“The Federal Reserve Board on Tuesday, with the full support of the Treasury Department, authorized the Federal Reserve Bank of New York to lend up to $85 billion to the American International Group (AIG)”, said the Federal Reserve in a press release, adding that the “secured loan has terms and conditions designed to protect the interests of the US government and taxpayers”.
“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”.
From the White House spokesperson Tony Fratto said that "the President supports the agreement announced this evening by the Federal Reserve". He added that “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 further explained that the purpose of the liquidity facility was to assist AIG in meeting its obligations as they come due. “This loan will facilitate a process under which AIG will sell certain of its businesses in an orderly manner, with the least possible disruption to the overall economy”.
The AIG facility has a 24-month term and the 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 US dollars under the facility”, but the interests of taxpayers are protected by key terms of the loan.
“The US government will receive a 79.9% equity interest in AIG and has the right to veto the payment of dividends to common and preferred shareholders”. Furthermore the loan is collateralized by all the assets of AIG, 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.”
Earlier, Fed chairman Bernanke and Paulson met Congressional leaders from both parties to brief them on the government's option.
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% and another 45%after hours.
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 US 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.
New York-based AIG operates an insurance and financial services businesses ranging from property, casualty, auto and life insurance to annuity and investment services.
