Yesterday’s bailout of the original bailout of AIG was defended by both regulators and AIG executives on the grounds that the terms of the original loans were “unsustainable.” But the terms of those loans were meant to be unsustainable. They were supposed to provide liquidity to AIG while the firm sold off its assets in an orderly way. They were never meant to prevent the failure of AIG, just a disorderly failure.
Indeed, the Federal Reserve and the Treasury were promoting the original bailout as a liquidation of AIG. “A senior Fed staffer said the most likely outcome was an orderly liquidation of AIG, though it was possible that the firm could survive as an ongoing business,”the Financial Times reported on September 17th.
You’ll have to forgive us for having such a long memory. We are burdened by our memories of September 16th, when the Federal Reserve presented the bailout of AIG as a temporary liquidity provision that would be repaid from the sale of AIG’s assets. Here’s how the Fed described the original bailout:
“The purpose of this liquidity facility is 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. 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 interests of taxpayers are protected by key terms of the loan. 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. The U.S. government will receive a 79.9 per cent equity interest in AIG and has the right to veto the payment of dividends to common and preferred shareholders.”
What seems to have happened is that AIG has refused to sell valuable assets, so it couldn’t meet its obligations under the original loan. The Fed and the Treasury may have believed AIG was going to liquidate itself, but AIG had other plans. Instead, AIG wanted to sell trash at inflated prices but no one would buy it. Of course, AIG uses all the usual excuses, claiming their weren’t buyers for assets except at fire-sale prices.
Here’s how Rick Newman describes the debacle:
“After the first $85 billion loan, some AIG executives and shareholders hoped the firm would quickly sell assets, pay off the federal loan, and regain control of itself. But it couldn’t. AIG has plenty to sell, including a profitable life-insurance business, global port operations, and the world’s biggest fleet of jetliners, which it leases to airlines worldwide. But the credit freeze has made it hard for even healthy companies to find the cash for such big purchases. And if AIG were forced to sell at fire-sale prices, it would depress the entire market for those assets, deepening the recession. That’s why the government, among other things, has given AIG more time to hold out for a fair price for some of its most valuable holdings. But there’s still no guarantee that this will save the company, and the government might have to dip even deeper into its bag of very expensive tricks.”
In short, the original deal was built on an overly optimistic view of the market’s demand for AIG assets. Keep in mind that this was in September, after the collapse of Lehman Brothers. What planet were these clowns on that they didn’t know they’d have to sell at fire-sale prices? The answer is that of course they knew there wasn’t a market for their assets. They just pretended they’d sell assets while they bought time to lobby for a less burdensome bailout.
We’d like to congratulate management on an excellent execution of this underhanded plan.
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