The snowball that is the US and Global Financial Crisis continued to get larger Tuesday as American International Group (AIG), the nation’s largest insurer came close to collapse. Over the weekend, the Fed failed to provide a $40 Billion bridge loan that the company’s leadership had been pressing for, but late Monday night, the Fed stepped in. In exchange for an 80% ownership stake in the company, the government went against earlier promises and rescued AIG with an $85 Billion loan.
According to CNN:
Officials decided they had to act lest the nation’s largest insurer file bankruptcy. Such a move would roil world markets since AIG (AIG, Fortune 500) has $1.1 trillion in assets and 74 million clients in 130 countries. An eventual liquidation of the company is most likely, senior Fed officials said. But with the government loan, the company won’t have to go through a tumultuous fire sale.
The failure of AIG could have caused unprecedented global ripple effects, said Robert Bolton, managing director at Mendon Capital Advisors Corp. AIG is a major player in the market for credit default swaps, which are insurance-like contracts that guarantee against a company defaulting on its debt. Also, it is a huge provider of life insurance, property and casualty insurance and annuities.
“If AIG fails and can’t make good on its obligations, forget it,” Bolton said. “It’s as big a wave as you’re going to see.” AIG has had a very tough year. Rocked by the subprime crisis, the company has lost more than $18 billion in the past nine months and has seen its stock price fall more than 91% so far this year. It already raised $20 billion in fresh capital earlier this year. Its troubles stem from its sales of credit default swaps and from its subprime mortgage-backed securities holdings.
According to the International Herald Tribune:
The decision, announced by the Fed only two weeks after the Treasury Department took over the quasi-government mortgage finance companies Fannie Mae and Freddie Mac, is the most radical intervention in private business in the central bank’s history. With time running out after AIG failed to get a bank loan to avoid bankruptcy, Treasury Secterary Henry Paulson Jr. and the Fed chairman, Ben Bernanke convened a meeting with House and Senate leaders on Capitol Hill at about 6:30 p.m. Tuesday to explain the rescue plan.
The decision was a remarkable turnabout by the Bush administration and Paulson, who had flatly refused over the weekend to risk taxpayer money to prevent the collapse of Lehman Brothers or the distressed sale of Merrill Lynch to Bank of America. Earlier this year, the government bailed out another investment bank, Bear Stearns, by engineering a sale to JPMorgan Chase that left taxpayers on the hook for up to $29 billion of bad investments by Bear Stearns. The government hoped at the time that this unusual step would both calm markets and lead to a recovery by the financial system. But critics warned at the time that it would only encourage others to seek bailouts, and the eventual costs to the government would be staggering.
Was there any other option for the government? What now? Taxpayers now own Fannie, Freddie, and AIG . . . any guesses as to what’s next?
This week’s news has been the financial equivalent of a 9.5 earthquake on the richter scale . . . unprecedented!