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Federal Reserve Announces $85B Loan to Bail Out AIG

Tuesday , September 16, 2008

WASHINGTON  —

In a bid to save financial markets and economy from further turmoil, the U.S. government agreed Tuesday to provide an $85 billion emergency loan to rescue the huge insurer AIG.
The Federal Reserve said in a statement it determined that a disorderly failure of AIG could hurt the already delicate financial markets and the economy.

It also could "lead to substantially higher borrowing costs, reduced household wealth and materially weaker economic performance," the Fed said.

"The President supports the agreement announced this evening by the Federal Reserve," said White House spokesman Tony Fratto. "These steps are taken in the interest of promoting stability in financial markets and limiting damage to the broader economy."

Treasury Secretary Henry Paulson said the administration was working closely with the Fed, the Securities and Exchange Commission and other government regulators to "enhance the stability and orderliness of our financial markets and minimize the disruption to our economy."

"I support the steps taken by the Federal Reserve tonight to assist AIG in continuing to meet its obligations, mitigate broader disruptions and at the same time protect taxpayers," Paulson said in a statement.

The Fed said in return for the loan, the government will receive a 79.9 percent equity stake in AIG.

Earlier, Fed chairman Bernanke and Paulson met with Sen. Christopher Dodd, D-Conn., Majority Leader Harry Reid, D-Nev., and House Republican leader John Boehner of Ohio, to brief them on the government's option.

"At the administration's request, I met this evening with Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke. They expressed the administration's views on the deepening economic turmoil and shared with us their latest proposals regarding AIG," Reid told reporters. "The Treasury and the Fed have promised to provide more details in the near future, which I believe must address the broader, underlying structural issues in the financial markets."

On Tuesday, shares of the insurance company swung violently as rumors of potential deals involving the government or private parties emerged and were dashed. By late Tuesday, its shares had closed down 20 percent — and another 45 percent after hours. Still, no deal emerged.

The problems at AIG stemmed from its insurance of mortgage-backed securities and other risky debt against default. If AIG couldn't make good on its promise to pay back soured debt, investors feared the consequences would pose a greater threat to the U.S. financial system than this week's collapse of the investment bank Lehman Brothers.

The worries were triggered after Moody's Investor Service and Standard and Poor's lowered AIG's credit ratings, forcing AIG to seek more money for collateral against its insurance contracts. Without that money, AIG would have defaulted on its obligations and the buyers of its insurance — such as banks and other financial companies — would have found themselves without protection against losses on the debt they hold.

"It might not just bring down other financial institutions in the U.S. It could bring down overseas financial institutions," said Timothy Canova, a professor of international economic law at Chapman University School of Law. "If Lehman Brother's failure could help trigger AIG's going down, who knows who AIG's failure could trigger next."

New York-based AIG operates an insurance and financial services businesses ranging from property, casualty, auto and life insurance to annuity and investment services. Those traditional insurance operations are considered healthy and the National Association of Insurance Commissioners said "they are solvent and have the capability to pay claims."

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Wednesday, September 17, 2008 - 8:29 AM EDT
Fed bails out AIG in $85B deal
The Business Review (Albany)

The Federal Reserve Board late Tuesday confirmed it would authorize the Federal Reserve Bank of New York to lend as much as $85 billion to American International Group Inc., which has unraveled in the face of mounting losses related to insurance on complex financial instruments and credit downgrades that forced the company to raise billions in capital. The New York insurance company is the largest in the world.

Bailing out a private company not under its direct purview is an extraordinary and historic move for the Federal Reserve, whose primary roles include setting United States monetary policy and banking supervision and regulation.

The Fed took the action under Section 13(3) of the Federal Reserve Act, which lays out the powers of Federal Reserve Banks. Section 13(3) states that in unusual and exigent situations, the Board of Governors of the Federal Reserve may “discount” financial instruments for any individual, partnership of corporation when such instruments are secured to the satisfaction of the Fed and when the institution is unable to secure adequate credit accommodations from other banking institutions.

In a statement, the Fed said, “The Board determined that, in current circumstances, a disorderly failure of AIG could add to already significant levels of financial market fragility and lead to substantially higher borrowing costs, reduced household wealth and materially weaker economic performance.”

A day earlier New York state officials took action to assist AIG. Gov. David Paterson said the federal action will help stabilize the precarious financial markets, which have seen two companies fail — Lehman Brothers and Bear Stearns — and a third, Merrill Lynch be sold.

The federal loan, which has terms and conditions designed to protect the interests of the government and U.S. taxpayers, according to the Fed statement, will give AIG the ability to sell certain businesses in an orderly manner, “with the least possible disruption to the overall economy.”

The loan is collateralized by all the assets of AIG, the Fed said, and of its primary non-regulated subsidiaries. These assets include the stock of substantially all of the regulated subsidiaries. The loan is expected to be repaid from the proceeds of the sale of the firm’s assets. The U.S. government will receive a 79.9 percent equity interest in AIG and has the right to veto the payment of dividends to common and preferred shareholders.

The AIG facility has a 24-month term. Interest will accrue on the outstanding balance at a rate of three-month Libor plus 850 basis points. AIG will be permitted to draw up to $85 billion under the facility.

The Fed and the U.S. Treasury had been urging private sector banks to come to AIG’s rescue. With no bailout in sight and reports circulating that AIG needed to raise as much as $75 billion in capital, on Monday night Standard & Poor’s downgraded certain AIG credit ratings, forcing the insurer to ante up billions in collateral and pushing it closer to bankruptcy.

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AIG bailout: Wise move or costly one?
BY JEANNINE AVERSA The Associated Press

    WASHINGTON — American taxpayers awoke Wednesday to learn they may end up owning one of the world’s largest insurers. They might now lose some sleep wondering whether the government’s $85 billion loan to American International Group Inc. was a wise investment.
    If the gamble succeeds, the company nurses itself back to health, unhinged financial markets calm down and taxpayers turn a profi t.
    If it fails, the American public feels the hit — and possibly finds itself rescuing other major financial institutions, swelling the deficit and potentially driving up interest rates on mortgages, student loans and other debt.
    Analysts said Wednesday the odds are pretty high that the rescue will be a good investment for taxpayers, with AIG paying off the loan at a relatively high interest rate and the government potentially making money off its nearly 80 percent equity stake in the company.
    In 1979, the U.S. guaranteed $1.2 billion worth of loans to the struggling automaker Chrysler. When the company rebounded four years later, the government reaped more than $300 million in profits.
    While relatively unknown on Main Street before Wednesday, AIG is a colossus on Wall Street and financial districts around the globe, with operations in more than 130 countries and $1 trillion in assets on its balance sheet.
    Besides life, property and other insurance offerings, AIG provides asset-management services and airplane leases. Its myriad businesses are also linked to mutual funds, annuities and other retirement products held by millions of ordinary Americans.
    But perhaps the biggest concern about AIG is the dizzying array of complex financial instruments it structured for commercial banks, investment banks and hedge funds around the globe — many of which were directly or indirectly linked to the value of U.S. mortgages.
    “AIG is in this mess because they got leveraged up to their eyeballs,” said Professor John Coffee of Columbia University Law School.
    AIG is required to post capital as collateral to back the securities and derivatives it issues, and those requirements increase if its credit rating is downgraded, as happened on Monday night.
    AIG “essentially became the insurer of the financial industry,” said Barry Ritholtz, chief executive of FusionIQ, a research firm. “As we’ve seen, that turned out to be not such a great trade.”

Quoted from Kevin March

We pay to save them, but we don't get to reap the profits if they turn it around.  Nice, huh?  Almost like running a business in New York State.

Quoted from Michael

The government holds an 80% stake now.  

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Analysis
Some blame Eliot Spitzer for AIG bailout
Former AG in 2005 unjustly forced out insurer’s founder, critics contend
BY MICHAEL GORMLEY The Associated Press

    ALBANY — Lost by many in the week’s financial markets’ nightmare were ghosts of Wall Street past.
    Some in business and politics are blaming the need for Tuesday’s historic federal bailout for American International Group Inc.’s on the relentless pursuit of AIG founder Maurice “Hank” Greenberg by New York’s former attorney general, Eliot Spitzer.
    AIG needed the $85 billion loan from the federal government to stay afloat, save thousands of jobs and protect its insurance customers, while warding off another blow to a staggered financial market. Running the company during this crisis was an AIG management team brought to power after prosecutions of Spitzer, who parlayed his national stature as a Wall Street crusader to the governor’s offi ce, only to resign in disgrace 14 months later.
    In 2005, then-Attorney General Spitzer forced Greenberg out of the company he built over nearly 40 years. Spitzer accused Greenberg of conflicts of interest involving a foundation that Spitzer said benefited Greenberg and AIG.
    The New York Sun’s editorial on Wednesday put it bluntly: “Among all [of Spitzer’s] mistakes, it’s hard to think of one more catastrophic than his decision to force Maurice ‘Hank’ Greenberg out of the leadership of AIG.”
    Business blogs and Republican pundits carried much the same message, accurately noting that Spitzer eventually dropped some of his charges against Greenberg, that Greenberg hasn’t been found guilty of other charges, and that Greenberg continues to fight back in court.
    Blaming Spitzer will get a voice from New York Republicans who could use their favorite target again as they try to retain the Senate majority this fall.
    “When he was attorney general he was on a witch hunt, he’d go after anyone he could to get headlines,” said Senate Majority Leader Dean Skelos. “I look at the pattern from when Hank Greenberg went out, not just the crisis now, and the stock plummeted. It cost taxpayers hundreds of millions of dollars in our pension system.”
    Spitzer, silent since his resignation March 17 after being implicated in a federal prostitution investigation, has also been blamed for contributing to a state budget crisis this year. Now, Spitzer is working for his millionaire father in Manhattan real estate while the prostitution probe continues. It was just two years ago he carried a historic margin of victory over Republican John Faso.
    “Don’t blame me,” a bumper sticker seen in Albany says, “I voted for the other John.”
    Blaming Spitzer for AIG’s near catastrophe, however, is too easy. Although it’s hard to disagree AIG ran more smoothly under Greenberg, the management that replaced him faced unprecedented challenges of the financial industry that included meltdowns in the subprime mortgage and credit sectors.
    “I think the AIG problems were probably even bigger than Hank Greenberg and Eliot Spitzer,” said Professor James D. Cox of the School of Law at Duke University. “I would hope that something of this scale — which is mammoth, both the bailout and the problems that led up to it — are bigger than just politics.”
    Columbia Law Professor John Coffee blames AIG’s troubles on AIG owns practices: “Ratings agencies don’t downgrade anyone because Eliot Spitzer doesn’t like them.”
    But Spitzer’s crusade against Greenberg leaves another lesson.
    Spitzer was unyielding against Greenberg. AIG relented and booted a scapegoat, as most companies did in those prosecutions brought by Spitzer and, subsequently, by other ambitious attorneys general nationwide.
    That’s because a felony to a fi rm is fatal. So anything short of that, even agreeing to reform a string of misdeeds in settlements in which no one admits wrongdoing, is preferable. Short-term headlines aren’t much of a problem to a company in that spot, and even paying out millions in penalties — when billions are at stake — can be a pretty easy call.
    Even as Greenberg, as an individual, fought back, Spitzer knew the public would be on his side. Part of that was because Attorney General Spitzer was — sorry political revisionists — usually right about abuses he fought on Wall Street. Spitzer had smart, tough lawyers on his team, including Eric Dinallo, the current state insurance superintendent who was critical this week to keeping AIG alive long enough for the historic federal loan bailout.
    But Spitzer knew something else about public opinion in his effort to push Greenberg out of AIG: One of the few things millionaires who have great power can’t buy is public sympathy.
    Today, Spitzer is learning that lesson first hand.

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AIG facing fraud probe by FBI
BY IEVA M. AUGSTUMS The Associated Press

    CHARLOTTE, N.C. — American International Group Inc. may have agreed to take the U.S. government up on a two-year, $85 billion loan to help stave off bankruptcy, but now the nation’s largest insurer faces an FBI investigation.
    The news sent AIG shares down nearly 34 percent Wednesday.
    Law enforcement officials said Tuesday that the FBI was investigating the New York-based insurer for potential fraud, as well as mortgage finance companies Fannie Mae and Freddie Mac, and investment bank Lehman Brothers Holdings Inc.
    The inquiries will focus on the financial institutions and the individuals who ran them, a senior law enforcement official said.
    The law enforcement officials spoke on condition of anonymity because the investigations are ongoing and are in the very early stages.
    The four financial institutions’ recent travails helped trigger the government’s $700 billion bailout plan, which continued to be discussed on Capitol Hill Wednesday. Lehman Brothers filed for bankruptcy and the government has already taken over Fannie Mae and Freddie Mac.
    AIG spokesman Joseph Norton said Wednesday the company did not have details on the FBI investigation, but said “of course we will cooperate.”
    All four companies saw their stock prices plummet this year, as they struggled to survive under the weight of mounting losses tied to bad bets on complex mortgage-related securities.
    AIG shares tumbled $1.69, or 33.8 percent, to $3.31 in trading Wednesday.
    AIG traded as high as $70.13 last October, at the beginning of the credit crisis.
    Late Tuesday, AIG said it signed a definitive agreement with the Federal Reserve Bank of New York for the deal, which was hammered out last week. A final agreement could be filed by the end of the week, Norton said.
    The agreement provides a twoyear, $85 billion emergency loan at an interest rate of about 11.5 percent to AIG, which teetered on the edge of failure because of stresses caused by the collapse of the subprime mortgage market and the credit crunch that ensued.
    In return, the government will get a 79.9 percent stake in AIG.
    The agreement leaves “AIG essentially nationalized,” Bijan Moazami, an analyst at Friedman, Billings, Ramsey, wrote in a note to investors on Wednesday. “Shareholder efforts to prevent the government from taking an equity stake in AIG will prove fruitless.”
    Some of AIG’s shareholders had wanted to help the company raise enough money to avoid taking the loan and ceding a majority stake in the company.
    It wasn’t immediately clear whether AIG’s signing of the agreement ended any of those efforts.
    A spokesman for AIG’s largest individual shareholder, former Chief Executive Maurice “Hank” Greenberg, said Wednesday that Greenberg supported those efforts but declined to comment further.

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AIG plans sale of
business units
    CHARLOTTE, N.C. — The insurer American International Group Inc. said Friday it plans to sell off a number of business units to pay off its massive government loan.
    The announcement was expected by Wall Street. But it now leaves investors wondering how much AIG will be able to raise from the sales.
    AIG, one of the world’s biggest insurers, Friday didn’t specifically disclose all the assets it would sell or the expected prices from the sales. However, the New Yorkbased insurer said it plans to retain its U.S. property and casualty and foreign general insurance businesses, and also plans to retain an ownership interest in its foreign life insurance operations.

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Fed grants AIG $37.8 billion loan
By IEVA M. AUGSTUMS, AP Business Writer
1 hour, 31 minutes ago

The Federal Reserve on Wednesday agreed to provide insurance giant American International Group Inc. with a loan of up to $37.8 billion, on top of one made to the troubled company last month.

Under the new program, the Federal Reserve Bank of New York will borrow up to $37.8 billion in investment-grade, fixed income securities from AIG in return for cash collateral. These securities were previously lent by AIG's insurance company subsidiaries to third parties.

The arrangement will help AIG secure funds on an as-needed basis, the New York-based insurer said in a statement.

As of Monday, about $37.2 billion of securities were available for loans under AIG's securities lending program.

On the brink of failure last month, AIG was bailed out when the government offered it an $85 billion loan during the ongoing credit crisis that saw Lehman Brothers Holdings Inc. file for bankruptcy protection and the sale of Merrill Lynch & Co. to Bank of America Corp. In return for the two-year loan, the government received warrants to purchase up to 79.9 percent of AIG.

As of Sept. 30, AIG had drawn $61 billion on the credit facility, of which about $54 billion has gone toward its securities lending and AIG's financial products area. The rest of the money has been for other liquidity needs amid an "unprecedented" freezing of credit markets, Chief Executive Edward Liddy said last week.

Last week, AIG said it would sell off a number of business units to pay off its massive government loan. The company didn't specifically disclose all the assets it would sell or the expected prices from the sales. However, the New York-based insurer said it plans to retain its U.S. property and casualty and foreign general insurance businesses, and also plans to retain an ownership interest in its foreign life insurance operations.

The deal for the additional Fed loan comes as AIG has been castigated by lawmakers and the White House for spending hundreds of thousands of dollars on a posh California retreat just days after getting the federal bailout.

Lawmakers investigating AIG's meltdown said they were enraged that executives of AIG's main U.S. life insurance subsidiary spent $440,000 on the retreat, complete with spa treatments, banquets and golf outings. White House press secretary Dana Perino on Wednesday called the event "despicable."

AIG issued a statement Wednesday saying that the "business event" was planned months before the Sept. 16 bailout and that it was held for top-producing independent life insurance agents, not AIG employees. Of the 100 attendees, only 10 worked for the AIG unit hosting the event, it said.

The insurer said its Chief Executive Edward Liddy sent a letter to Treasury Secretary Henry Paulson "clarifying the circumstances" of the event. In the letter Liddy assured Paulson that AIG is "reevaluating the costs of all aspects of our operations in light of the new circumstances in which we are all operating."

Shares of AIG closed down 32 cents, or 9.1 percent, to $3.19 in trading Wednesday.

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The deal for the additional Fed loan comes as AIG has been castigated by lawmakers and the White House for spending hundreds of thousands of dollars on a posh California retreat just days after getting the federal bailout.

Lawmakers investigating AIG's meltdown said they were enraged that executives of AIG's main U.S. life insurance subsidiary spent $440,000 on the retreat, complete with spa treatments, banquets and golf outings. White House press secretary Dana Perino on Wednesday called the event "despicable."

AIG issued a statement Wednesday saying that the "business event" was planned months before the Sept. 16 bailout and that it was held for top-producing independent life insurance agents, not AIG employees. Of the 100 attendees, only 10 worked for the AIG unit hosting the event, it said.

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WASHINGTON (AP) - Less than a week after the federal government had to bail out American International Group Inc. (AIG), the company sent executives on a $440,000 retreat to a posh California resort, lawmakers investigating the company's meltdown said Tuesday.

The tab included $23,380 worth of spa treatments for AIG employees at the coastal St. Regis resort south of Los Angeles even as the company tapped into an $85 billion loan from the government it needed to stave off bankruptcy.