And we're trying to 
assess whether that's true or whether there was mismanagement 
by the executives at AIG.
    Now I want to submit for the record a disturbing letter 
that I've received from Joseph St. Denis. He's a very reputable 
man. He was Assistant Chief Accountant at the SEC Enforcement 
Division. He was hired by AIG to address material weaknesses 
cited by AIG's auditors and to provide greater visibility and 
control with respect to the operations and accounting policy 
process of AIG-FP. Mr. St. Denis says that in 2007--and without 
objection, his letter will be made part of the record--he says 
in 2007 he became concerned about the valuation model used by 
AIG's Financial Products Division. But when he tried to audit 
this division he was blocked by Mr. Cassano, who was the head 
of that division. Mr. St. Denis wrote the committee that the 
only--what Mr. Cassano said was that I have deliberately 
excluded you from the valuation of the super seniors because I 
was concerned that you would pollute the process. That's what 
Mr. Cassano said to Mr. St. Denis. And Mr. St. Denis said to 
the committee, the only pollution Mr. Cassano was concerned 
about was the transparency I brought to AIG-FP's accounting 
policy process.
    [The information referred to follows:]

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    Chairman Waxman. Mr. Sullivan, you were the CEO at the 
time. Mr. St. Denis was hired to give you insight into Mr. 
Cassano's activities. And he said he was blocked from doing 
that. And he resigned.
    Were you aware of this?
    Mr. Sullivan. To the very best of my knowledge, sir, I 
don't believe I ever saw the letter. But I do recall the 
content being brought to my attention. And I understand that a 
very thorough investigation both from our compliance people and 
from I believe the audit committee--I'm not sure on that. But 
certainly compliance and legal looked into what Mr. St. Denis 
was saying. Of course at that time we were already putting in 
place compensating controls to make sure that our valuation 
process was obviously accurate.
    Chairman Waxman. You were trying to put these controls in, 
but the man who was hired by your company to give you the 
information as to what controls were needed was fired because 
he was told he couldn't look into what was happening in this 
particular division of AIG, the FP Division, from which all the 
problems seemed to arise.
    Mr. Sullivan. From the very little I know about Mr. St. 
Denis, and I have no reason to believe he's not a first-class 
individual, I think he resigned, sir. I don't think he was 
terminated.
    Chairman Waxman. He resigned because he was blocked from 
doing his job.
    Mr. Sullivan. Exactly. And I think, as I said, from what I 
recall about the letter, it was investigated from the legal and 
compliance people. But at the same time obviously we were 
trying to put compensating controls in there to make sure that 
our results were as accurate as possible.
    Chairman Waxman. He said he reported Mr. Cassano's actions 
to AIG's independent auditors. He also said that he spoke with 
AIG's Director of Internal Audit Michael Roemer. Mr. Roemer 
thought this was a serious matter, and on November 6, 2007, he 
personally briefed the board's audit committee on Mr. St. 
Dennis' resignation, according to minutes from that meeting.
    Mr. Willumstad, you were the chairman of the board at this 
time. What steps did you and the board take to investigate this 
matter?
    Mr. Willumstad. I actually don't remember the comments in 
the audit committee.
    Chairman Waxman. You do not remember?
    Mr. Willumstad. I do not.
    Chairman Waxman. Well, we don't have a full record of the 
committee. But we did request all the minutes of the audit 
committee. And there's nothing we can see that indicates that 
AIG took any action to respond to Mr. St. Dennis' concerns. So 
it looks like you both brushed it aside. Is that an unfair 
characterization?
    Mr. Willumstad. I don't recall the audit committee or the 
comments. So I can't answer that.
    Chairman Waxman. And you were the chairman of the board at 
that time?
    Mr. Willumstad. I was.
    Chairman Waxman. And Mr. Sullivan, you were the CEO. And 
you don't have much recollection of this either.
    Mr. Sullivan. Other than I believe I recall that it was 
investigated by legal-compliance, and as you refer to, the 
internal audit division, sir.
    Chairman Waxman. Well, the reason of course why this is 
significant is that this man was brought in to find out about 
these kinds of problems which ended up bringing AIG to its 
knees, and it could have given you that information except he 
was blocked by the fellow in London, Mr. Cassano, who didn't 
want him to know what Mr. Cassano was up to. So I just find 
that very disturbing.
    I'm going to reserve the balance of my time and recognize 
Mr. Davis.
    Mr. Davis of Virginia. Thank you, Mr. Chairman. Mr. 
Sullivan, according to the documents obtained by the committee, 
on March 11, 2008, it was recommended that losses in AIG-FP not 
be considered when calculating your compensation package. How 
do you justify this while also advocating pay for performance 
as a prudential standard for executive compensation?
    Mr. Sullivan. First of all, sir, can I just clarify that my 
compensation was obviously discussed in executive session and 
with the compensation committee. And they ultimately made a 
recommendation to the board at large who ultimately had to 
approve my compensation. From what I can recall, and if--if 
you're referring--it would be helpful if I could know the 
minutes you're referring to, but some were put up on the screen 
earlier. But if you're referring to the discussions we had on 
the super senior--the senior partners and the partners plan, is 
that what you're referring to, sir?
    Mr. Davis of Virginia. We asked the staff to get that. I 
will go on for another question.
    I was just looking at your resume. And I saw that you went 
to the Sydney Russell School and were very generous to them 
afterward. Did you have further education after that?
    Mr. Sullivan. I put myself through night school, sir, and 
became a chartered insurer. I received my associateship at the 
Charter Insurance Institute in the United Kingdom.
    Mr. Davis of Virginia. OK. You joined AIG in 1971?
    Mr. Sullivan. Yes, sir, when I was 17.
    Mr. Davis of Virginia. When you were 17 years old.
    Mr. Willumstad, can you tell us how the mark-to-market 
accounting rules affected AIG's position and do you think it 
contributed to the deterioration of the company?
    Mr. Willumstad. Well, I would like to make a couple of 
comments. I have no concern or problems----
    Mr. Davis of Virginia. Could you move that closer to you? 
Thank you.
    Mr. Willumstad. I would make a couple comments about mark 
to market. One, I have no concerns about the validity of mark-
to-market accounting. I think the concerns that I've shared in 
my written statement is that when there is no market, the 
ability to value securities based on FAS 157 becomes somewhat 
difficult and requires a fair amount of judgment. There are, as 
I said, no specific market for these securities. And the 
company, along with others, has to go through a process which 
uses formulas and other indicative prices to come up with these 
values. So accordingly, it's very difficult to determine 
whether the values are actually correct.
    According to the procedures that AIG followed, there were 
very substantial writedowns in these securities.
    Mr. Davis of Virginia. So did it help or hurt you?
    Mr. Willumstad. Well, it obviously resulted in substantial 
writedowns, which were obviously not helpful to the company.
    Mr. Davis of Virginia. Your statement alludes to the fact 
that in 2005 AIG stopped writing policies on multi-sector 
credit default swaps. So somebody I guess at AIG saw that there 
were problems or questions with this portion of the business. 
Why did AIG stop writing these policies?
    Mr. Willumstad. I don't know. I was not on the board at 
that time.
    Mr. Davis. Mr. Sullivan, do you know why?
    Mr. Sullivan. Sorry, sir?
    Mr. Davis of Virginia. In Mr. Willumstad's statement he 
talked about that AIG in 2005 stopped writing policies on 
multi-sector credit default swaps. Obviously they did that--
somebody recommended this inside and this was an early warning 
signal. Can you tell us----
    Mr. Sullivan. Yes. From the best of my recollection based 
on what I understood, because obviously at that time I was very 
focused on resolving the regulatory issues that AIG was facing 
and making sure that we got our accounts issued. Obviously 
there was a big delay in 2005 in our issuing our accounts. From 
what I understand on investigation, that decision was made by 
AIG-FP in conjunction with the risk management--the risk--the 
chief risk officer and chief credit officer of AIG.
    Mr. Davis of Virginia. So they saw a problem obviously.
    Mr. Sullivan. Again, from what I understand, they saw a 
deterioration in pricing and were beginning to get concerned 
about credit quality. So they took a very proactive step in 
2005.
    Mr. Davis of Virginia. Did AIG rely heavily on the 
mortgage-backed assets of Fannie Mae and Freddie Mac? And did 
their demise play a role?
    Mr. Sullivan. I don't know the answer to that, sir.
    Mr. Davis of Virginia. Is there any linkage between AIG and 
the GSEs in terms of what was happening with Freddie and Fannie 
buying these with implied government backing?
    Mr. Sullivan. I'm not aware of what our exposure was to 
Freddie or Fannie off the top of my head, sir.
    Mr. Davis of Virginia. OK. I have your statement up here on 
the board. And I'll ask you----
    Mr. Sullivan. Thank you for putting that up. I appreciate 
that.
    When I was talking to the compensation committee on March 
11th, what I was proposing there was the--what they--proposing 
what they should actually award the partners and the senior 
partners. And as I think somebody mentioned earlier, there was 
700 partners and there were about 70 senior partners. And I was 
making a recommendation--and by the way, I should stress, 
nobody in AIG-FP participated in this partners plan or senior 
partners plan. And what obviously I was anxious to do was to 
make sure that we retained our key people. See, shareholders 
would expect me to be focused on retaining our key people in 
those parts of the business, the insurance businesses and other 
sectors of the businesses that were performing well whilst 
these unrealized losses but nonetheless losses--nobody is 
differentiating between----
    Mr. Davis of Virginia. So what you are saying is with these 
sectors, they were meeting their goals, they were doing their 
job. In other sectors they weren't.
    Mr. Sullivan. Not everybody was hitting targets. Some were 
exceeding, some were not exceeding, as you would expect in a 
business. But what I was anxious to do is to make sure that we 
retained the 700 key executives that, you know, were running 
other parts of our business and participating in other parts of 
our business and were not in AIG-FP. The important distinction 
there is nobody is in AIG-FP participated in these programs.
    Mr. Davis of Virginia. Mr. Willumstad, you don't see any 
relation between what was happening with Freddie and Fannie and 
what was happening with AIG then? Do you agree with Mr. 
Sullivan?
    Mr. Willumstad. I do not.
    Mr. Davis of Virginia. Did the accounting scandals there 
raise a red flag, that you were insuring investments that could 
be tainted that were coming out of there?
    Mr. Willumstad. I'm sorry. Could you----
    Mr. Davis of Virginia. You were buying, you were getting 
into some of the business. Did the accounting scandals at 
Fannie and Freddie raise any red flags as to whether you were 
insuring investments that might be tainted?
    Mr. Willumstad. No.
    Mr. Davis of Virginia. OK. Let's take you both to the early 
2000 timeframe. Is there anything in government regulation 
going back to this early timeframe that would have changed your 
business model and would have prevented this catastrophe?
    You were somewhere else at that point, Mr. Willumstad. But 
with Citigroup.
    Mr. Willumstad. That's correct.
    Mr. Davis of Virginia. Mr. Sullivan.
    Mr. Sullivan. Can I just clarify? You mentioned the year 
2000, sir?
    Mr. Davis of Virginia. In that timeframe, yes.
    Mr. Sullivan. Maybe it's helpful for the committee there. 
But from the best of my knowledge, the CDS portfolio started to 
be underwritten in the late 1990's, 1998. And obviously as I 
testified----
    Mr. Davis of Virginia. But the rules were changing as we 
speak. What happened in that timeframe of course is you had 
several rule changes taking place at Congress statutorily.
    Mr. Sullivan. Well, if you're referring to my comments 
regarding FAS 157 in particular?
    Mr. Davis of Virginia. Well, no, I'm talking about the 
regulatory framework on the commodities futures and Glass-
Steagall repeal, those kinds of things.
    Mr. Sullivan. Right. I don't think anything in the 
regulatory field to the very best of my knowledge would have 
changed what occurred. You're going back to 1998.
    Mr. Davis of Virginia. That's what I'm asking.
    Mr. Sullivan. I don't.
    Mr. Davis of Virginia. I'll reserve the balance of my time.
    Chairman Waxman. Mr. Sullivan, just so I have this correct, 
you asked that your bonus based on performance not count the 
losses at AIG-FP, is that right?
    Mr. Sullivan. No, sir. What I was referring to here was 
what should be paid under our partners and senior partners 
plan.
    Chairman Waxman. You were included in that.
    Mr. Sullivan. I was included in that. But at the time I was 
speaking----
    Chairman Waxman. So everybody in that group, including you, 
got the bonuses as if you performed very well because you 
didn't count the losses?
    Mr. Sullivan. But with respect, sir, the compensation 
committee of our board sets my remuneration and it's then 
discussed with the board at large. They could have.
    Chairman Waxman. But you requested the board to take that 
position?
    Mr. Sullivan. On behalf of the employees of AIG, yes, sir.
    Chairman Waxman. Including yourself?
    Mr. Sullivan. But trust me, I was focusing on them more 
than me.
    Chairman Waxman. AIG-FP, they were getting paid bonuses 
that were even higher than the bonuses you were getting, isn't 
that correct?
    Mr. Sullivan. In certain instances, yes, sir. In most 
instances.
    Chairman Waxman. So everybody did really well even though 
there were losses. You didn't get penalized, you and the others 
you represented. You are getting penalized because of the 
losses, even though your bonus was dependent on--getting a 
bonus higher if you got earnings, higher earnings, higher 
bonus. You got lower earnings and therefore you still got the 
bonus. And AIG-FP got their bonuses because they were being 
handled in a different way even though they were the ones 
bringing on the losses. Is that a fair statement?
    Mr. Sullivan. Just for clarity, sir, with regard to my 
bonus it was substantially reduced in 2007 by AIG's Board of 
Directors, which I concurred with. With regard to AIG-FP, I 
don't believe--and again, this is from the very best of my 
recollection--that they received their bonuses in 2007. I think 
we put in place a deferred compensation plan--again I'm doing 
this from memory. But they certainly received their bonus for 
2006 and prior.
    Chairman Waxman. OK. Mrs. Maloney.
    Mrs. Maloney. Thank you, Mr. Chairman. We heard from our 
first panel that one of the key factors that caused this 
financial mess was not accounting rules that shed light on 
these risky exotic tools that you were investing in, have no 
value and that people don't want to buy them. What the first 
panel said was that one of the key factors was inadequate 
deregulation of so-called credit default swaps. And it is a $58 
trillion market, double the size of the entire New York Stock 
Exchange. The market is four times larger than our national 
debt. But unlike the stock exchange, the swap market has no 
transparency, no rules and no oversight.
    The result of the failure to regulate these credit default 
swaps seems pretty clear. AIG had to be bailed out by the 
taxpayers because of your risky investment in credit default 
swaps. And I for one don't think any of the management deserves 
a bonus or any pay from the taxpayers' purse and certainly not 
an exotic weekend to discuss the future of AIG, which was a 
great company.
    You have cost my constituents and the taxpayers of this 
country $85 billion and run into the ground one of the most 
respected insurance companies in the history of our country. 
And the company's failure has tremendous implications in our 
entire economy. I got hundreds of calls from constituents 
concerned about AIG because of their interaction with this 
company.
    So I would like first to ask you, Mr. Sullivan, do you 
believe the swaps markets should be regulated?
    Mr. Sullivan. Well, obviously with the benefit of 
considerable hindsight, if there is good regulation that can be 
put in place, personally I would support that.
    Mrs. Maloney. And Mr. Willumstad, do you believe that a 
swap market should be regulated?
    Mr. Willumstad. Yes.
    Mrs. Maloney. Could you give to this committee how much AIG 
lost in these swaps? Do you have any idea? Out of the $58 
trillion, how much is held by AIG? Could you get to us back in 
writing? Maybe that is something you would need to look at.
    I would also like to ask you, Mr. Sullivan, that if the 
same rules that had applied to your insurance company where you 
had some backup and some reserves, would this have avoided the 
bailout that AIG is confronting now?
    Mr. Sullivan. Well, Congresswoman, at the time I left the 
company I believed it was well capitalized and had the 
liquidity to work its way through.
    Mrs. Maloney. But the swaps had no capital behind them. Do 
swaps have any capital behind them?
    Mr. Sullivan. Well, only the capital ultimately of AIG.
    Mrs. Maloney. Pardon me?
    Mr. Sullivan. Only the capital ultimately of the holding 
company.
    Mrs. Maloney. I'm talking about the swaps. There was no 
capital reserve behind those swaps, right?
    Mr. Sullivan. That's right.
    Mrs. Maloney. So you were gambling billions, possibly 
trillions of dollars.
    Mr. Sullivan. Well, I wouldn't refer to it as gambling. 
These transactions were individually underwritten very 
carefully. And maybe I can provide some more background to you 
that may be helpful.
    Mrs. Maloney. If they were carefully underwritten how come 
no one wants to buy them? And our first panel said when you 
securitize them the first time, maybe the second time they had 
value. But when you get to the sixth and seventh time that 
there's no value there. That's what the first panel said. And 
you did not follow the insurance rules of having any collateral 
or capital behind these risky swaps.
    Mr. Sullivan. Maybe it would be helpful--because there was 
a lot of generalization in the first panel. Maybe it would be 
helpful if I just explain. And as I say, I'm not an accountant.
    Mrs. Maloney. But you did make a good decision not to sell 
them anymore after 2005?
    Mr. Sullivan. Or underwrite. To accept any more swaps after 
2005.
    Mrs. Maloney. You must have realized that they didn't have 
any value. And what I'm angry about now is when you blame 
accountants for coming forward looking at a product and saying 
it has no value because absolutely no one in the entire world 
wants to buy it. It's not their fault. You want them to say 
there's value there when there's none? I believe in the fair 
market value. If no one wants to buy it, I think there's an 
indication that there's no value there, that you were 
generating fees, making all of your employees rich, wrecking a 
great company, and tearing down our economy, and now turning to 
the taxpayers and asking us to bail you out.
    I think you should be apologizing to the American people 
for your mismanagement.
    Mr. Sullivan. Well, maybe it would be helpful if I can. 
First of all, I'm not blaming accountants. I said in my 
testimony----
    Mrs. Maloney. You said the mark-to-market rules, which is 
how accountants determine whether there is fair market value, 
they have determined no one wants to buy it. Therefore, it does 
not help their market value. That--I believe they're shedding 
light on the problem. And there have been many memos from many 
executives saying they should change the accounting rules and 
say there's value there when there is no value.
    Chairman Waxman. The gentlelady's time has expired.
    Do you want to make any comment?
    Mr. Sullivan. With the utmost respect, what I said in my 
testimony was the unintended consequences of FAS 157. I have 
never criticized FAS 157. My concern, which ultimately the SEC 
and this Congress have concurred with, when I made my remarks, 
I started making these remarks back in March of this year, was 
the unintended consequences of trying to mark to market these 
assets in an illiquid market.
    And one of the concerns I had, if I may, again which may be 
educational, is back many years ago, many of you may recall the 
Piper Alpha exploded in the North Sea, if you remember the 
tragic circumstances of Piper Alpha exploding. There was 
something in the London market insurance area that was called 
the London market spiral. And what Piper Alpha precipitated was 
a spiraling effect throughout the market that forced the market 
ultimately to collapse. The London market insurance fire was no 
longer there.
    What I saw in early 2008 was what I believe was an 
unintended consequence of FAS 157. I wasn't attempting in any 
way, shape, or form to criticize it. What I was trying bring to 
everybody's attention and what I'm trying to bring to 
everybody's attention today was the unintended consequence of 
trying to mark to market assets that had value, that you were 
happy to hold to maturity, that interest was being paid, 
dividends were being paid, but you couldn't mark to market in 
an illiquid market. And that was, with the greatest respect, 
the point I was trying to make.
    I don't think there is any one individual, any one entity, 
any one body that you can point the finger to. I think when you 
look back and see these great institutions that we are 
addressing today and this committee has addressed in the past, 
if you look at the German Government guaranteeing bank 
deposits, you look at the Irish government----
    Chairman Waxman. Mr. Sullivan, we're going to have more 
questions.
    Mr. Sullivan. I'm terribly sorry, but I'm trying to bring 
it in perspective if I may. I'm not trying to point the finger 
at accountants or FAS 157; I'm trying to raise the issue of 
unintended consequences.
    Chairman Waxman. Mr. Davis you wanted to say something 
else?
    Mr. Davis of Virginia. I yield myself a couple of minutes 
because I'm still puzzled by both of your comments about not 
relying on Freddie and Fannie.
    My understanding is people would buy these secondary 
mortgages. And you had said you would sell them credit default 
swaps; isn't that what happened?
    Mr. Sullivan. Yes. We were selling, to the very best of 
knowledge----
    Mr. Davis of Virginia. But you weren't relying on the fact 
that this government-backed group was insuring them and that 
had bought them originally. That had nothing.
    Now let me just tell where you I'm going with this. In 
documents submitted to the committee, a former AIG CEO Hank 
Greenberg asserts that in the 8 years from 1988 to March 2005 
AIG wrote credit default swaps on only about 200 CDOs; those 
are collateralized debt obligations. Only a handful, he says, 
of these were exposed to subprime mortgages. He goes on to 
assert that after his departure from AIG, the company under 
your leadership, Mr. Sullivan, wrote about 200 CDO credit 
default swaps in just 10 months, from March to December 2005, 
but that these, unlike his CDOs, were heavily exposed to 
subprime mortgages.
    Essentially, as I read it, Mr. Greenberg is blaming you for 
exposing AIG to the most risky credit default swaps. Do you 
agree with that assertion or not?
    Mr. Sullivan. Clearly not, sir. But what I again would 
point out, that these CDS swaps were being written since the 
late 1990's, not just in 2005----
    Mr. Davis of Virginia. I know they were written in the 
1990's. But my question here is, he's saying that in the early 
stages, it was not heavy on subprimes; that after this, it 
became very heavy with subprimes.
    You claim Freddie and Fannie have nothing to do with this, 
is what I heard you saying. You weren't relying on the fact 
that they were buying these up and that they had government 
backed. But you went ahead with this, according to Mr. 
Greenberg, and that in the 10 months before you stopped, that 
the alarm went out, that you were buying these up and that he 
says that's basically what put you at risky credit default 
swaps.
    In fact, in earlier testimony from Mr. Willumstad, he notes 
that the FP wrote a large number of instruments called credit 
default swaps over time, that they wrote insurance bank swaps 
on bonds with a face value of over $500 billion. Is that 
correct?
    Mr. Sullivan. From recollection, I don't believe the number 
got to $500 billion, but it was certainly in totality around 
$400 billion, yes.
    Mr. Davis of Virginia. And what are they actually worth?
    Mr. Sullivan. Well, that's the notional value, sir. Let me 
just point out if I may. Up until the time I left AIG, to the 
very best of my knowledge AIG had not suffered $1 realized 
loss.
    Mr. Davis of Virginia. They're still holding them, aren't 
they?
    Mr. Sullivan. They're still holding them. At the time, this 
valuation can come back. As these contracts mature, and they 
have an average tenure of 4 or 5 years, as these contracts 
mature, the valuation, assuming there is no loss under the 
contract, the valuations would come back.
    Mr. Davis of Virginia. But you carry them on the books as 
zero.
    Mr. Sullivan. Well, I'm not sure they're carried at zero, 
sir. They're mark-to-market valuation. But coming back to the 
point of 2005, I don't want to underestimate the fact that AIG 
was in a different sort of crisis in 2005. We had advised the 
market that they couldn't rely on our accounts. We had major 
regulatory issues that were dominating the focus of my 
attention. I had to negotiate with the SEC, the DOJ, my friends 
at the New York Insurance Department, as well as the New York 
Attorney General. And we had to stabilize a ship that could 
have come very much unglued. During that process of time 
obviously the capital markets division, AIG-FP, continued to 
write their business. Nobody had any concerns about the 
profitability of that business at the time. And as they 
progressed through 2005, as the Congresswoman said, you know, 
fortunately, you know, those people involved in the 
underwriting of that, including the corporate risk and 
corporate credit offices, made the determination that the 
market was deteriorating, not only in pricing but in credit 
quality, and made the decision fortunately to stop. That's the 
point I would like to make.
    The day I left the company, sir, all of these losses to the 
best of my knowledge were unrealized at the time, nonetheless 
losses but unrealized.
    Chairman Waxman. Thank you, Mr. Davis.
    Mr. Cummings.
    Mr. Cummings. Thank you very much, Mr. Chairman.
    Mr. Sullivan, are you, like Mr. Willumstad, considering 
giving back some of that money?
    Mr. Sullivan. No, I'm not, sir.
    Mr. Cummings. After the bailout on September 16th, the 
taxpayers in effect became the owners of AIG. That should have 
meant a change in its approach to executive compensation and 
benefits, but apparently, it did not. The committee has learned 
that a week after the bailout, executives from AIG's main life 
insurance subsidiary, AIG American General, held this week-long 
conference at an exclusive resort in California. Are you all 
familiar? Are you familiar with that at all?
    Mr. Willumstad. I am not.
    Mr. Cummings. The resort is called the St. Regis Monarch 
Beach Resort. We've gotten somepictures, and we put them up. 
And let me give you a sense of how exclusive the resort was. 
Rooms start at $425. Some cost as much as $1,200. And it's 
interesting, they've got, 5 nights they had a room for, a 
Presidential suite, for $1,600. And then they had 5 nights the 
royal suite, really nice and swanky, another $1,600 for 5 
nights; that was $8,000. And we contacted the resort, and we 
got a copy of the bill. AIG spent $200,000, $200,000, Mr. 
Sullivan, for rooms and $150,000 for banquets. They spent 
$23,000 for the hotel spa. I don't know whether you heard me 
asking the experts questions earlier. And of course, that was 
for the pedicures manicures facials massages and whatever they 
do in the spa. And they spent about $1,400 at the salon. The 
guests in the spa and salon actually had different amenities. 
They had all kinds of things at St. Regis. But they spent 
$7,000 on something very, very, important; that is green fees 
at the golf course. And then, I'm not even sure what this 
charge means, but my colleagues tell me that the $10,000 for 
leisure dining was for drinking.
    Mr. Willumstad, you're no longer CEO, and I understand 
that. When this all happened, do you--I mean, what's your 
opinion? I mean, you seem to be a very honorable man. Would you 
have gone along with that?
    Mr. Willumstad. Absolutely not.
    Mr. Cummings. And what do you think of it.
    Mr. Willumstad. It seems very inappropriate.
    Mr. Cummings. And it seems kind of--a very bad thing when 
you think about the fact that the U.S. taxpayers would be 
basically ending up paying for this, was that not correct?
    Mr. Willumstad. I'm not aware of the facts, but I'll take 
your word for it.
    Mr. Cummings. But could you understand why taxpayers would 
be upset?
    Mr. Willumstad. Of course.
    Mr. Cummings. And, Mr. Sullivan, I'm curious what were your 
views on this?
    Mr. Sullivan. Well, obviously I share Mr. Willumstad's 
comments. You know, obviously, I left the company many months 
earlier prior to Mr. Willumstad.
    Mr. Cummings. I understand.
    Mr. Sullivan. But if I had seen bills like that, I can 
assure you, as the CEO, I would have been asking questions. At 
the time I left, AIG within its travel department had a unit 
that organized conferences that were supposed to, obviously, 
get the best rates and make sure that the conferences were 
being held in appropriate locations. This is obviously some 
months later.
    Mr. Cummings. But you can understand why taxpayers would be 
very upset, wouldn't you? Couldn't you?
    Mr. Sullivan. Yes, sir.
    Mr. Cummings. I'm going to contact the AIG to find out who 
was responsible for all of this, because I think that person 
ought to be fired don't you.
    Mr. Sullivan. Well, without knowing the full facts, you may 
reach that conclusion when you reach those facts, but I don't 
know the facts, sir. I had left many months earlier.
    Mr. Cummings. One of the experts earlier said they wanted 
to make sure these kind of things did not happen again. What 
kind of--now that we the taxpayers of America are part of this 
process, what kind of things and procedures can we put in place 
to make sure these kinds of things don't happen again?
    Mr. Sullivan. Well, I think you have to look, and I think 
with respect to, Mr. Dinallo mentioned this at the time, that 
you need to look at for what purpose is this conference being 
used. You know, obviously, the company at that stage had gone 
through a transition. Maybe they believed it was an appropriate 
thing to calm everybody down. I think Mr. Dinallo made some 
reference to that.
    But as you look going forward as a manager, you would look 
at the appropriateness of, one, what's the reason for the 
conference? Is it appropriate? And what's the benefit to the 
company? And what's the appropriate cost that should be 
associated with that, as you would do with any management----
    Mr. Cummings. I do find it interesting that Mr. Willumstad 
knows nothing about it, but this came just a week after you 
left. Did you know that, Mr. Willumstad?
    Mr. Willumstad. I've heard you say that, but I was totally 
unaware that there was any plan for any conference.
    Mr. Cummings. So you wouldn't have been aware of this 
subsidiary spending some $500,000----
    Mr. Willumstad. I was not aware of that.
    Mr. Cummings [continuing]. In a week.
    Mr. Willumstad. I was not aware of it. And had I been aware 
of it, I would have prevented it from happening.
    Mr. Cummings. Thank you very much.
    Mrs. Maloney [presiding]. Mr. Cummings' time is expired.
    The Chair recognizes Mr. Souder.
    Mr. Souder. Thank you. One of the big frustrations that 
anybody watching this across America has is, both of you used 
the term market driven, financial tsunami, as if you weren't 
part of it. Do you feel you have any responsibility for what's 
happened in our economy with a huge company that the taxpayers 
now have put $61 billion in with $85 going, do you feel you 
have any personal responsibility?
    Mr. Sullivan.
    Mr. Sullivan. I take responsibility for everything that 
occurred as my tenure as AIG's president and chief executive. 
And that's the role of a president and chief executive----
    Mr. Souder. In other words, you're acting like, during your 
period, you were doing fine. You were having all these nice 
profits, and that somewhere between July and September, your 
company lost $61 billion that we've already had to bail out 
that--and you're claiming that the accounting rule which was 
the law, it was just a matter of interpretation of how to apply 
it, and I basically don't agree with how it was enforced and 
like many others have argued that was a wrong enforcement, but 
quite frankly, what it did was it showed up that your assets 
didn't have great value. And do you acknowledge that you are 
part what triggered the financial tsunami? That your risky 
strategies in your company--let me ask you another question. 
Your insurance division is fine, correct?
    Mr. Sullivan. To the very best of my knowledge at the time 
I left, certainly.
    Mr. Souder. Mr. Willumstad, wouldn't you say your financial 
division, we heard earlier, your financial division appears to 
be in good shape--I mean your insurance division.
    Mr. Willumstad. That's correct.
    Mr. Souder. Now, if your insurance division is in good 
shape, it means that this is concentrated in your financial 
services division. And your insurance division, which is also 
investing assets, chose not to invest in as risky of assets 
that didn't yield as much but were less risky. Is that not 
true? Or how would you explain that one division in a short 
period of time could have had $61 billion in taxpayer 
investment and your other division not needing it when your 
other division, as insurance companies do, also invests in 
properties, also have been struggling with mark to market, have 
also had, but have more regulation on the value of those assets 
prior to that decision? Why does not your risky strategies in 
the financial services show that, in fact, to get higher return 
you went for more risk in that category?
    Mr. Sullivan.
    Mr. Sullivan. Well, again, what I would like to point out 
is that we actually stopped running that business, thank 
goodness, in 2005. That's a point I would like to, because I 
don't think it was made clear in the first session that, 
fortunately, we had been in that business for some 10 years. 
But as my colleagues determined that market--you know, the 
credit quality was changing and the pricing of these----
    Mr. Souder. Let me clarify, because you referred to this 
several times. Are you saying that the $61 billion that we put 
in is mostly of things that were pre-2005.
    Mr. Sullivan. I don't know what the $61 million is, sir.
    Mr. Souder. $61 billion is what the taxpayers have already 
put in of the 85 to cover the losses of AIG. And are you 
maintaining that this is just to rescue bad decisions pre-2005, 
or is any of that money because you had questionable decisions 
between 2005 and 2008? Do you bear any responsibility? That's 
what I'm asking.
    Mr. Sullivan. Well, I want to be clear----
    Mr. Souder. You asked for raises because you said you were 
making profits a little bit ago. You said that you were making 
profits, that you hadn't lost any money. But yeah, but you had 
a shell that was anchored in less than secured mortgages that 
had been leveraged multiple times. Your insurance division, 
which also presumably has mortgages and other types of 
investments, seems fine. The question is, why weren't you 
warning your stockholders? Why weren't you making declarations 
that would leave your company--I mean, I have a business 
background, an MBA, just a small town business guy. But at the 
same time, you took incredible risk without warning people, and 
the evidence of that risk is that, one accounting--by your own 
explanation, one accounting rules change put your company 
under, and the taxpayers are putting $61 billion in; how in the 
world does an executive leave their company so vulnerable that, 
when they leave, all of a sudden they go broke when they were 
claiming they were making money before, and they act astounded 
like everything was just fine if they hadn't done this one 
accounting rule, which I don't agree that you have to balance 
out when the assets are going to be sold, I understand that, 
you're holding them long term. But the reason they're trying to 
do some of this kind of thing is we might have had a complete 
collapse if we hadn't done any mark to market here, we hadn't 
done any of these kind of accounting changes. Our assets were 
deteriorating, and we would have had an even bigger blowup 
later potentially. We needed some kind of a mix in there. But 
in effect, you left your company so exposed that when a little 
bit of softness came to the economy and it started down and 
they do an accounting change, you go belly up and stick 
everybody else in America with it, and you're saying, oh, it 
was a market tsunami, as if you didn't help cause it.
    Mr. Sullivan. Again, if I may, sir, with the utmost 
respect, in my testimony, if I emphasize FAS 157 as being the 
only cause, it was not, again with the greatest respect, I was 
not criticizing FAS 157. I was referring to its unintended 
consequences, which of course this Congress has now and the SEC 
have now recognized.
    There were many other reasons that have affected many other 
companies and many other countries around the world. It's not 
just the United States. This tsunami that many have referred 
to--others have mentioned the equivalent of financial Pearl 
Harbor, you know, much more intelligent people than I. There 
were many issues that contributed to this. As I mentioned, 
whether it was inappropriate lending or borrowing, whether it 
was lack of investor confidence, whether it was the freezing of 
the credit markets, I just in my testimony to be helpful to the 
committee focused on what I believed back in my tenor as AIG 
something that I was concerned about, which was the unintended 
consequences of FAS 157.
    And I responded to the Congressman earlier, at the time I 
left, as Mr. Willumstad articulated in his testimony, we had 
taken substantial unrealized losses, losses nonetheless. But at 
the end of the day, these CDS transactions at the time I had 
left the company had not incurred, to the best of my knowledge, 
$1 of realize. That's not to say they wouldn't as the situation 
progressed. But at the time I left the company, this was 
multiple issues, not one entity, not one individual. And that 
was the point I was trying to make. If I referred to FAS 157 
too much in my testimony, it was only because that was 
something I was particularly concerned about as--not being an 
accountant, but as, again, like you. Sir----
    Mrs. Maloney. The gentleman's time has expired.
    I yield 1 minute to the ranking member.
    Mr. Davis of Virginia. I guess the thing to all of us is 
puzzling is, how come you get bailed out, Lehman doesn't? Who 
makes these choices? It is kind of mysterious, I think, to a 
lot of us. The regrettable thing here is that you get bailed 
out. Your employees get to stay. Your shareholders take a bath, 
but you're bailed out because there would be a lot of 
collateral damage if we were to have not stepped in. That's at 
least the rationale that we are hearing from Treasury. But, 
frankly, given the quality of some of the decisions that were 
made, you deserve to fail.
    And it is, I think for a lot of us, puzzling why you were 
singled out and kept your doors open, your employees kept 
moving, while other companies were left to fail and just fall 
on their sword. And I think that's what's troubling to me and I 
think to a lot of other Members up here. And I think we'll 
explore more of that in the testimony and the questions as we 
follow.
    Thank you.
    Mrs. Maloney. Thank you.
    The Chair recognizes Congressman Kucinich for 5 minutes.
    Mr. Kucinich. I thank the gentlelady.
    It appears that in the last month this country has taken 
steps, unprecedented circumstances, unprecedented steps. We 
interfered in the free market. We bailed out Wall Street. The 
market is not responding. We see today's headline in the Wall 
Street Journal, ``Markets Fall on Doubts Rescues Will 
Succeed.'' And I think what this does is I think it raises 
questions as to whether it was wise for government to intervene 
directly in the markets and whether or not a financial rescue 
plan should have addressed the core problem, which is, tens of 
millions of Americans losing their homes, needing government to 
get a controlling interest in these mortgage-backed securities, 
so that we can work out a plan where people can get a break on 
their interest rates, on their principal, extended terms of 
their loan, and help people save their loans. We had other 
choices of priming or pumping the economy. We didn't do any of 
that.
    Now, questions are raised. For example, you talk about mark 
to market. AIG went into the government's hands on about 
September 18th. Interesting, mark to market was basically 
suspended on the 30th. I think the timing of that needs to be 
explored a little bit more carefully. We know it went into 
effect on November 15th. We've got a bailout plan by the 
Secretary of the Treasury which clearly is not working, and 
we've got--which the taxpayers are paying for, and we've got 
another $85 billion of a bailout for AIG.
    And according to the testimony submitted to this committee 
by former CEO of AIG Mr. Greenberg, he raises questions as to 
whether or not a government bailout of AIG was absolutely 
necessary. In fact, he admits there was a liquidity crisis that 
required action. But he goes on to say in his testimony, the 
action was, it was not necessary to do a government bailout. He 
said that it was not necessary to wipe out virtually all of the 
shareholder value held by AIG's millions of shareholders, 
including tens of thousands of employees and many more 
pensioners and other Americans on fixed income. He said that 
perhaps they could have filed bankruptcy, limited the parent 
company, and that millions of stockholders would have fared 
better. This goes back to a question of my friend that the 
stockholders would have fared better. But he says that other 
stakeholders, like AIG's Wall Street counterparties, would have 
fared worse.
    So, according to the testimony of another CEO of AIG, 
private sector solutions for AIG were rejected. He talked about 
the tens of billions of capital that were offered. He talked 
about the State of New York ready to permit AIG to use $20 
billion in excess capital of its insurance subsidiaries, plus 
he says there was no effort made for a temporary and limited 
bridge fund from the government; plus we have this mark-to-
market problem, and plus you have, without the mark-to-market 
problem, you have possibly $1 trillion that could have been 
pledged to secure an, instead of trying to secure an $85 
billion loan from the government.
    Now, instead, the government takes over. AIG, now we have 
85 percent ownership of AIG. Here's what's going on with AIG. 
AIG is paying interest on undrawn capital. They're paying 
interest on money it doesn't borrow. The company is encouraged 
to draw down the full amount of the loan even if it doesn't 
need the money. Now, in order to service the principal and 
loan, the AIG has to engage in a fire sale of profitable 
assets.
    Who buys though assets, Mr. Sullivan, who buys AIG assets.
    Mr. Sullivan. Well, obviously, I can't comment on the 
events that----
    Mr. Kucinich. Who buys their assets?
    Mr. Sullivan. Well, if you recruit investment bankers, they 
will go out and I assume get the best deal that they possibly 
can for the assets for sale.
    Mr. Kucinich. Mr. Willumstad, you were involved with 
negotiations with Treasury Secretary Paulson. Why do you think 
AIG was bailed out while Lehman Brothers was allowed to fail?
    Mr. Willumstad. I'm not sure why Lehman Brothers was 
allowed to fail. I think it was understood that the 
consequences to the financial system if AIG failed would be 
very significant.
    Mr. Kucinich. My time is expired, Madam.
    Mrs. Maloney. The Chair recognizes Congressman Bilbray of 
California for 5 minutes.
    Mr. Bilbray. Thank you, Madam Chair.
    You know, Madam Chair, I do an editorial note. I'm not 
going to ask you gentlemen from prepared statements that 
somebody else has written up before this hearing. I'm going to 
ask questions that basically respond to your testimony.
    Madam Chair, I do have to point out that it's sort of 
interesting the way we throw around terminologies. And somebody 
born and raised on the ocean and spent some time in the water 
myself, I find it funny that we use the terminology like 
tsunami. We can't even use plain language like tidal wave. But 
maybe because some people don't understand some of the words 
they're using.
    Gentlemen, the term tsunami or tidal wave is not just a 
wave coming in. You land lovers and people that don't surf may 
not understand that long before that crest breaks, there's an 
indication that something is going on. Granted, usually 
tourists see the tide going out and think it's a good time to 
go out and pick up seashells. And a lot of people seem to have 
seen that the tide shifting and the major changes that were 
happening were an opportunity to go in and clean out, and they 
got caught below the high water mark.
    I hope the Chair doesn't mind me using that analogy, but as 
an old surfer, I just can't go back addressing that. When 
Freddie and Fannie went from 30 percent to 70 percent of a 
certain part of the market; when we saw major portions of our 
oil money that's going overseas coming back and buying up paper 
and inflating a market; don't you think that we should have 
seen some concern there, when we say--well, let me just ask it 
out.
    When Freddie and Fannie went from 30 to 70 percent, how 
much of the problem should have been seen by all of us that we 
have a portion of the market that was very, very vulnerable, 
and did that vulnerability have an effect to your operation and 
the problems we're facing with AIG, with Freddie and Fannie?
    Mr. Sullivan. Would you like me to respond, sir?
    Mr. Bilbray. Yes.
    Mr. Sullivan. First of all, I don't believe, with the 
greatest respect, I'm qualified to comment on Freddie and 
Fannie and the implications thereof.
    But what I did say in my testimony was one of the factors 
that I think has contributed to, and the tsunami equivalent, I 
defer to your expertise, sir, but what's contributed to what 
has impacted the global financial economy is, you know, one of 
the things could be inappropriate borrowing and lending. And if 
that correlates to your analogy of Freddie and Fannie, maybe 
that's helpful, I don't know. But I certainly don't know enough 
about Freddie and Fannie to pass any qualified opinion.
    Mr. Bilbray. And I apologize, I had to fly back from the 
West Coast just to be here at this hearing, and I just got to 
look at the waves and didn't get to enjoy them at all this 
weekend, so we're here getting our work done.
    Let's just talk about the mark to market. We developed a 
concept based on the Enron model of how to address Enron. Now, 
would you agree that when it applies to mortgage-backed 
securities, when there's real estate involved, the existing or 
the traditional accounting process with mark to market really 
didn't reflect the real value, the real assets, and the real 
situation on the ground and gave an artificial appearance of 
volatility that scared the hell out of the market in a lot of 
ways that maybe it shouldn't have.
    Mr. Sullivan. I would agree with that statement.
    As I testified, sir, I think what occurred was when FAS 157 
of mark-to-market accounting was put in place, you know, it was 
really the ability to mark to market in an illiquid market when 
there is no visible valuation. And again, maybe it's helpful if 
I can just give an example. It's like owning an apartment 
block. And the valuation of that apartment block goes up and 
down. But all of the tenants, you're the owner of that 
building, and you've got it fully occupied. Everybody is paying 
their rent on time. You can pay your mortgage, and you can pay 
your--any capital expense you have in repairs or whatever. And 
you don't have to sell that building. You can hold it for as 
long as you want. It doesn't really matter what the valuation 
of that building is because you can hold it, and you'll get in 
all the cash that you need in from that.
    And what's occurred in the illiquid markets is that you're 
trying to value assets that are still paying their rent, 
they're still providing you with the cash-flow that you need, 
but there isn't a valuation that--you know, response to that in 
an illiquid market. And that was the point--that's a very 
simplistic example. But that was the point I was trying to make 
about the unintended consequences.
    Mr. Bilbray. So, in other words, our theory of trying to go 
in and correct the Enron, we need to go back and readdress it 
because we've moved too far the other way to where it doesn't 
reflect the reality. And I think one of the things a lot of 
people were interested in those mortgage-backed securities 
because they always knew that there was real estate involved, 
but the accounting process doesn't reflect that reality.
    Mr. Sullivan. Well, I think, obviously, as I said, it 
wasn't a criticism of FAS 157. I think there was an unintended 
consequence that I am pleased that Congress and the SEC have 
agreed to at least take a look at.
    Mr. Bilbray. Thank you, Mr. Chairman.
    Chairman Waxman [presiding]. The gentleman's time has 
expired.
    Mr. Tierney.
    Mr. Tierney. Thank you, Mr. Chairman.
    Gentlemen, I think people are a little bit baffled here. We 
look at Mr. Greenberg's testimony, and it's not his fault; 
according to him, it all happened after his watch.
    Mr. Sullivan, you say no mistakes were made as events 
unfolded.
    Mr. Willumstad, you say AIG couldn't have done it any 
differently.
    And yet I think that people really expected the management 
of the company, you as the leaders of the company, would have 
seen what risk you were taking and been able to just know what 
they were and assess them.
    We took a look at the internal minutes from your audit 
committee meetings. They're not public, but we were able to get 
them. They seem to tell a different story on that. And let me 
just go down.
    On January 15th, the audit committee minutes say this: 
Ongoing discussions revealed that PricewaterhouseCoopers 
believes to be an expectation gap among key parties, including 
the board, management and the internal control functions.
    The next month, on February 7th, the audit committee 
meeting: PWC warns the role or reporting of risk management 
needs a higher profile at AIG.
    At a February 26th meeting: PWC says, indicated that the 
process at AIG seemed to break down and that, unlike other 
companies where there was a good dialog and appropriate levels 
of management on the approach, alternatives considered and key 
decisions, at AIG, only AIG-FP, the Financial Products 
Division, was involved in a December valuation process.
    And that may have something to do with the chairman's 
letter that he received from Mr. St. Denis that he brought it 
to people's attention, and he couldn't get by that office over 
there.
    Then you have March 10, 2008, you get the Office of Thrift 
Supervision. They weigh in on this, and they say that your 
management of the company and your oversight of AIG 
subsidiaries, including in particular the Financial Products 
Division led by Mr. Cassano, should be criticized. And they 
also say that supervisory concerns regarding the corporate 
oversight of key AIG's subsidiaries exist, and they write that 
we are concerned that corporate oversight of AIG Financial 
Products lacks critical elements of independence, transparency 
and granularity.
    And the next day, PricewaterhouseCoopers reports that there 
is a common control issue, the root cause for these problems, 
and that AIG does not have the appropriate access or clarity 
around the roles and responsibilities of critical control 
functions.
    Gentlemen, that seems to stretch from January 15th all the 
way to March 11th, your own internal audits, your own 
PricewaterhouseCoopers group and the Office of Thrift 
Supervision repeatedly saying the serious lapses are there. 
They describe them, both the auditors and the regulators. Don't 
you think that management has some responsibility for what went 
on here?
    Mr. Willumstad.
    Mr. Willumstad. Yes, management has some responsibility.
    Mr. Tierney. Mr. Sullivan, do you agree?
    Mr. Sullivan. Yes, I would also say that, at the same time, 
we were putting compensating controls in place. You read the 
chronological list there, but we had put compensating controls 
in place that enabled us, obviously, to issue our financials 
for 2007 with a clean audit.
    Mr. Tierney. I guess the problem is, people expect 
management to be ahead of the curve, not to wait for the 
regulators and PricewaterhouseCoopers to start blowing the 
whistle late. The salaries that you gentlemen pulled down, you 
and your team on that, means to us that you anticipate these 
things and that you start putting those things in place before 
the whistle is blown, before these people come in and point out 
the seriousness of the situation.
    And I think that's what disturbs people on this and what 
continues to be a theme through here that it's not--and Mr. 
Chairman, I would like unanimous consent to put copies of the 
audit reports and the minutes, as well as the Office of Thrift 
Supervision letter of March 10, 2008, in the record, because I 
think it shows clearly that this is not something that external 
factors are responsible for solely on this; it's a fundamental 
failure here of management. And I'm glad that you both take 
responsibility for it. I hope your whole management team does, 
because certainly the price is extremely high on that.
    Chairman Waxman. Without objection those documents will be 
made part of the record.
    Mr. Sullivan. Can I just respond on one point?
    One of the things that we set out to do in March 2005 was 
to make tremendous investments in a number of areas that 
previously had been underinvested. So we added a lot of staff 
in internal audit and legal compliance, risk management etc. So 
I wanted you to at least know there were compensating controls 
put in place.
    Mr. Tierney. And I appreciate that, if I may, Mr. Chairman, 
except these are reports from January, February and March 2008. 
So, obviously, not enough had happened even remotely close to 
settling the qualms of the regulators and the auditors on that. 
So I think it shows some management issues there.
    Chairman Waxman. And if the gentleman will yield to me. And 
Mr. St. Denis, who was working for you to alert you to these 
problems, tried to get through in November 2007, and neither of 
you remember him complaining or know anything about his 
concerns. So you did have an alarm, even in the previous year.
    Mr. Turner, I think you're next.
    Mr. Turner of Ohio. Thank you, Mr. Chairman.
    Yesterday we had a hearing concerning Lehman Brothers, and 
there was a discussion that Lehman Brothers had it's own 
subprime lender, BNC Mortgage I believe it was, where they were 
issuing subprime loans. With AIG, my understanding is that you 
were an insurer and you also traded mortgage-backed securities. 
I'm not certain, though, did you also have a lending function 
of subprime mortgages? And also, then, did you package loans, 
issuing them, selling them as mortgage-backed securities. In 
the subprime crisis that we're seeing, what activity in the 
subprime market did AIG have?
    Mr. Sullivan. We did have a--they do have--sorry. It is 
hard to differentiate when you've been there 37 years. AIG does 
have a consumer finance that's called AIG.
    Mr. Turner of Ohio. Then you also packaged and sold those 
loans as mortgage-backed securities; you also traded in them.
    Mr. Sullivan. What I was going to point out is that 
fortunately, AGF did not participate in, it is my 
understanding, any of the exotic mortgage products during that 
period of time and didn't participate in lending in what we're 
seeing to be the hot markets that we now discover. So whilst 
their results have not been at the level that we would normally 
expect them to be, they have not been as bad as others in their 
industry.
    Mr. Turner of Ohio. Because the first panel indicated that 
you were invested heavily in subprime mortgages. So that's 
direct. That's not mortgage-backed securities. That's in the 
mortgages themselves?
    Mr. Sullivan. I'm sorry, sir, I don't quite understand the 
question.
    Mr. Turner of Ohio. The first panel indicated that part of 
AIG's problems were that your financial services institutions 
invested heavily in subprime mortgages. In what form was that 
investment held?
    Mr. Sullivan. Again, I think that's the clarity that's 
required. These are super senior credit default swaps. These 
are the transactions that AIG-FP participated in, so there 
are--and we've made very, very fulsome disclosure on this. In 
fact, we've been complimented by the investment community and 
others about the fulsome disclosure that we've made. It's all 
on our Web site and has been for many quarters. Is that they 
were effectively insuring, and I'm no expert on this, but 
effectively insuring the super senior level of the transaction. 
So there are tranches of bonds, the CDOs below that, whether 
they are equity, triple B, double A minus, double A, triple A, 
and then there's another layer of protection before you get to 
the super senior. And what you're doing, and again, I'm no 
accountant, but you're valuing the assets that are underlying 
the super senior transaction. So that's, what FP wrote was a 
super senior credit default swap portfolio.
    Mr. Turner of Ohio. My concern that I have mentioned in 
many of these hearings is--I'm from Ohio. We're one of the 
leaders in foreclosures. You can go drive through neighborhoods 
in my community, and you can see the abandoned houses that are 
there. Our experience has been that predominantly these are a 
result of refinances where the loan, ultimately where the 
consumer gets in trouble, the value of the loan exceeds the 
value of the house at origination; that there are terms many 
times capitalization of the fees. There are terms that 
ultimately caused the home owners to get into trouble. 
Sometimes it's financial circumstances of the consumer that 
causes that they can't keep up with the payments. But usually, 
it's something to do with the mortgage product itself that 
causes the initial stress and a realization by the consumer 
that the mortgage value is higher than the house value itself. 
So they don't even have the ability to sell the home, which you 
would find in normal then real estate transactions, to escape 
their liability. They are in effect trapped and have the only 
recourse, not having the financial resources themselves to make 
up the gap, of abandoning the property, causing therefore the 
foreclosure because they're not able to keep up.
    In the county in which I reside, it's about 5,000 
foreclosures a year now in a community of about half a million 
people. The State of Ohio is experiencing somewhere around 
80,000 a year. Every 3 years, that's a geographic size of one 
full congressional district.
    It's been interesting listening to you, Mr. Sullivan, about 
your discussion of mark to market because I was actually, until 
you began talking about it, kind of leaning toward perhaps 
maybe it was a policy that was a problem. But after hearing 
your statement on giving bonuses based upon excluding losses 
and your statement of these aren't really realized losses, that 
mark to markets, as you said, unintended consequences followed, 
I'm beginning to think that the advocates for significantly 
reducing mark-to-market applications are trying to say that we 
shouldn't look at value without looking at current value, which 
is kind of like your bonus description.
    So my concern here, though, is that if mark to market is a 
process that people get concerned with when markets fluctuate, 
if we have a situation where the loans are originated at a 
higher than the value, the mark to market on day one would tell 
you that the underlying mortgage security is not properly 
collateralized. In your discussions on the subprime effect, 
mortgage-backed securities, as you were saying with the swaps, 
did you ever have any discussions in your company where you 
heard that in fact some of these mortgages perhaps exceeded the 
value at loan origination?
    I would like you both to answer.
    Mr. Willumstad. Not to my knowledge.
    Mr. Sullivan. Not to my knowledge, sir.
    Chairman Waxman. The gentleman's time is expired now.
    We go to Mr. Yarmuth.
    Mr. Yarmuth. Thank you, Mr. Chairman.
    I think it was Mr. Bilbray earlier asked a question if you 
knew why AIG was bailed out and not Lehman. I'm going to ask a 
little bit more direct question.
    Mr. Willumstad, did Goldman Sachs have anything to lose if 
AIG went under?
    Mr. Willumstad. Goldman Sachs was a significant 
counterparty for AIG.
    Mr. Yarmuth. To what extent are the relationships 
intertwined, and how much do you think Goldman Sachs would have 
suffered financially? What kind of stake was there for Goldman 
Sachs and AIG's survival?
    Mr. Willumstad. I can't tell you what losses Goldman Sachs 
might have suffered because I don't know. The only thing I can 
tell you is that Goldman Sachs was a counterparty on 
approximately $20 billion worth of credit default swaps that 
AIG-FP had.
    Mr. Yarmuth. So it's a significant interest in AIG's 
survival it sounds like.
    Mr. Willumstad. Again, I don't want to jump to that 
conclusion. I don't know how those securities carried on 
Goldman Sachs' books, and I don't know whether they were hedged 
by Goldman Sachs, so it would be very difficult to draw that 
conclusion.
    Mr. Yarmuth. It sounds like a question we need to ask, Mr. 
Chairman.
    Several comments have been made about the fact that AIG was 
too big to fail. And we saw, I think you were in the room 
earlier, when the statement of Alan Greenspan about size and 
the question of whether we let companies get too big. Clearly, 
by your own admission, in this case the implications of AIG's 
failure on the financial markets would be substantial. Is this 
something that troubles you, that companies are able to reach 
the size where they can disrupt an entire economy? And I guess 
the corollary question or the followup question is, what 
benefits to society, our society, get by letting a company get 
so big that it puts the entire Nation's financial system at 
stake or at risk?
    Mr. Willumstad. I'm sorry, I'm not sure I understand the 
question.
    Mr. Yarmuth. Well, I mean, you're running a company now, 
albeit for just a few months--Mr. Sullivan ran the company for 
several years--that apparently was so big that its failure 
went--the implications of its failure, potential failure went 
far beyond its shareholders and its employees, and that's why 
our government decided that it needed to step in, because of 
that impact. Do you think that it is good that corporations can 
get to that size in our economy where their mistakes don't just 
affect them? And do you think there are benefits--you know, if 
we're going to allow companies to get that big, that their 
failures and their mistakes can affect all of us, then what 
does society get in return for allowing the company to get so 
large?
    Mr. Willumstad. Well, again, I think the size of AIG and 
the interconnection between AIG and the rest of the capital 
markets are really the issue. I'm not sure purely size by 
itself is the determinant factor. I would say also that there 
have been plenty of benefits to AIG's size, its ability to 
serve broad markets, to provide a competitive marketplace so 
customers and policy holders can get a good deal if you will, 
that AIG was a strong well-capitalized insurance operation that 
provided many benefits to its customers and consumers that did 
business with it.
    Mr. Yarmuth. And then that's the question I was asking, 
because we see this now in--we've seen it in many situations 
recently where companies that are so large that their failures 
just impact taxpayers throughout the system. And I think the 
question we have to ask as a society is, are the benefits of 
that size, whether it's a competitive--whether it's competitive 
pricing or whatever, adequate to justify the risk of a company 
disrupting, a company making a mistake and disrupting the 
entire economy. But that's something that's a little bit of a, 
I guess a 30,000-foot issue in this particular case. Just a 
quick question again. We've had some testimony about the fact 
that only $60 billion has been drawn down of the $85 billion. 
What specifically was the $85 billion needed for?
    Mr. Willumstad. The $85 billion number was a number that 
was obviously determined by the Federal Reserve. The $85 
billion, I believe, was intended to be a loan to cover 
liquidity needs inside the company. It's been characterized 
before as covering losses which I think is not an accurate 
representation. Again, the loan was taken down after I left the 
company, so I can't be specific about it. But what happens in a 
crisis of confidence like this and what was happening to AIG 
was not a question of losses. AIG has had a lot of money 
borrowed over the years. And when you go through one of these 
crises, people who have loaned you money in the past stop 
lending to you. People who give you money or put money on 
deposit with you want it back; that in another environment, 
without this crisis of confidence, AIG could have easily met 
all of those obligations. But when you have a series of 
counterparties who have decided for reasons of concern about 
the viability of the company stop doing business with you, the 
company can no longer meet its obligations.
    It's not very much different that if all the consumers of a 
particular bank showed up 1 day and asked for all of their 
money back, there's no bank in America that could provide that. 
Those dollars of deposits that were given to that bank are 
loaned out in the communities to small businesses, consumers, 
credit cards. The whole system is driven around confidence and 
viability. And once that breaks down, there is no company, 
certainly in the United States and I think anywhere around the 
world, that can sustain a run on the institution.
    Chairman Waxman. The gentleman's time has expired.
    Ms. Watson has requested that she be recognized next. Does 
anybody object to that? If not, the gentlelady is recognized.
    Ms. Watson. Thank you so much, Mr. Chairman.
    I think you just about answered my question, but it's about 
the $85 billion, Mr. Willumstad, that has been given to bail 
out. And as I understand, last Friday, AIG reported it had 
already drawn down $61 billion of the $85 billion loan. Does 
that align itself to what you were just describing, that people 
want their money now?
    Mr. Willumstad. Again, I don't know what the use of the $61 
billion was for because I wasn't there. I'm not there. But I 
would say, generally speaking, my assumption would be that's 
exactly what it was used for.
    Ms. Watson. In fact, AIG has drawn down the funds so 
quickly that credit rating agencies have now begun downgrading 
AIG again. And back on September 16th, AIG said that the 
bailout would prevent further rating downgrades. And we know 
that you're not at the company anymore, and I'm sure you're 
surprised by how quickly the $85 billion line of credit has 
been consumed. So one question that my constituents, and I'm 
sure that all American taxpayers, are asking, can you explain 
or try to how AIG could burn through $61 billion in just 3 
weeks?
    Mr. Willumstad. Well, again, I don't know what the source 
for the use of that money was. But I'm assuming that 
counterparties who would normally lend money to AIG are no 
longer lending money to AIG, and consequently that's where the 
money is going.
    Ms. Watson. The new CEO of AIG, Edward Liddy, publicly 
suggested that AIG might take a piece of the $700 billion 
bailout package that we just passed. So that would be in 
addition to the $85 billion that AIG already received. And my 
question would be to those who can look forward down the 
economic road, when is this going to end? Will it end? How much 
are we going to have to spend of the taxpayers' money to keep 
AIG afloat? Would you have any idea now that you're not 
actively with the company?
    Mr. Willumstad. I'm sorry, but I do not.
    Ms. Watson. OK.
    Well, I appreciate the going out of line, and I appreciate 
the gentleman coming here and being straightforward. A little 
honesty would help us very much.
    Thank you so much, Mr. Chairman, for accommodating me.
    Chairman Waxman. Thank you very much, Ms. Watson.
    Mr. Braley.
    Mr. Braley. Thank you, Mr. Chairman.
    Mr. Sullivan and Mr. Willumstad, I would like to ask you 
about the compensation paid to one particular AIG employee 
Joseph Cassano. Mr. Cassano was president of AIG's Financial 
Product Division, the unit that sold the credit default swaps 
that helped bring down AIG. During his tenure at AIG, Mr. 
Cassano repeatedly denied that these swaps posed any risk to 
AIG or its shareholders.
    And I'm going to quote to you from a September 28, 2008, 
article in the New York Times by Gretchen Morgenson which 
attributes this comment to Mr. Cassano in August 2007: ``it is 
hard for us, without being flippant, to even see a scenario 
within any kind of realm of reason that would see us losing $1 
in any of these transactions.''
    The committee has examined Mr. Cassano's pay, and we were 
shocked to find that AIG paid him more than it paid its CEOs. 
Over the last 8 years, he earned a total of $280 million in 
cash, and most of that money came from a bonus program. For 
every dollar that Mr. Cassano's unit made $0.30 came back to 
him and the other Financial Products executives.
    On February 28, 2008, AIG posted losses of $5.3 billion. 
The main reason for these losses was the $11 billion lost by 
Mr. Cassano's division. The very next day, February 29th, Mr. 
Cassano was terminated from his position as president of the 
Financial Products Division. But when AIG terminated Mr. 
Cassano, it took two actions that, quite frankly, are hard for 
your new partners, the U.S. taxpayers, to comprehend. First, 
AIG let him keep up to $34 million in uninvested bonuses. And 
second, the company amazingly hired Mr. Cassano as a consultant 
for the sum of $1 million a month.
    So, Mr. Willumstad, let me start with you. As CEO of AIG, 
you had authority until September 17, 2008, to cancel Mr. 
Cassano's consulting agreement for cause, but you never did 
that, did you?
    Mr. Willumstad. No.
    Mr. Bilbray. Mr. Sullivan, as CEO for AIG during the period 
from March 11, 2008, when this severance agreement was signed 
between AIG and Mr. Cassano, through June 15, 2008, you had 
authority to cancel Mr. Cassano's consulting agreement for 
cause, but you never took that action, did you?
    Mr. Sullivan. That is correct.
    Mr. Bilbray. Mr. Chairman, I'm going to offer as part of 
the record the consulting agreement of March 11, 2008, which 
provides the CEO of AIG to terminate the consulting agreement 
for cause. And I certainly think that in light of what we've 
heard here today there was ample justification based upon the 
misrepresentations made by Mr. Cassano and based upon the 
financial peril he created for this longstanding company of 
great reputation and our entire financial marketplace, that 
option should have been exercised and something should have 
been done for the taxpayers of the United States.
    Chairman Waxman. Without objection, the document will be 
made part of the record.
    Mr. Braley. And Mr. Chairman, I agree that this is not a 
partisan issue. But there have certainly been some partisan 
comments made about the investigation by this committee of 
Fannie Mae and Freddie Mac.
    And I would just like to read for the record a portion of a 
Financial Times article dated September 9, 2008, titled, 
``Oxley Hits Back at Ideologues.'' This is an article 
interviewing the former chair of the House Financial Services 
division, Mike Oxley, who, instead of blaming Fannie Mae and 
Freddie Mac, headed the Financial Services Committee and blames 
the mess on ideologues within the White House as well as Alan 
Greenspan, former chairman of the Federal Reserve. In fact, he 
talked about the GSE reform bill that passed the House 
overwhelmingly in 2005 and could have prevented the current 
crisis.
    And here's what he says: ``all the handwringing and 
bedwetting going on now without remembering how the House 
stepped up on this, he says, what did we get from the White 
House? We got a one finger salute.''
    And finally, he says, we missed a golden opportunity that 
would have avoided a lot of the problems we're facing now if we 
hadn't had such a firm ideological position at the White House 
and the Treasury and the Fed, Mr. Oxley says.
    And I would offer that as part of the record as well.
    Chairman Waxman. Without objection, that will be made part 
of the record.
    [The information referred to follows:]

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    Chairman Waxman. Will the gentleman yield?
    Mr. Braley. Yes I would.
    Chairman Waxman. Why didn't you fire Mr. Cassano? You had 
the ability under the rules under which your corporation 
operated to fire him. And he's been kept on at a million-
dollars-a-month retainer. He was discharged. Why didn't you 
fire him?
    Mr. Willumstad.
    Mr. Willumstad. Well, again, I was not the CEO at the time. 
Mr. Sullivan had recommended to the board and the compensation 
committee that Mr. Cassano's assistance in helping unwind, if 
you will, or work down the exposure in FP would be valuable to 
the company and that, as part of his agreement, he would have a 
noncompete, nonsolicitation agreement. It was important to keep 
the existing employees in FP to help work through the sizable 
exposure.
    Chairman Waxman. You were the chairman of the board.
    Mr. Willumstad. I was.
    Chairman Waxman. And you could have insisted that he be 
fired, but Mr. Sullivan told you not to fire him so he wouldn't 
go out and compete with you. I would have thought you would 
want him to go to some other corporation the way he had put 
yours so deeply in the hole.
    Mr. Sullivan, why didn't you fire him?
    Mr. Sullivan. I recommended that course of action to the 
board, and Mr. Willumstad articulated the reasons very well.
    One of the things that I wanted to ensure is that we 
retained the 20-year knowledge that Mr. Cassano had about the 
businesses. These are long-term transactions. These are not 
transactions that go on the books and expire 12 months later. 
They're very long term, and you want to make sure that the key 
players and the key employees within AIG-FP, that we retain 
that intellectual knowledge.
    Chairman Waxman. What would he have to have done for you to 
feel that you should fire him? He put you in a situation where 
you had to come up with $60 billion immediately, and you 
couldn't do it. Isn't that enough reason to feel that the guy 
shouldn't be kept on at a million-dollars-a-month salary just 
to be available?
    Mr. Sullivan. Well, at the time, you know, obviously, we 
made that decision. Mr. Casanno decided to retire, and I 
believed--and I made the recommendation, as Mr. Willumstad 
articulated, that his services be retained and----
    Chairman Waxman. When I retire, I want to come to work for 
you at $1 million a month. What a good deal that is. And what a 
good signal that is. The man goes out on his own in these 
derivative deals that bring down AIG, and he gets $1 million a 
month retainer in case you need his advice. Is that what you're 
telling us?
    Mr. Sullivan. Well--and, in addition, Mr. Willumstad 
articulated all the reasons there, that he had a noncompete 
nonsolicitation so that we could retain the key employees in 
AIGFP, bearing in mind these are multi-year contracts. This 
wasn't the entirety of FP's businesses. There were other 
sectors that they were in as well.
    Chairman Waxman. Ms. Norton, I think you're next on the 
list.
    Ms. Norton. Thank you, Mr. Chairman.
    I'd like to ask both of you questions about your statements 
as the company was collapsing. Because it didn't suddenly fall, 
suddenly collapse. Mr. Sullivan, let me ask you first.
    In December 2007, you said the following: We believe we 
have a remarkable business platform with great prospects that 
represent tremendous value. How many superlatives in that 
sentence? And then you posted $5.3 billion in losses for the 
quarter. That was December.
    Move just a few months to February 2008, and then you said, 
based upon our most current analysis, we believe that any 
credit impairment losses realized over time by AIGFP would not 
be material to AIG's consolidated financial condition. Then you 
went on to post $7.8 billion or more in losses for the quarter.
    A few months later, May 2008, you said, ``sir--the 
underlying fundamentals of our core business remain solid.'' 
The next month the board voted to replace you.
    Let me ask you, Mr. Sullivan, what was the source of those 
glowing statements as you were posting loss after loss, quarter 
after quarter?
    Mr. Sullivan. Well, I think, because you made a reference 
to a number of statements there, I need to break down my 
answer, if I may.
    First of all, my reference to the corporation is talking 
about AIG's global franchise. Because, obviously, AIG is in a 
number of businesses, not just the super senior credit default 
swap arena. Obviously, we have leading market positions in many 
other businesses. I'm talking current. I keep on saying ``we.'' 
I'm no longer there, but for 37 years I was there. They have 
market leading positions.
    Ms. Norton. Of course, there were the credit default swaps 
that were collapsing your fundamental business. Go ahead, sir.
    Mr. Sullivan. That's correct. But I'm just trying to 
clarify some of my remarks, because you've taken--there's 
different topics being covered there.
    So one is referring to the core franchise and the market 
leading positions that AIG holds in a number of businesses 
around the world. The other comment is trying to differentiate 
between the realized loss potential of that portfolio as 
against the unrealized loss potential.
    As I mentioned earlier, at the time I left the company, to 
the very best of my knowledge, certainly to the best of my 
knowledge at the end of the first quarter, I don't believe AIG 
had suffered any realized losses. That's not to say they 
wouldn't suffer realized losses as the market continued to 
deteriorate; and, in fact, we made very fulsome disclosure. As 
I mentioned earlier, we had a tremendous amount of information 
on our exposures to the U.S. residential housing market on our 
investor Web site.
    Ms. Norton. Would not be material--credit losses realized 
over time would not be material to AIG's consolidated financial 
condition.
    Mr. Sullivan. Based on what I knew----
    Ms. Norton. That is a pretty blanket, across-the-board 
statement. That's a pretty across-the-board, blanket statement.
    Mr. Sullivan. But I was trying to differentiate there, to 
the very best of my knowledge, the difference between the 
realized loss situation or the potential realized loss 
situation against the amount of unrealized loss----
    Ms. Norton. It didn't occur to you, Mr. Sullivan, that in 
parsing your words this way that you might be misleading your 
shareholders?
    Mr. Sullivan. Absolutely not.
    Ms. Norton. Do you think any of them were misled?
    Mr. Sullivan. No. I would refer you--and I'm sure you've 
been supplied with this information--very, very fulsome 
disclosures of our exposures not only in the CDS portfolio but 
in our mortgage insurance company which was clearly causing me 
some concerns in the early part of this situation when the 
issue was----
    Ms. Norton. Well, you had departed very substantially from 
your core business. Are you saying to me that you believe your 
shareholders expected to be bailed out by the Federal 
Government at some point?
    Mr. Sullivan. Certainly not. As I testified earlier, when I 
left the company I believed the company was in a position where 
it would certainly not need intervention from the government. 
But when--if I may go back to the disclosures that we made, one 
of the things that I set out to do in March 2005, given the 
challenges that we had with all of our regulators, we had----
    Ms. Norton. You mean disclosures of the losses?
    Mr. Sullivan. No, no. When I took office, AIG was facing, 
as I mentioned, a crisis very different from the financial 
crisis. But I made it clear at day one that we were going to 
have an open and transparent relationship not only with our 
regulators but with our investors as well. We put very 
fulsome--I would encourage you to look at that information--we 
have put very fulsome disclosure on our Web site.
    Ms. Norton. So you believed these were fair and honest 
characterizations and that your shareholders were not misled by 
any of the three statements even after they saw the losses 
posted?
    Mr. Sullivan. Absolutely. I believe what I said at the time 
to be truthful, very truthful based on all the information I 
was receiving and clarifying, you know, the difference between 
realized and unrealized losses.
    Ms. Norton. Mr. Chairman, I'm going to yield back the 
balance of my time.
    But my question went to misleading; and I must say, in 
concluding, that it's difficult for me to believe that 
shareholders were not misled at least by the way in which you 
parsed your words and framed the condition--phrased the 
condition of the company.
    Thank you, Mr. Chairman.
    Chairman Waxman. The gentlelady yields back the balance of 
her time, and I now recognize Mr. Van Hollen.
    Mr. Van Hollen. Thank you, Mr. Chairman.
    Gentlemen, I want to followup on some of the questions 
regarding executive compensation, including the bonus 
structure. And, Mr. Sullivan, let me start with you and ask 
about your actions at the meeting of the AIG compensation 
committee that took place on March 11, 2008.
    According to the documents that this committee has 
received, AIG has two bonus programs to reward executive 
performance. The first is called the Partners Plan. It covers 
the top approximately 700 AIG executives. And the second is 
called the Senior Partners Plan, which applies to roughly the 
top 70 executives. Now, as CEO, you're paid under both those 
executive compensation plans, is that right?
    Mr. Sullivan. That is part of my compensation.
    Mr. Van Hollen. Now as I understood it and looked at the 
rules that AIG had set, they tried to align pay with good 
performance. Rewards were supposed to be based on the company's 
performance. If performance went down and the company lost 
money, bonuses would be reduced or cut entirely. That was what 
was supposed to happen in 2007. And as a result of the 
disastrous fourth quarter results in 2007, bonuses under both 
those plans would have been cut under the normal rules.
    But according to the minutes of the meeting that took place 
on March 11th, the meeting of the compensation committee, you 
personally urged the board to rewrite the rules. And according 
to the minutes--and I don't know if we're going to post them on 
the board. We had them earlier. But let me just read from the 
minutes of that meeting.
    It said, Mr. Sullivan next presented management's 
recommendation with respect to the earnout for the senior 
partners for the 2005-2007 performance period, suggesting that 
the AIGFP unrealized market valuation losses should be excluded 
from the calculation.
    I think it's important to point out that just weeks 
earlier, on February 28th, AIG just posted a record fourth 
quarter loss, as we've heard about, of $5.3 billion as a result 
of the AIGFP division. My question is very simple. You have 
referred to the unintended consequences. The question is, why 
did you change the rules, the compensation rules that were 
supposed to pay for good performance? Why did you change them 
to give yourself and other executives a bigger bonus?
    Mr. Sullivan. If I may, just for clarity, this was not the 
bonus structure for AIG. These were long-term compensation 
programs for AIG executives. So just to clarify that for you, 
sir.
    And, second, I was not asking the compensation committee to 
rewrite the rules. I was asking them to use their discretion, 
which I believe existed under both programs.
    Coming back to--I testified earlier or responded earlier 
that my concern was that these 700 people that participated in 
the Partners Plan and the 70 in the senior Partners Plan, none 
of them were in AIGFP. They had their--as others have 
mentioned--their own compensation plan. And my concern was 
that, you know, other parts of the business that were not being 
impacted by the events in the credit markets, you know we would 
lose key individuals if we didn't at least acknowledge in their 
remuneration, which was a long-term remuneration. They didn't 
get their money until some time later----
    Mr. Van Hollen. If I could ask, you, I understand, despite 
the fact that you left approximately June of this year, you 
received the $5.4 million bonus, isn't that right? Is that not 
correct?
    Mr. Sullivan. The reference to a bonus--if that was a 
number under the Senior Partner Plan, I don't have the numbers 
in front of me. That may be the number, but it's not referred 
to as a bonus.
    Mr. Van Hollen. But you received this payment under the 
Senior Partners Plan, did you not?
    Mr. Sullivan. It's paid out over a number of years.
    Mr. Van Hollen. The question's pretty clear. Your company 
had just taken a record loss. Pay for performance is supposed 
to be based on how the company performed. And yet you went 
before the board of directors and specifically asked them to 
ignore those losses for the purpose of a compensation plan 
which had the direct result of giving you about $5.3, $5.4 
million extra compensation.
    If I could just ask you, Mr. Willumstad, because the 
minutes say you were present----
    Mr. Willumstad. That's correct.
    Mr. Van Hollen [continuing]. At this particular 
compensation meeting. I have to ask you, in your role as a 
fiduciary to the stockholders, how does that payment, including 
the payments to Mr. Sullivan and the other executives, ignoring 
the losses that had just taken place, how does that conform to 
the rules for pay for good performance? And how does that 
benefit any stockholder?
    Mr. Willumstad. If I could clarify some of the things you 
said. There are actually three components to the incentive 
compensation plan for Mr. Sullivan. It was the Partners Plan, 
it was the Senior Partners Plan and there was a discretionary 
bonus. Mr. Sullivan received a $9 million discretionary bonus 
in 2006 when the company had an exceptional year. Mr. 
Sullivan's bonus was reduced to in 2007 from $9 million to $2.5 
million. So to put----
    Mr. Van Hollen. I understand that, Mr. Willumstad. I'm 
referring to a particular request that was made at the board 
meeting with respect to the senior partners program. And the 
request was made and complied with by the board, accepted by 
the board at a time of record loss. And my question is very 
simple. How did that decision help the shareholders at this 
particular point in time, which is the responsibility of the 
board, is it not?
    Mr. Willumstad. The Senior Partners Plan was a plan that 
recognized the performance over a 3-year time period. 2007 was 
one of those 3 years. Mr. Sullivan's recommendation was to 
postpone the recognition of those losses because they were 
deemed to be unrealized losses. The understanding that the 
committee had and the board had is that, as Mr. Sullivan 
mentioned, there were 70 employees who were part of the Senior 
Partners Plan, none of which had anything to do with the FP 
operations. It was only Mr. Sullivan who had any direct 
responsibility for that. So his intention and I think the 
board's response was not to penalize the other 68 or 69 
employees for the result of one business unit.
    Mr. Van Hollen. Well, Mr. Chairman, just to conclude, I 
mean, it seems that pay for performance means you get paid 
whether it's bad performance or good performance and you change 
the rules when it doesn't work out the way you intended. If 
that's what part of the unintended consequences of this have 
been, I've got to say a lot of people are scratching their 
heads when they look at how in good times you stick with the 
general scheme for pay for performance but in bad times it gets 
reinterpreted in a way that benefits executives. Anyway----
    Chairman Waxman. Would the gentleman yield to me?
    Mr. Van Hollen. I would be happy to yield.
    Chairman Waxman. Just so we can get this straight, Mr. 
Sullivan, you were the CEO of the whole company, which included 
the FP in London, right?
    Mr. Sullivan. That is correct.
    Chairman Waxman. OK. And when it came to the question of 
the bonuses for the 70 employees, which included you, you asked 
the board, upon which Mr. Willumstad sat as the Chair, to 
disregard the losses so that 3-year bonus wouldn't be reduced. 
Is that right?
    Mr. Sullivan. What I recommended to the compensation 
committee was that for the purposes of the Senior Partners Plan 
and the Partners Plan that they use their discretion in the 
calculation of the 2007 year, particularly----
    Chairman Waxman. Not to count the losses. Just to count the 
earnings but not the losses.
    Mr. Sullivan. The unrealized losses.
    Chairman Waxman. The unrealized losses. Now isn't it also 
the case that AIGFP changed the rules as well so that the 
bonuses there did not calculate the losses, unrealized as they 
might have been?
    Mr. Sullivan. Um----
    Mr. Willumstad. I don't think that's correct.
    Chairman Waxman. Well, I have a document that says so. This 
is the minutes of the meeting of the Compensation Management 
and Resources Committee of the board of directors. And it 
says--explained that AIG's Mr. Dooley presented management's 
recommendation and explained that AIG management believes it is 
critical to provide a special incentive to assure retention of 
the AIGFP team, while recognizing the serious effects of the 
valuation losses and described the proposed terms of the 
alternative arrangements.
    Then it goes on to say, no individual received compensation 
exceeding $1.25 million and employees affected by the reduced 
compensation would be eligible for the deferred compensation.
    It just--that's the way we read this document. I'll put it 
into the record, and we'll be able to look at it.
    But you've got this FP--you've got the bonus. You've got 
the 3-year partners compensation. Did you get an ordinary 
salary as well?
    Mr. Sullivan. Yes, sir.
    Chairman Waxman. And how much was that?
    Mr. Sullivan. $1 million a year.
    Chairman Waxman. So you got $1 million a year. Then you got 
a bonus that was reduced from $9 million to $2.5 million, is 
that right?
    Mr. Sullivan. That's correct, sir.
    Chairman Waxman. Then what else did you get?
    Mr. Sullivan. My participation in the Senior Partners and 
the Partners Plan.
    Chairman Waxman. And how much money was that for that 
period of time?
    Mr. Sullivan. I can't recall.
    Chairman Waxman. Take a guess. More than $1 million? More 
than $2 million?
    Mr. Sullivan. I think my colleague here mentioned $5 
million. Yeah. I don't have the schedule in front of me.
    Chairman Waxman. We'd like to get it for the record.
    Let me tell you one person that didn't get a bonus while 
everybody else was getting bonuses. That was St. Dennis--Mr. 
St. Dennis, who tried to alert the two of you to the fact that 
you were running into big problems. He was blocked by the 
people in London from even understanding what was going on so 
he could report to you. He quit in frustration, and he didn't 
get a bonus.
    So the one guy that was really trying to do his job--and 
there may have been others as well--lost out on his bonus 
completely and was frustrated and felt he couldn't do his job, 
so he left.
    I thank the gentleman for yielding.
    Mr. Sullivan. May I suggest, Chairman, with respect that 
the company clarify the content of the compensation committee's 
reports so that you have an understanding? My view, obviously, 
and I think Mr. Willumstad may concur, was that was actually 
penalizing the FP folks at the time and trying to put a 
compensation structure in place that they would get rewarded as 
and when the marks came back.
    Chairman Waxman. That's not our understanding from the 
document.
    Mr. Sullivan. That's why I suggest, sir, for the subject of 
clarity it may help if the company explained it.
    Chairman Waxman. Whatever penalties you imposed upon them, 
it's hard to see how difficult it is when you have Mr. Casanno 
not doing any work but getting $1 million a month in case you 
need him in addition to whatever else he got by way of bonuses 
and salaries and other money sharing agreements. This is really 
quite a good deal.
    Mr. Van Hollen. Mr. Chairman, I would just say--I mean, 
obviously, as CEO, you oversaw the whole FP division as well; 
and yet you received a bonus despite the fact that they had 
these huge losses. And so, again, it's just people have to 
scratch their heads and wonder what pay for performance means 
when you have that kind of compensation structure and going 
before the board.
    Anyway, my time is up. Thank you, Mr. Chairman.
    Chairman Waxman. Thank you.
    Mr. Sarbanes.
    Mr. Sarbanes. Thank you, Mr. Chairman.
    I'm just fascinated by this guy Joseph Casanno, because it 
appears to me that he single-handedly brought AIG to its knees 
and was the reason that taxpayers have had to step in with an 
$85 billion loan. So----
    Mr. Shays. Mr. Sarbanes, could you speak a little louder?
    Mr. Sarbanes. Yeah. I was just talking about Joseph 
Casanno. Is your office in New York?
    Mr. Sullivan. When I was with AIG, yes, sir.
    Mr. Sarbanes. Was in New York?
    And your office was in New York?
    Mr. Willumstad. Yes.
    Mr. Sarbanes. And Casanno's office was in London?
    Mr. Sullivan. He spent his time between London and the 
Wilton offices, Wilton, Connecticut.
    Mr. Sarbanes. So how often would you see him?
    Mr. Sullivan. Certainly at the FP board meetings and, 
obviously, occasionally when he was in town. He was not a 
direct report to me. He reported to Mr. Dooley, who was 
referenced earlier.
    Mr. Sarbanes. And how did--I mean, you weren't there, I 
guess, when the FP thing got started, right?
    Mr. Sullivan. Well, I was certainly with AIG but in a 
completely different division, sir.
    Mr. Sarbanes. OK. You weren't heading the company up.
    Mr. Sullivan. No. This is 20-odd years ago.
    Mr. Sarbanes. What's the company lore on how that happened? 
Did Mr. Casanno come to the powers that be and say, I have this 
really neat idea of what we can do over in London. We can get 
into this new product line. And off he went? What's the story 
there?
    Mr. Sullivan. Oh, no, no. I think from what I know--you say 
folklore, but from what I know is that a number of executives 
came out of Drexel and were recruited by AIG at that time to 
form the capital markets division that became known as AIGFP. I 
don't believe Mr. Casanno was leading that at the time. He was 
one of the team that came in, and there were some management 
changes thereafter where ultimately Mr. Casanno became the head 
of capital markets. But I think there were two other executives 
prior to Mr. Casanno who ran that division.
    Mr. Sarbanes. Well, you've probably heard me refer to that 
office in this hearing before as the London casino, because I 
think that terminology captures as well as anything what was 
happening over there.
    What I can't understand is why you were allowing these huge 
losses to buildup with apparently no consequence for Mr. 
Casanno. So I'm just curious, in December 2007, Mr. Casanno is 
telling the investors, with the data that you have in front of 
you, you can play this power game. And then, within weeks, AIG 
posts a loss of $5.3 billion. I assume most of that related to 
the activities of FP, right?
    Mr. Sullivan. The unrealized loss, yes.
    Mr. Sarbanes. So when that happened--and this term 
``unrealized losses'' which you are very careful to keep 
restating----
    Mr. Sullivan. It's a loss.
    Mr. Sarbanes. Yeah. They turned out to be realized in a big 
way, it seems. Certainly the taxpayers are realizing these----
    Mr. Sullivan. Just to clarify, at the time I left, as I 
said earlier, none of it realized. What has happened since, I 
don't know. But just for clarity.
    Mr. Sarbanes. I understand. So $5.3 billion. So then, 
obviously, you immediately get on the phone to Mr. Casanno and 
you say, what's going on over there at FP? Right?
    Mr. Sullivan. Well, in the December----
    Mr. Sarbanes. I'm just assuming somebody calls him up or 
catches him the next time he's in town for a meeting and says, 
$5.3 billion of unrealized losses for the last quarter. What's 
happening over there, Mr. Casanno?
    And what does he say that gives you comfort? Does he tell 
you the same thing he was telling the investors? Well, we've 
got all this data, and we can play this power game. So then you 
say, OK, fine, we'll keep you in there.
    And then the next quarter he posts losses at $7.8 billion. 
And apparently that's still not enough for him to be put on the 
hot seat. So off he goes to the quarter after that and posts 
$5.5 billion of losses.
    I just don't understand, in terms of the company and your 
stewardship of the company, how you can let this guy run up 
these huge losses, apparently with no consequence to himself in 
terms of the compensation. So just internally what was going on 
during that period? What was the discussion with Mr. Casanno?
    Mr. Sullivan. Well, clearly, at the time of December 2007, 
there was a lot of discussion taking place within the 
organization on the whole issue of the CDS super senior 
portfolio. There's no question about that.
    Don't forget--and I just want to point out that this 
business, that's been stopped writing in 2005. So effectively 
this portfolio was in run-off. These contracts were mature over 
a period of time. And as I said earlier, as they mature, if 
there's no loss, you know, on those contracts, that unrealized 
loss will then come back into the income statement of AIG. So I 
mean that's the point I wanted to make here. This business was 
stopped in 2005. I think that's an important thing.
    And, clearly, in December 2007 a lot of dialog is taking 
place between FP. There's additional resources going in there 
to make sure that we're--you know, we obviously have the 
compensating controls in there that I referenced to one of your 
colleagues earlier. So in December 2005, there's a lot of 
interaction taking place between FP and the corporation.
    Mr. Sarbanes. So what you're saying is by that time--by 
December 2007, when the losses first started appearing, it was 
too late. You were already on a downward slide. And yet Mr. 
Casanno, having set off that situation, is still getting paid 
$1 million a month?
    Mr. Sullivan. What I'm saying is the portfolio stopped 
writing in 2005. And, obviously, as the credit market is 
starting to freeze and the subprime issues are coming through, 
then the losses started to emerge.
    Chairman Waxman. The gentleman's time has expired.
    Ms. Speier.
    Ms. Speier. Thank you, Mr. Chairman.
    To both of you gentlemen, I want to applaud you for the 
stiff upper lip that you have shown today under intense 
questioning. But I've got to tell you that you make a shameful 
profile of corporate America. To you, Mr. Willumstad, I will 
say thank you for foregoing your golden parachute. And to you, 
Mr. Sullivan, shame on you. The shareholders of that company 
have nothing, and you walked away with $50 million.
    Now I'd like to ask a question of you, Mr. Willumstad. In 
the final days, evidently Goldman Sachs' CEO was in on 
meetings. Is that correct?
    Mr. Willumstad. That's my understanding.
    Ms. Speier. You were not in those meetings?
    Mr. Willumstad. I was only at one meeting when the CEO of 
Goldman Sachs was there.
    Ms. Speier. And he was there. And what was he saying?
    Mr. Willumstad. This was a meeting that took place on 
September 15th at the Federal Reserve. The Federal Reserve had 
gotten Goldman Sachs and JPMorgan together to try and find a 
private solution to AIG's liquidity issues. That meeting was to 
discuss how much capital the company might need. That meeting 
lasted for about an hour and a half and then the meeting was 
adjourned.
    Ms. Speier. So they weren't interested in a private 
solution?
    Mr. Willumstad. I'm sorry?
    Ms. Speier. The CEO of Goldman Sachs was not interested in 
purchasing AIG----
    Mr. Willumstad. No. He was there to participate in looking 
for a private solution.
    Ms. Speier. Now you said that Goldman Sachs was one of the 
counterparties----
    Mr. Willumstad. Yes.
    Ms. Speier [continuing]. Of AIG and that they are owed 
about $20 billion, is that----
    Mr. Willumstad. No. No. As a counterparty, if the 
securities defaulted, AIG would have to pay that counterparty, 
Goldman Sachs, the amount of the insurance premium or the 
credit default swap.
    Ms. Speier. So they would receive about $20 billion, 
though. I used that term earlier. You actually referenced that 
amount of money.
    Mr. Willumstad. I did. That's the correct number.
    Ms. Speier. Now AIG has since taken up the taxpayers on $61 
billion. Has $20 billion of that $61 billion gone back to 
Goldman Sachs?
    Mr. Willumstad. I don't know.
    Ms. Speier. Mr. Chairman, I think that's a question we may 
want to ask subsequently.
    Mr. Willumstad, do you believe that naked short selling was 
part of the problem?
    Mr. Willumstad. Well, AIG stock was down to about $26 in 
June. Up until September 12th, AIG stock was at $23. So during 
the course of--from late June to early September, there was not 
much movement on AIG stock. In the last week from September 8th 
to September 15th, AIG stock went from $23 to $4. I actually 
don't know that it was necessarily driven by short sellers, 
although I would assume there's been some short selling in 
there.
    Ms. Speier. The rating was AA on Friday, and 2 days later 
you needed a total bailout. How did you go from being AA on 
Friday to needing a total bailout 2 days later?
    Mr. Willumstad. Well, the AA minus rating that was provided 
by S&P and Moody's was the ratings. I had met with the rating 
agencies actually the prior week and reviewed what our plan 
was. They were considering a downgrade at that time. And on 
Friday after 4 S&P put out a negative watch that indicated they 
might reduce their ratings anywhere from one to three notches. 
And then I believe it was the following Monday or Tuesday--I'm 
not sure exactly which--both rating agencies downgraded the 
company.
    I'm not sure I've answered your question. But I'm not sure 
what your question is.
    Ms. Speier. I was trying to understand how you can be rated 
as AA on Friday and the following week you need a $85 billion 
bailout. I don't know how you go from being--that kind of 
rating doesn't make sense to me.
    Mr. Willumstad. You'd have to talk to the rating agencies 
about that.
    Ms. Speier. All right. One last question, Mr. Chairman; and 
this gets back to Joseph Casanno. In August 2007, he says, it's 
hard for us with--and without being flippant to even see a 
scenario within any kind of realm of reason that would see us 
losing $1 in any of these transactions. It's a lot of bravado.
    In December 2007, he said, we have from time to time gotten 
collateral calls from people, and then we say to them, well, we 
don't agree with your numbers. And they go, oh, and they go 
away; and you say, well, what was that? It's like a drive-by in 
a way.
    Also in December--and this is a real difficult one to 
believe--he says, there are some morbid questions we get about 
what happens if the world rolls off its axis and the world goes 
to hell in a hand basket? But with the data that you now have 
in front of you, you can play this power game.
    Mr. Sullivan, you were on that same call. You knew that the 
company was in trouble. You allowed Mr. Casanno to make these 
statements, and you didn't stop him. You didn't suggest that he 
was overstating the case.
    Mr. Sullivan. Well----
    Ms. Speier. Is that transparent? Is that what you should be 
doing on behalf of the shareholders of the company?
    Mr. Sullivan. The December 5th meeting which you refer to 
there I think laterally we made a very fulsome presentation to 
the investor community on AIG's full exposure to the U.S. 
residential housing market and made reference to not only to 
AIGFP but our mortgage insurance company, our consumer finance 
company and our investments.
    And I don't want to take any of Joe's comments out of 
context, but we've put a lot of information into--you know, 
made available a lot of information to the investor community 
at that time. And I don't want to take the comments he's making 
out of context without seeing the slides that he was referring 
to at that moment in time.
    You know, obviously, what we told the market--what I truly 
believed was accurate at the time, based on all the information 
I had available.
    Ms. Speier. I yield back.
    Chairman Waxman. Thank you, Ms. Speier.
    Mr. Shays, I want to recognize you to close out the 
questioning. But before I do, I ask unanimous consent that we 
can put in the record a letter that was sent today to Secretary 
Paulson.
    This is a letter telling Mr. Paulson that we're concerned 
about the profligate spending at AIG, including the $1 million 
a month that's being paid to Mr. Casanno. Mr. Casanno received 
up to $34 million, and even today he's getting paid as a 
consultant for $1 million a month, and we think this is unfair 
to the taxpayers of this country. AIG received $85 billion of 
taxpayers' money, and it's lavishing these kinds of perks on 
Mr. Casanno and the event that was taking place shortly after 
the government took over.
    Without objection, the letter will be entered into the 
record.
    [The information referred to follows:]

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    Mr. Kucinich. Mr. Chairman, could I ask who signed the 
letter?
    Chairman Waxman. The letter has been signed by Mr. Braley, 
Mr. Cummings, Ms. Speier and myself.
    Mr. Kucinich. I would like to be associated with that 
letter.
    Chairman Waxman. OK.
    Mr. Kucinich. Thank you.
    Chairman Waxman. Mr. Shays, you are now recognized.
    Mr. Shays. Could we make it bipartisan and add my name to 
it?
    Chairman Waxman. We certainly will.
    Mr. Bilbray, do you want to join us?
    Mr. Bilbray. Yes, Mr. Chairman.
    Mr. Shays. Mr. Willumstad and Mr. Sullivan, thank you for 
being here.
    There's one thing I think there is unanimity on on the part 
of Members from both sides of the aisle, that we're deeply 
troubled by the compensation that has been paid to executives 
who, frankly, were not experiencing success and we don't think 
it was truly the executives' money to take.
    Ripples from defaults on subprime loans underwritten by the 
toxic twins, Fannie and Freddie, grew to a tsunami that helped 
swamp Lehman Brothers and others, including AIG; and Fannie and 
Freddie were able to launch more than $1 trillion of bad paper 
into the private market because regulators and Congress let 
them do it. Now what I want to do is ask you----
    And Mr. Chairman, I have a question for you as it relates 
to the testimony of Mr. Greenberg. Mr. Greenberg--my reading of 
his comments and testimony--Mr. Chairman, my reading of the 
testimony from Mr. Greenberg that was submitted to the 
committee is basically accusing the two individuals who are in 
front of us for all the problems of AIG. And I'm thinking how 
convenient we don't get to question him. And my question is, do 
we swear in the individual to make sure that their statement is 
under oath and that they are held accountable for what they 
say?
    Chairman Waxman. Well, if the gentleman would yield, we 
invited to Mr. Greenberg to testify. He responded that he was 
not well enough to come. He did submit information, testimony 
to us, which will be part of the record.
    [The prepared statement of Mr. Greenberg follows:]

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    Chairman Waxman. While he wasn't here to take the oath and 
no oath was administered to him, there are laws that say if a 
congressional committee is doing an investigation and someone 
knowingly misleads or gives misinformation, that would be 
tantamount to a crime in and of itself.
    Mr. Shays. Thank you, Mr. Chairman.
    Let me ask you to respond to his comments. He said, 
moreover--and this is his testimony to the committee. Have you 
read his testimony?
    Mr. Willumstad. No, sir.
    Mr. Sullivan. No, sir.
    Mr. Shays. Moreover, unlike what had been true during my 
tenure, the majority of the credit default swaps that AIG wrote 
in the 9 months after I retired were reportedly exposed to 
subprime mortgages. By contrast, only a handful of the credit 
default swaps written over the entire prior 7 years had any 
subprime exposure.
    So later on he says, how did this happen? I was not there, 
so I cannot answer the question with precision. But reports 
indicate that the risk controls my team and I put in place were 
weakened or eliminated after my retirement.
    I would like to ask each of you, is this true? Were they 
weakened?
    Mr. Sullivan. Well, I think there's two parts there. I 
don't know what constituted the subprime exposure on the 
contracts written when Mr. Greenberg was CEO and thereafter. So 
I can't comment on that. All I can tell from you a risk control 
standpoint----
    Mr. Shays. I don't understand that statement. I mean, you 
run the company. You are not aware of the exposures you had 
earlier on?
    Mr. Sullivan. What I said is, I haven't got an analysis at 
hand as to what the percentages were in response to Mr. 
Greenberg's statements. Sorry, sir. What I can tell you from a 
risk control standpoint, it was exactly the same risk control 
procedures that were in place when Mr. Greenberg was in office 
that continued thereafter, both at the subsidiary level and at 
the parent company that ultimately resulted, obviously, in the 
decision taken to stop writing that portfolio.
    As I said, at that time I was focused on other issues 
that----
    Mr. Shays. So he preceded you, correct?
    Mr. Sullivan. Preceded me, yes, sir.
    Mr. Shays. But he is basically blaming you primarily and 
he's blaming Mr. Willumstad as well for the short time that you 
were on the board and so on and so on. So he's blaming both of 
you. Your testimony is that you did not change any of the 
controls that existed before him.
    Mr. Sullivan. In fact, what I would say from when I took 
office, as I mentioned earlier in response to one other 
question, I set out with the support of AIG's board to actually 
put in additional resource and enhance systems not only in our 
risk area but in our legal, compliance, finance and accounting 
areas.
    Mr. Shays. So the point is, you take issue with the 
statement?
    Mr. Sullivan. Yes, sir.
    Mr. Shays. Mr. Dinallo who testified--and I thought it was 
very interesting there, about four paragraphs, but he says, 
that brings us to the issue of what happened at AIG. The 
history has been well reported in the press. Using its 
noninsurance operations, AIG, just like many financial service 
institutions, invested heavily in subprime mortgages; AIG's 
financial products unit and noninsurance companies sold 
hundreds of billions of dollars of credit default swaps and 
other financial products. As with other financial service 
companies, AIG was forced to mark to market and so on.
    But your credit default swaps were basically--how did they 
relate to the subprime mortgage? Weren't you--you didn't buy 
subprime mortgages but you basically--my understanding is you 
insured them in a sense, correct?
    Mr. Sullivan. Correct. What I tried to explain to the 
previous question that I had is that what we were underwriting 
was the super senior portion of the CDS.
    Mr. Shays. I know you're trying to tell me you were trying 
to secure the best ones.
    Mr. Sullivan. We actually wrote the super senior----
    Mr. Shays. I understand. But you know what? They all were 
terrible.
    Mr. Sullivan. The bonds--the way the structures flow--and 
it's not easy to explain in a few minutes--is that you're 
writing a swap on lots of bonds that sit below you. And they 
can be--it can be an equity tranche. It can be a triple B 
tranche. And the way these were structured was that AIG swaps 
sat over and above the triple A and a little bit more 
additional protection. That is why, with respect, I've been 
trying to differentiate between the unintended consequences and 
the realized losses when you've had to mark to market in a 
liquid market.
    Mr. Shays. Let me just--we're going to deal with this in 
the Financial Services Committee, and it's probably going to 
scare the hell out of you. Because this committee, I'm sure, is 
going to look at how we dice and slice all these mortgages so 
it's very hard for people to have any sense of what their 
values truly are. And I don't know what that will do to the 
marketplace. But, clearly, we are going to be looking at that.
    And what I want to establish on the record, though, is that 
you were involved in the subprime market and you did have 
credit swaps relating to the subprime market. And you can give 
me the refinement of that. And I don't want to listen to a long 
dialog. But isn't that true?
    Mr. Sullivan. To the best of my ability----
    Mr. Shays. You can say no or yes, if you want.
    Mr. Sullivan. Some of the bonds below the tranche that we 
were writing could have been in the subprime area.
    Mr. Shays. Thank you.
    Let me just ask you, as it relates to the compensation 
committee, I am absolutely convinced that it's one person 
scratching someone else's back. You're on the board of one 
company. You serve as a CEO of another. Do either of you serve 
on the boards of any other companies?
    Mr. Sullivan. Public companies, no, sir. No public 
companies.
    Mr. Shays. You are the exception, not the rule. But the 
question I want to ask you is, describe to me the compensation 
committee.
    Mr. Sullivan. The compensation committee, the structure of 
it, sir?
    Mr. Shays. Yes.
    Mr. Sullivan. As I mentioned earlier, there was a base 
salary.
    Mr. Shays. I want to know who appoints the compensation 
committee. Are they employees of the committee?
    Mr. Sullivan. No, sir. The compensation committee consists 
of independent directors of the board.
    Mr. Shays. They are members on the board, correct?
    Mr. Sullivan. Independent members, yes.
    Mr. Shays. Not employees of the company.
    Mr. Sullivan. That's correct.
    Mr. Shays. How are they appointed?
    Mr. Sullivan. From what I can recall--and you can defer to 
my chairman at the time--the recommendation of the committee 
membership is made by the nominating governance committee to 
the board at large, I believe is the process.
    Mr. Willumstad. That's correct.
    Mr. Shays. My sense is is that it's a club, and the club 
basically rewards their friends.
    Chairman Waxman. Would the gentleman yield to me?
    Mr. Shays. Yes.
    Chairman Waxman. We've held a couple hearings in this 
committee about these compensation committees that are 
appointed or consultants that are selected by the boards, and 
oftentimes the people that are selected are doing other 
consulting work for the corporation that's much more profitable 
for them. And, of course, they receive that from the management 
of the corporation. So they're then deciding what the 
compensation will be for the management of the corporation with 
clear understanding that they may well have a conflict of 
interest.
    I think it's an issue that we need to continue to explore 
on this committee, and I thank you for raising it.
    Mr. Shays. Thank you. Would you allow me one more minute to 
close?
    Chairman Waxman. Yes, sir.
    Mr. Shays. We all have our constituents. I have a friend 
who just wrote me, sent me an e-mail, and he said, my wife and 
I are among those investors who got badly burned with Lehman 
bonds. I am sure many in your district have a similar 
experience. We are prudent investors who must rely on the store 
of capital we have accumulated over the years to live decently. 
We always save more than we earn. Unlike the country and most 
citizens, we are completely debt free. We invested very 
significant amounts in what the so-called rating agencies 
called triple A, double A Lehman Brothers bonds. It now turns 
out that our trust in the rating agency was sadly misplaced. 
Either through incompetence or criminal fraud they led honest 
investors astray. Bonds that we bought are at par and now worth 
10 or 12 cents on the dollar.
    This is why we're having these hearings. Because you may 
see your shareholders hurt, but there were far more than your 
shareholders that are hurt. And I won't read the rest of it, 
but you should see what it says about what it means to him to 
see CEOs of companies getting huge sums when they are working 
on 10 cents on a dollar on money they saved for most of their 
life.
    Chairman Waxman. Thank you, Mr. Shays.
    I want to thank the two of you for being here. You came 
here voluntarily. You've been here for many, many hours. You 
have been very generous. I know it hasn't been easy for you. 
But we very much appreciate it.
    That concludes our business, and we stand adjourned.
    [Whereupon, at 3:05 p.m., the committee was adjourned.]
    [Additional information submitted for the hearing record 
follows:]

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