Before I begin this evening, I would like to comment on my absence for the last week.? I gave a talk on Friday to the Southeastern Actuaries Conference.? I found myself behind the eight-ball, because of my many other projects, and so I had to block out the time to write and prepare the talk.

I?m going to turn the talk into a post, or a series of posts.? If you want to view the presentation before then, you can download it here (PPT PDF).? I needed more time; I wanted to do more with it ? but you reach the end of your time, and you have to make your speech. ?I didn?t feel well on the day I presented it; my throat was sore.? So, my apologies to any at SEAC who felt my talk was marginal.

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One thing that came out of the SEAC meetings was an actuarial analysis of the health bill.? The presenter tried to be as neutral as possible, but the more he said, the more the actuaries I talked with said, ?This bill doesn?t make sense.?? Now, I?m not a health actuary; I am a life and investments actuary by training.? Roughly 1/3rd of the audience were health actuaries, and 2/3rds were life actuaries.? The response was not, ?This will hurt the industry.?? The response was more like, ?This won?t work.? The costs are underestimated, and the taxes are overestimated.? This has real potential to mess up the good parts of the system, and be a very costly fix to the less generous parts of the system.? Taxes are front-ended, and costs are back-ended.? The analyses that show savings over ten years will show significant losses in the long run.

Among my pet peeves is that the bills are likely to do away with HSAs, which more than most health plan designs, gives real incentives to keep health care costs down.? If anything, moving away from first dollar coverage to catastrophic coverage would be a real incentive to keep down health costs.

I genuinely hope this does not pass Congress, and that nothing is done.? Then again, perhaps the Democrats want to commit political suicide.? Not that I like the Republicans much, but cramming through an ill-thought-out plan not favored by most Americans, can?t do much for their chances in 2010.

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Secretary Geithner changed his view on why the AIG bailout was done.? He now says it was not over the derivatives counterparty, AIG Financial Products.? He probably says that because the government could have cut a better deal with creditors and did not, leaving the taxpayers on the hook.? Having thus bailed out Goldman, and other US and foreign investment banks that were due payments from AIG, the malodor of aiding investment banks in an opaque way is something the Treasury wants to lose.

So, now he claims it was to prevent systemic risk from failure of AIG?s operating insurance companies.? Now, I know that the life and mortgage insurance companies would have died, because of research I did in March and April of 2009.? But in September of 2008, no one was arguing about the insurance subsidiaries; it was all about AIG Financial Products.? No one was focusing on the weird losses from securities lending at the life subsidiaries of AIG.

Taking a step back, Insurance companies don?t produce systemic risk to the same degree that banks do.? First, the insurance industry is only one-third the size of the banking industry.? Second, insurance asset investment regulations are stricter for insurers than the bank regulations.? Third, the leverage isn?t as high, and the sources of profit are more diversified.? Finally, the liability structure is longer for most insurers, making ?runs? less likely.

So, what would have happened if the Fed hadn?t come in and rescued AIG?

• I recommended at the time that the government wall off the derivatives counterparty, and then analyze what the risks would be to the system as a whole if AIG did not pay on its derivative agreements in full.
• The life and mortgage companies would have failed.? The mortgage companies would have added to the losses of Fannie and Freddie.? No state guaranty funds there.? The life companies might have passed $1-3 billion of losses to the state guaranty funds, hitting the life insurance industry when it was weak, but it would have killed few companies.
• There were support clauses in many of AIG?s main P&C companies for some of the Life companies.? The P&C companies could have made good on those, and perhaps the state guaranty funds would have been clear.
• Perhaps International Lease Finance or American General Finance would have been weak, but they would not have died immediately? and there would have been little systematic risk from any failure.
• Common and preferred shareholders would have been wiped out, and maybe junior bondholders.? Senior bondholders might have been forced to compromise.

This isn?t good, but it is also not systematic risk.? After walling off AIGFP, there was no systemic risk from letting AIG fail.

Holding companies should never be bailed out.? There is no case for protecting them.? Operating subsidiaries are another thing; they are regulated for the good of consumers, ostensibly.

Ergo, I find the logic of the Treasury and Secretary Geithner wanting if he is claiming he was trying to avoid systemic risk in bailing out AIG, outside of AIGFP.? These arguments were not made in 2008, and in general, it is really difficult for an insurance company to generate systemic risk.? Systemic risk stems from short-funded financials, and in general, insurance companies do not fit that description.

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This is just another reason why average Americans don?t trust the Fed.? But there are many reasons:

• The Fed will not submit to full transparency of its actions.
• They will not comply with legitimate FOIA requests.
• They can?t be replaced by the people, but they have a big impact on the lives of the people.
• Congress does a lousy job regulating them.
• They acted high-handedly in bailing out entities like Bear Stearns and AIG that should have been put into bankruptcy.? Bailouts violate the sense of fairness that most Americans have.? Systemic risk could have been avoided without bailing them out in entire.

Is it any surprise then, the Congress, having done a lousy job of regulating the Fed and the Treasury, points the finger and blames those that they have been appointed to rule?? Alas, I see a lot of room for blame to go around, but few are willing to take it in DC.? There is no equivalent of Truman?s ?The Buck Stops Here.?

In a bad environment like this, many governmental entities worry for their survival.? Good.? They should worry.? There is the outside possibility that things could change dramatically after the next election.? Perhaps ending the Fed won’t be a pipe dream then.? After all, the US did quite well without a central bank for most of its existence.