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Just a few weeks after the U.S. Treasury took over major morgage firms Fannie Mae and Freddie Mac, there’s another major financial institution that is getting a hand from our oh so capable money managers in the government.
Fearing a financial crisis worldwide, the Federal Reserve reversed course Tuesday and agreed to an $85 billion bailout that would give the government control of the troubled insurance giant American International Group.
With time running out after AIG failed to get a bank loan to avoid bankruptcy, Treasury Secretary Henry Paulson and 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. They emerged just after 7:30 p.m. with Paulson and Bernanke looking grim, but with top lawmakers generally expressing support for the plan.
But the bailout is likely to prove controversial, because it effectively puts taxpayer money at risk while protecting bad investments made by AIG and other institutions it does business with.
What frightened Fed and Treasury officials was not simply the prospect of another giant corporate bankruptcy, but AIG’s role as an enormous provider of financial insurance to investors who bought complex debt securities. That effectively required AIG to cover losses suffered by the buyers in the event the securities defaulted. It meant AIG was potentially on the hook for billions of dollars worth of risky securities that were once considered safe.
If AIG had collapsed — and been unable to pay all of its insurance claims — institutional investors around the world would have been instantly forced to reappraise the value of those securities, which in turn would have reduced their own capital and the value of their own debt.
“It would have been a chain reaction,” said Uwe Reinhardt, a professor of economics at Princeton University. “The spillover effects could have been incredible.”
So, you know, yay for not having a chain reaction of financial failure across the country, but um…
Does anyone else feel like maybe all these gov’t buy ups and bail outs are just an adhesive bandage on an arterial bleed?
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