Can Someone Tell Me What Is Going On with AIG?

Question

The Federal Reserve has provided AIG $160 Billion dollars. Is it possible that the government fears that dirty secrets would come out if the insurance giant goes under. I have a couple of questions

1. How has the bailout money been used?

2. Why another $30 billions was approved to continue saving this insurance company?

3. Why the importance of saving this insurance company in particular?

Any thoughts out there? Have you found information that you would not mind sharing to the rest of us.

Adria H · Answer

Take a look at the 15 counterparties of AIG named recently in major newspapers. The WSJ also reported on the amounts paid to European bank counterparties out of bailout funds...

Michael Rossi · Answer

Jon gave a very good view of why we are bailing out AIG.  However, my question is HOW!  AIG effectively went broke $160,000,000,000 ago.  The only thing that has changed is that the US Taxpayer (government) is now paying the bill.   So, how is "bailing" AIG out any different or less expensive than simply allowing them to fail; having their parts bought by other solvent companies; and having the government spend hundreds of billions on the collateral damage?

Mike

Pedro Gonzalez · Answer

Jon:

Thank you for sharing your very well put together response to my question. I am glad that you brought to our attention to the macro view of the problem. It is easy to be blinded by anger or frustration and start talking out of both ends without having all of the elements of judgement.

Jon Holdman · Answer

So, I can't say I fully understand the AIG situation.  I'm not sure anyone does.

AIG is an insurance company.  They write normal kind of insurance like you and I would buy.  The assumption on normal insurance is that you won't pay out all the claims on all your policies at once.  For things like earthquakes or hurricanes, where you can have a lot of claims at once, you charge higher premiums.

AIG, though, wrote a bunch of policies to insure debt.  Specifically, mortgage debt.  During the boom, groups of mortgage were assembled into a "collateralized mortgage obligation".  This was then sold to some big investor, like a hedge fund, another bank, a sovereign investment fund, or some town.  Or, these CMOs were sliced into a very good piece, an OK piece, and a junk piece.  If there were defaults, the junk piece took the first hit, then the good piece, and only if there were a lot of defaults, did the very good piece get hit.

To make these seem even better, the seller of the debt would buy insurance on the debt.  That policy said, if this debt defaults, the insurance policy will pay you back your principle.  AIG collected a nice premium, and pretty much assumed the bonds would never default.

In reality, a BUNCH of this debt went bad.  Many, many of these policies AIG wrote now have claims.  Once the housing boom went bust, AIG was in a position of having far more claims than they could ever pay.  So, if they were just a small company with a few specific claims, they would have went belly up.  But, AIG is a huge company.  And the people making the claims are huge banks and foreign governments.  If AIG can't pay, these banks and governments will be out that money.

"Fine, they get what they deserved" you say.  But those banks are covered by FDIC insurance. So, if the bank can't pay back its depositors, the feds step in and pay people off.  Some people have more money in the bank than the insurance will cover.  I know a $250,000 insurance limit seems like a lot, but people nearing or in retirement can have some pretty big nest eggs.  Those people can end up losing money.  If it was your grandma who was losing a bunch of money she had in a bank, you'd be quite unhappy.

The situation can be even worse with the foreign investors.  The US borrows a bunch of money from foriegn investors each and every day.  Countries that are big savers, China, Japan, a lot of Middle Eastern countries, put a bunch of their savings into the US.  That's what funds our lifestyle.  People say the government prints money.  In reality, they print treasury bonds (i.e., loans), and borrow the money from foreign investors.  If those investors stop loaning, interest rates have to get much higher to entice them.  Our currency becomes worth less and less.  We have hyper inflation.

So, the feds are trying to prop up AIG to avoid all this chaos.

Jason Trepins · Answer

and in addition..
how about that 'great investment' giving BILLIONS to GM when we all knew they were going to go bankrupt anyways?

taxpayers screwed again

Pedro Gonzalez · Answer

Good point. What is next the Big Three Sport Leagues (MLB, NBA and NFL)?

James Hiddle · Answer

Actually the next big 3 are Playboy,Penthouse and Hustler :mrgreen: