U.S. authorities engineered an $85 billion (47.5 billion pounds) rescue of insurance giant American International Group Inc, staving off bankruptcy and bringing a measure of calm to shell-shocked global markets.
The bailout, made amid a cataclysmic week for the financial sector, marks a reversal of Washington's vow not to step in and calls for the U.S. Federal Reserve to lend up to $85 billion to AIG for two years in exchange for a 79.9 percent equity stake.
It came just two days after U.S. authorities refused to rescue investment bank Lehman Brothers Holdings Inc, forcing it into bankruptcy court despite pleas from Wall Street's chiefs.
The desperate scrambling by the US authorities to provide American International Group (AIG) with a taxpayer-funded lifeline of extraordinary size is a clear and unsettling signal that they believed its failure would threaten the already parlous stability of the global financial system.
The same authorities who were prepared to let Lehman go, and effectively forced Merrill Lynch into the arms of Bank of America, have agreed today to lend AIG a staggering $US85 billion.
While the announcement of the rescue was short on detail, the Federal Reserve Board said the two-year loan was secured by all of AIG’s assets and those of its main subsidiaries.
"Thank God," exclaimed Daniel Fuss, an influential bond manager who oversees more than $100 billion at Loomis, Sayles & Co in Boston. "AIG is interwoven with so many people and touches many companies around the world. This is a huge relief to many parts of the financial markets."
The rescue keeps AIG from surpassing Lehman as the largest U.S. corporate failure ever. It comes on the heels of a government bailout just over a week ago of mortgage finance companies Fannie Mae and Freddie Mac, and six months after the Fed helped to finance the fire sale of failed investment bank Bear Stearns to JPMorgan Chase.
The move comes at a sensitive time given job losses and tax rates are key issues in the battle for the White House between U.S. Senators John McCain and Barack Obama.
The Fed said the loan would assist AIG to meet its obligations as they came due and enable it to sell assets in an orderly manner with the least possible disruption to the overall US economy.
To put AIG’s significance to the global system into context, the various estimates of losses to counterparties if it collapsed range from about $US180 billion to $US200 billion. Total losses from the credit crisis so far amount to about $US500 billion, although there is an expectation they will easily top $US1 trillion – without AIG’s 'assistance'.
When they underwrote the sale of Bear Stearns to JP Morgan Chase they did so because they believed at the time that its collapse could jeopardise the continued functioning of the system. They were prepared to let Lehman and probably Merrill go because they didn’t.
AIG was, ultimately, too big, too important and too connected to both the system and the real US economy to allow it to fail. It may not be the last big institution to fall into that category.