[JPRT, 111th Congress]
[From the U.S. Government Publishing Office]



 
                                     


                     CONGRESSIONAL OVERSIGHT PANEL

                        JUNE OVERSIGHT REPORT *

                               ----------                              

   THE AIG RESCUE, ITS IMPACT ON MARKETS, AND THE GOVERNMENT'S EXIT 
                                STRATEGY

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



                 June 10, 2010.--Ordered to be printed

    * Submitted under Section 125(b)(1) of Title 1 of the Emergency 
        Economic Stabilization Act of 2008, Pub. L. No. 110-343
          CONGRESSIONAL OVERSIGHT PANEL JUNE OVERSIGHT REPORT
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                     CONGRESSIONAL OVERSIGHT PANEL

                        JUNE OVERSIGHT REPORT *

                               __________

   THE AIG RESCUE, ITS IMPACT ON MARKETS, AND THE GOVERNMENT'S EXIT 
                                STRATEGY


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



                 June 10, 2010.--Ordered to be printed

    * Submitted under Section 125(b)(1) of Title 1 of the Emergency 
        Economic Stabilization Act of 2008, Pub. L. No. 110-343
                     CONGRESSIONAL OVERSIGHT PANEL
                             Panel Members
                        Elizabeth Warren, Chair
                           Richard H. Neiman
                             Damon Silvers
                           J. Mark McWatters
                             Kenneth Troske
                            C O N T E N T S

                              ----------                              
                                                                   Page
Glossary of Terms................................................     V
Executive Summary................................................     1
Section One......................................................
    A. Overview..................................................    13
    B. AIG Before the Government Rescue..........................    14
        1. AIG's History.........................................    14
        2. AIG's Structure and Regulatory Scheme.................    15
        3. The Causes of AIG's Problems..........................    18
        4. Other Problematic Aspects of AIG's Financial Position 
          and Performance........................................    36
        5. The Role of Credit Rating Agencies....................    41
        6. Were Regulators Aware of AIG's Position?..............    42
    C. The Rescue................................................    46
        1. Key Events Leading up to the Rescue...................    46
        2. The Rescue Itself.....................................    55
        3. The Key Players in the Rescue.........................    58
        4. The Legal Options for Addressing AIG's Problems in 
          September 2008.........................................    61
    D. Subsequent Government Actions.............................    68
        1. Securities Borrowing Facility: October 2008...........    68
        2. The TARP Investment and First Restructuring: November 
          2008...................................................    69
        3. Maiden Lane II........................................    71
        4. Maiden Lane III.......................................    73
        5. Additional Assistance and Reorganization of Terms of 
          Original Assistance: March and April 2009..............    77
        6. Government's Ongoing Involvement in AIG...............    79
    E. The Impact of the Rescue: Where the Money Went............    82
        1. The Beneficiaries of the Rescue.......................    86
        2. How the Beneficiaries Would Have Fared in Bankruptcy..    95
    F. Analysis of the Government's Decisions....................   105
        1. Initial Crisis: September 2008........................   105
        2. Securities Borrowing Facility: October 2008...........   137
        3. The TARP Investment and First Restructuring: November 
          2008...................................................   138
        4. Maiden Lane II........................................   141
        5. Maiden Lane III.......................................   141
        6. Additional Assistance and Reorganization of Terms of 
          Original Assistance: March and April 2009..............   148
        7. Government's Ongoing Involvement in AIG...............   150
        8. Differences between the Treatment of AIG and Other 
          Recipients of Exceptional Assistance...................   151
    G. Assessment of the Role of Treasury and the Federal Reserve   154
    H. Current Government Holdings and Their Value...............   156
        1. Market's View of AIG's Equity.........................   157
        2. Residual Value of AIG: the Parameters of Debate.......   162
        3. Administration and CBO Subsidy Estimates..............   164
    I. Exit Strategies...........................................   165
        1. Overview..............................................   166
        2. AIG's Plans for Return to Profitability...............   172
        3. Treasury's Plan for Exit..............................   186
    J. Executive Compensation....................................   189
        1. General...............................................   189
        2. Initial Government Involvement........................   190
        3. The AIGFP Retention Payments..........................   190
        4. The Special Master....................................   191
        5. Effect on AIG's Future................................   195
    K. Conclusion................................................   195
        1. AIG Changed a Fundamental Market Relationship.........   195
        2. The Powerful Role of Credit Rating Agencies...........   196
        3. The Options Available to the Government...............   196
        4. The Government's Authorities in a Financial Crisis....   198
        5. Conflicts.............................................   199
Annexes:
    Annex I: Where the Money Went................................   202
    Annex II: Detailed Timeline of Events Leading up to the 
      Rescue of AIG..............................................   203
    Annex III: What are Credit Default Swaps?....................   213
    Annex IV: Legal Authorities..................................   221
    Annex V: Securities Lending..................................   231
    Annex VI: Details of Maiden Lane II Holdings.................   232
    Annex VII: Details of Maiden Lane III Holdings...............   234
    Annex VIII: Comparison of Effect of Rescue and Bankruptcy....   236
Section Two: Additional Views....................................
    A.  J. Mark McWatters........................................   241
Section Three: Correspondence with Treasury Update...............   254
Section Four: TARP Updates Since Last Report.....................   255
Section Five: Oversight Activities...............................   272
Section Six: About the Congressional Oversight Panel.............   273
Appendices:
    APPENDIX I: LETTER TO CHAIR ELIZABETH WARREN FROM ASSISTANT 
      SECRETARY HERB ALLISON RE: GM LOAN REPAYMENT, DATED MAY 18, 
      2010.......................................................   274
    APPENDIX II: LETTER TO SENATOR CHARLES GRASSLEY FROM 
      SECRETARY TIMOTHY GEITHNER RE: GM LOAN REPAYMENT, DATED 
      APRIL 27, 2010.............................................   277
    APPENDIX III: LETTER TO REPRESENTATIVES PAUL RYAN, JEB 
      HENSARLING, AND SCOTT GARRETT FROM SECRETARY TIMOTHY 
      GEITHNER RE: GM LOAN REPAYMENT, DATED APRIL 30, 2010.......   280


                           Glossary of Terms

ABS                                   Asset-backed securities
AGF                                   American General Finance
AGP                                   Asset Guarantee Program
AIA                                   American International Assurance
                                       Company
AIG                                   American International Group, Inc.
AIGCFG                                AIG Consumer Finance Group
AIGFP                                 AIG Financial Products
AIGIP                                 AIG Investment Program
AIG FSB                               AIG Federal Savings Bank
AIRCO                                 American International Reinsurance
                                       Co.
ALICO                                 American Life Insurance Company
AMLF                                  Asset-Backed Commercial Paper
                                       Money Market Mutual Fund
                                       Liquidity Facility
CBO                                   Congressional Budget Office
CDO                                   Collateralized debt obligation
CDS                                   Credit default swap
CLO                                   Collateralized loan obligation
CMBS                                  Commercial mortgage-backed
                                       securities
CP                                    Counterparty
CPP                                   Capital Purchase Program
CPFF                                  Commercial Paper Funding Facility
DIP                                   Debtor-in-possession
EESA                                  Emergency Economic Stabilization
                                       Act of 2008
EU                                    European Union
FDIC                                  Federal Deposit Insurance
                                       Corporation
FRBNY                                 Federal Reserve Bank of New York
GAO                                   U.S. Government Accountability
                                       Office
GIA                                   Guaranteed Investment Agreements
ILFC                                  International Lease Finance
                                       Corporation
ISDA                                  International Swaps and
                                       Derivatives Association
LIBOR                                 London Interbank Offered Rate
LTCM                                  Long-Term Capital Management
ML2                                   Maiden Lane II
ML3                                   Maiden Lane III
NAIC                                  National Association of Insurance
                                       Commissioners
OIS                                   Overnight Index Spread Rate
OMB                                   Office of Management and Budget
OTS                                   Office of Thrift Supervision
RCF                                   Revolving Credit Facility
RMBS                                  Residential mortgage-backed
                                       securities
ROE                                   Return on equity
S&P                                   Standard & Poor's
SBF                                   Securities Borrowing Facility
SEC                                   U.S. Securities and Exchange
                                       Commission
SIGTARP                               Special Inspector General for the
                                       Troubled Asset Relief Program
SPA                                   Securities purchase agreement
SPV                                   Special purpose vehicle
SSFI                                  Systemically Significant Failing
                                       Institution Program
TARP                                  Troubled Asset Relief Program
TIP                                   Targeted Investment Program
TruPS                                 Trust preferred securities
======================================================================



 
                         JUNE OVERSIGHT REPORT

                                _______
                                

                 June 10, 2010.--Ordered to be printed

                                _______
                                

                          EXECUTIVE SUMMARY *

    At its peak, American International Group (AIG) was one of 
the largest and most successful companies in the world, 
boasting a AAA credit rating, over $1 trillion in assets, and 
76 million customers in more than 130 countries. Yet the 
sophistication of AIG's operations was not matched by an 
equally sophisticated risk-management structure. This poor 
management structure, combined with a lack of regulatory 
oversight, led AIG to accumulate staggering amounts of risk, 
especially in its Financial Products subsidiary, AIG Financial 
Products (AIGFP). Among its other operations, AIGFP sold credit 
default swaps (CDSs), instruments that would pay off if certain 
financial securities, particularly those made up of subprime 
mortgages, defaulted. So long as the mortgage market remained 
sound and AIG's credit rating remained stellar, these 
instruments did not threaten the company's financial stability.
---------------------------------------------------------------------------
    * The Panel adopted this report with a 4-0 vote on June 9, 2010.
---------------------------------------------------------------------------
    The financial crisis, however, fundamentally changed the 
equation on Wall Street. As subprime mortgages began to 
default, the complex securities based on those loans threatened 
to topple both AIG and other long-established institutions. 
During the summer of 2008, AIG faced increasing demands from 
their CDS customers for cash security--known as collateral 
calls--totaling tens of billions of dollars. These costs put 
AIG's credit rating under pressure, which in turn led to even 
greater collateral calls, creating even greater pressure on 
AIG's credit.
    By early September, the problems at AIG had reached a 
crisis point. A sinkhole had opened up beneath the firm, and it 
lacked the liquidity to meet collateral demands from its 
customers. In only a matter of months AIG's worldwide empire 
had collapsed, brought down by the company's insatiable 
appetite for risk and blindness to its own liabilities.
    AIG sought more capital in a desperate attempt to avoid 
bankruptcy. When the company could not arrange its own funding, 
Federal Reserve Bank of New York President Timothy Geithner, 
who is now Secretary of the Treasury, told AIG that the 
government would attempt to orchestrate a privately funded 
solution in coordination with JPMorgan Chase and Goldman Sachs. 
A day later, on September 16, 2008, FRBNY abandoned its effort 
at a private solution and rescued AIG with an $85 billion, 
taxpayer-backed Revolving Credit Facility (RCF). These funds 
would later be supplemented by $49.1 billion from Treasury 
under the Troubled Asset Relief Program (TARP), as well as 
additional funds from the Federal Reserve, with $133.3 billion 
outstanding in total. The total government assistance reached 
$182 billion.
    After reviewing the federal government's actions leading up 
to the AIG rescue, the Panel has identified several major 
concerns:
    The government failed to exhaust all options before 
committing $85 billion in taxpayer funds. In previous rescue 
efforts, the federal government had placed a high priority on 
avoiding direct taxpayer liability for the rescue of private 
businesses. For example, in 1998, the Federal Reserve pressed 
private parties to prevent the collapse of Long-Term Capital 
Management, but no government money was used. In the spring of 
2008, the Federal Reserve arranged for the sale of Bear Stearns 
to JPMorgan Chase. Although the sale was backed by $28.2 
billion of federal loans, much of the risk was borne by private 
parties.
    With AIG, the Federal Reserve and Treasury broke new 
ground. They put U.S. taxpayers on the line for the full cost 
and the full risk of rescuing a failing company.
    During the Panel's meetings, the Federal Reserve and 
Treasury repeatedly stated that they faced a ``binary choice'': 
either allow AIG to fail or rescue the entire institution, 
including payment in full to all of its business partners. The 
government argues that AIG's failure would have resulted in 
chaos, so that a wholesale rescue was the only viable choice. 
The Panel rejects this all-or-nothing reasoning. The government 
had additional options at its disposal leading into the crisis, 
although those options narrowed sharply in the final hours 
before it committed $85 billion in taxpayer dollars.
    For example, the federal government could have acted 
earlier and more aggressively to secure a private rescue of 
AIG. Government officials, fully aware that both Lehman 
Brothers and AIG were on the verge of collapse, prioritized 
crafting a rescue for Lehman while they left AIG to attempt to 
arrange its own funding. By the time the Federal Reserve Bank 
reversed that approach, leaving Lehman to collapse into 
bankruptcy without help and concluding that AIG posed a greater 
threat to financial stability, time to explore other options 
was short. The government then put the efforts to organize a 
private AIG rescue in the hands of only two banks, JPMorgan 
Chase and Goldman Sachs, institutions that had severe conflicts 
of interest as they would have been among the largest 
beneficiaries of a taxpayer rescue.
    When that effort failed, the Federal Reserve decided not to 
press major lenders to participate in a private deal or to 
propose a rescue that combined public and private funds. As 
Secretary Geithner later explained to the Panel it would have 
been irresponsible and inappropriate in his view for a central 
banker to press private parties to participate in deals to 
which the parties were not otherwise attracted. Nor did the 
government offer to extend credit to AIG only on the condition 
that AIG negotiate discounts with its financial counterparties. 
Secretary Geithner later testified that he believed that 
payment in full to all AIG counterparties was necessary to stop 
a panic. In short, the government chose not to exercise its 
substantial negotiating leverage to protect taxpayers or to 
maintain basic market discipline.
    There is no doubt that orchestrating a private rescue in 
whole or in part would have been a difficult--perhaps 
impossible--task, and the effort might have met great 
resistance from other financial institutions that would have 
been called on to participate. But if the effort had succeeded, 
the impact on market confidence would have been extraordinary, 
and the savings to taxpayers would have been immense. Asking 
for shared sacrifice among AIG's counterparties might also have 
provoked substantial opposition from Wall Street. Nonetheless, 
more aggressive efforts to protect taxpayers and to maintain 
market discipline, even if such efforts had failed, might have 
increased the government's credibility and persuaded the public 
that the extraordinary actions that followed were undertaken to 
protect them.
    The rescue of AIG distorted the marketplace by transforming 
highly risky derivative bets into fully guaranteed payment 
obligations. In the ordinary course of business, the costs of 
AIG's inability to meet its derivative obligations would have 
been borne entirely by AIG's shareholders and creditors under 
the well-established rules of bankruptcy. But rather than 
sharing the pain among AIG's creditors--an outcome that would 
have maintained the market discipline associated with credit 
risks--the government instead shifted those costs in full onto 
taxpayers out of a belief that demanding sacrifice from 
creditors would have destabilized the markets. The result was 
that the government backed up the entire derivatives market, as 
if these trades deserved the same taxpayer backstop as savings 
deposits and checking accounts.
    One consequence of this approach was that every 
counterparty received exactly the same deal: a complete rescue 
at taxpayer expense. Among the beneficiaries of this rescue 
were parties whom taxpayers might have been willing to support, 
such as pension funds for retired workers and individual 
insurance policy holders. But the across-the-board rescue also 
benefitted far less sympathetic players, such as sophisticated 
investors who had profited handsomely from playing a risky game 
and who had no reason to expect that they would be paid in full 
in the event of AIG's failure. Other beneficiaries included 
foreign banks that were dependent on contracts with AIG to 
maintain required regulatory capital reserves. Some of those 
same banks were also counterparties to other AIG CDSs.
    Throughout its rescue of AIG, the government failed to 
address perceived conflicts of interest. People from the same 
small group of law firms, investment banks, and regulators 
appeared in the AIG saga in many roles, sometimes representing 
conflicting interests. The lawyers who represented banks trying 
to put together a rescue package for AIG became the lawyers to 
the Federal Reserve, shifting sides within a matter of minutes. 
Those same banks appeared first as advisors, then potential 
rescuers, then as counterparties to several different kinds of 
agreements with AIG, and ultimately as the direct and indirect 
beneficiaries of the government rescue. The composition of this 
tightly intertwined group meant that everyone involved in AIG's 
rescue had the perspective of either a banker or a banking 
regulator. These entanglements created the perception that the 
government was quietly helping banking insiders at the expense 
of accountability and transparency.
    Even at this late stage, it remains unclear whether 
taxpayers will ever be repaid in full. AIG and Treasury have 
provided optimistic assessments of AIG's value. As current AIG 
CEO Robert Benmosche told the Panel, ``I'm confident you'll get 
your money, plus a profit.'' The Congressional Budget Office 
(CBO), however, currently estimates that taxpayers will lose 
$36 billion. A large portion of the funds needed to repay 
taxpayers will be generated through the sale of assets bought 
by the government to assist AIG, assets still held by AIG, and 
units of AIG sold to third parties or to the public through 
initial public offerings. The uncertainty lies in whether AIG's 
remaining business units will generate sufficient new business 
to create the necessary shareholder value to repay taxpayers in 
full. AIG's management is unsurprisingly bullish on that 
prospect, where the CBO does not attempt to forecast such 
expansion in revenues and instead relies on a baseline 
estimate. For now, the ultimate cost or profit to taxpayers is 
unknowable, but it is clear that taxpayers remain at risk for 
severe losses.
    The government's actions in rescuing AIG continue to have a 
poisonous effect on the marketplace. By providing a complete 
rescue that called for no shared sacrifice among AIG's 
creditors, the Federal Reserve and Treasury fundamentally 
changed the relationship between the government and the 
country's most sophisticated financial players. Today, AIG 
enjoys a five-level improvement in its credit rating based 
solely on its access to government funding on generous terms. 
Even more significantly, markets have interpreted the 
government's willingness to rescue AIG as a sign of a broader 
implicit guarantee of ``too big to fail'' firms. That is, the 
AIG rescue demonstrated that Treasury and the Federal Reserve 
would commit taxpayers to pay any price and bear any burden to 
prevent the collapse of America's largest financial 
institutions, and to assure repayment to the creditors doing 
business with them. So long as this remains the case, the worst 
effects of AIG's rescue on the marketplace will linger.
    In this report, the Panel presents a comprehensive overview 
of the AIG transactions based on a review of many thousands of 
documents. In addition to reviewing the likelihood of repayment 
from AIG, the Panel focuses on the decisions by the Federal 
Reserve and Treasury to rescue AIG and the ways they executed 
that rescue. Their decisions set the course for the AIG rescue 
and the broader TARP and raise significant policy questions 
that the Federal Reserve and Treasury may face again--questions 
that are best answered in careful consideration of the 
aftermath of AIG's rescue rather than in the throes of the next 
crisis.
    Through a series of actions, including the rescue of AIG, 
the government succeeded in averting a financial collapse, and 
nothing in this report takes away from that accomplishment. But 
this victory came at an enormous cost. Billions of taxpayer 
dollars were put at risk, a marketplace was forever changed, 
and the confidence of the American people was badly shaken. How 
the government will manage those costs, both in the specific 
case of AIG and in the more general case of TARP, remains a 
central challenge--one the Panel will continue to review.

               FIGURE 1: OVERVIEW OF THE AIG TRANSACTIONS

    The government's rescue of AIG involves several different 
funding facilities provided by different government entities, 
with various changes to the transactions over time. The 
following tables summarize the sources of funds for AIG's 
rescue and the current status of that assistance, as well as 
the uses to which those funds were put. The report discusses 
these transactions in more detail.

--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                           Status Over
                                    Type of       Length of Loan/      Capital/                                            Changes to     Time: Exposure
       Transaction Date          Transaction/         Term of      Available Credit    Interest Rate      Oversight         Previous        at Height;
                                   Security         Investment       to AIG or ML                                         Transactions    Total Current
                                                                        entity                                                               Exposure
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                        Federal Reserve Revolving Credit Facility
--------------------------------------------------------------------------------------------------------------------------------------------------------
9/16/2008....................  FRBNY received    2 years.........  Up to $85B......  3-month LIBOR +   3 independent    N/A............  Exposure at
                                Series C                                              8.5% on drawn     trustees to                       height of
                                Perpetual,                                            funds; 8.5% fee   oversee equity                    facility: $72B
                                Convertible,                                          on undrawn but    interest for                      (10/2008)
                                Participating                                         available         duration of                      Total current
                                Preferred Stock                                       funds; one-time   loan.                             exposure:
                                convertible                                           commitment fee                                      $26.1B
                                into 79.9% of                                         of 2% of loan                                       outstanding as
                                issued and                                            principal.                                          of 5/27/2010
                                outstanding
                                common shares.
11/25/2008...................  Reduction in      Extended to 5     Reduced to $60B.  3-month LIBOR                      Loan term
                                loan ceiling      years.                              (with a minimum                    extended;
                                and interest                                          floor of 3.5%)                     credit
                                rate.                                                 +3% on drawn                       available
                                                                                      funds; 0.75%                       reduced;
                                                                                      fee on undrawn                     interest rate
                                                                                      funds.                             reduced; fee
                                                                                                                         on undrawn
                                                                                                                         funds reduced
                                                                                                                         by 7.75%
                                                                                                                         points to
                                                                                                                         0.75%.
4/17/2009....................  Reduction in                                          3-month LIBOR                      Removed minimum
                                interest rate.                                        (no floor) + 3%                    3.5% LIBOR
                                                                                      on drawn funds;                    borrowing
                                                                                      0.75% fee on                       floor;
                                                                                      undrawn funds                      permitted
                                                                                                                         issuance of
                                                                                                                         preferred
                                                                                                                         stock to
                                                                                                                         Treasury.
12/1/2009....................  Debt for equity                     Reduced to $35B.                                     Reduced loan
                                swap.                                                                                    ceiling by
                                                                                                                         $25B in
                                                                                                                         exchange for
                                                                                                                         FRBNY
                                                                                                                         obtaining a
                                                                                                                         preferred
                                                                                                                         interest in
                                                                                                                         AIA and ALICO
                                                                                                                         SPVs.
5/6/2010.....................  Reduction in                        Reduced to $34B.                                     Reduced loan
                                loan ceiling.                                                                            ceiling due to
                                                                                                                         sale of
                                                                                                                         HighStar Port
                                                                                                                         Partners, L.P..
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                      Federal Reserve Securities Borrowing Facility
--------------------------------------------------------------------------------------------------------------------------------------------------------
10/8/2008....................  FRBNY borrowed                      Up to $37.8B....                                                      Exposure at
                                investment-                                                                                               height of
                                grade, fixed                                                                                              facility:
                                income                                                                                                    $17.5B (10/
                                securities from                                                                                           2008)
                                AIG in exchange                                                                                          Total current
                                for cash                                                                                                  exposure:
                                collateral.                                                                                               None; became
                                                                                                                                          Maiden Lane II
                                                                                                                                         Facility
                                                                                                                                          creates better
                                                                                                                                          terms for AIG,
                                                                                                                                          as the company
                                                                                                                                          is effectively
                                                                                                                                          the lender of
                                                                                                                                          securities for
                                                                                                                                          cash
--------------------------------------------------------------------------------------------------------------------------------------------------------


--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                                           Status Over
                                    Type of       Length of Loan/      Capital/                                            Changes to     Time: Exposure
       Transaction Date          Transaction/         Term of      Available Credit    Interest Rate      Oversight         Previous        at Height;
                                   Security         Investment       to AIG or ML                                         Transactions    Total Current
                                                                        entity                                                               Exposure
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                     TARP-SSFI/AIGIP
--------------------------------------------------------------------------------------------------------------------------------------------------------
11/25/2008...................  Treasury          Perpetual Life    $40.0B..........  Treasury........                   Total current
                                purchased         (Preferred); 10- 10% quarterly                                         exposure is
                                Series D Fixed    year life         dividends,                                           highest to
                                Rate Cumulative   (Warrants).       cumulative.                                          date. Treasury
                                Preferred and                                                                            holds:.
                                Warrants for                                                                            --$40B in
                                common stock.                                                                            Series E Fixed
                                                                                                                         Rate Non-
                                                                                                                         Cumulative
                                                                                                                         Preferred
                                                                                                                         Stock.
                                                                                                                        --$7.5B in
                                                                                                                         Series F Fixed
                                                                                                                         Rate Non-
                                                                                                                         Cumulative
                                                                                                                         Perpetual
                                                                                                                         Preferred
                                                                                                                         Stock.
                                                                                                                        --Warrants
                                                                                                                         equal to 2% of
                                                                                                                         common shares
                                                                                                                         outstanding.
                                                                                                                        Accrued and
                                                                                                                         unpaid
                                                                                                                         dividends from
                                                                                                                         original
                                                                                                                         Series D
                                                                                                                         Preferred
                                                                                                                         Stock of $1.6B
                                                                                                                         outstanding
                                                                                                                         must be paid
                                                                                                                         at redemption.
                                                                                                                         Additional
                                                                                                                         $0.2B
                                                                                                                         commitment fee
                                                                                                                         to be paid
                                                                                                                         from AIG's
                                                                                                                         operating
                                                                                                                         income in
                                                                                                                         three equal
                                                                                                                         installments
                                                                                                                         over 5-year
                                                                                                                         life of
                                                                                                                         revolving
                                                                                                                         credit
                                                                                                                         facility.
                                                                                                                        Capital used to
                                                                                                                         pay down
                                                                                                                         original Fed
                                                                                                                         credit
                                                                                                                         facility;
                                                                                                                         Trust
                                                                                                                         ownership
                                                                                                                         percentage on
                                                                                                                         conversion
                                                                                                                         becomes 77.9%,
                                                                                                                         with Treasury
                                                                                                                         holding
                                                                                                                         warrants equal
                                                                                                                         to an
                                                                                                                         additional 2%
                                                                                                                         common stock
                                                                                                                         ownership.
4/17/2009....................  Treasury          Perpetual Life..                    10% quarterly     Treasury.......  Treasury
                                exchanged                                             dividends, non-                    exchanged
                                Series D for                                          cumulative.                        Series D
                                Series E Fixed                                                                           Preferred
                                Rate Non-                                                                                Shares for
                                Cumulative                                                                               Series E Fixed
                                Preferred                                                                                Rate Non-
                                Shares and                                                                               Cumulative
                                Warrants for                                                                             Preferred
                                common stock.                                                                            Shares.
                                                                                                                         Accrued and
                                                                                                                         unpaid
                                                                                                                         dividends of
                                                                                                                         $1.6B from
                                                                                                                         Series D
                                                                                                                         shares must be
                                                                                                                         paid at time
                                                                                                                         of Series E
                                                                                                                         redemption.
4/17/2009....................  Treasury          Perpetual Life    $29.8B..........  10% quarterly     Treasury.......  Additional
                                purchased         (Preferred); 10-                    dividends, non-                    capital
                                additional        year life                           cumulative.                        injection that
                                Series F Fixed    (Warrants).                                                            reflects a
                                Rate Non-                                                                                commitment of
                                Cumulative                                                                               up to $30.0B
                                Preferred                                                                                reduced by
                                Shares and                                                                               $0.2B in
                                Warrants for                                                                             retention
                                common stock.                                                                            payments made
                                                                                                                         by AIGFP to
                                                                                                                         employees in
                                                                                                                         March 2009.
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                     Maiden Lane II
--------------------------------------------------------------------------------------------------------------------------------------------------------
11/10/2008...................  FRBNY formed LLC  6 years, to be    Up to $22.5B....  1-month LIBOR +   FRBNY with       Terminates       Principal
                                to purchase       extended at                         100 bps (loan     asset            Securities       balance
                                RMBS from AIG     FRBNY's                             by FRBNY); 1-     management by    Borrowing        exposure at
                                insurance         discretion.                         month LIBOR +     BlackRock        Facility.        closing
                                subsidiaries,                                         300 bps           Financial        Formation of     (height):
                                lending money                                         (deferred         Management.      an LLC to be     $19.5B on Fed
                                to the LLC for                                        purchase price                     lent money       senior loan
                                this purpose.                                         to AIG subs).                      from FRBNY to   Total current
                                                                                                                         purchase RMBS    exposure on
                                                                                                                         from AIG         outstanding
                                                                                                                         insurance        principal
                                                                                                                         subsidiaries.    amount and
                                                                                                                         AIG sub          accrued
                                                                                                                         receives a 1/6   interest due
                                                                                                                         participation    to FRBNY:
                                                                                                                         in any           $14.9B as of 5/
                                                                                                                         residual         27/2010, with
                                                                                                                         portfolio cash   deferred
                                                                                                                         flows after      payment and
                                                                                                                         loan             accrued
                                                                                                                         repayment.       interest due
                                                                                                                         FRBNY receives   to AIG
                                                                                                                         5/6 of any       subsidiaries
                                                                                                                         residual cash    of $1.1B as of
                                                                                                                         flows.           5/27/2010
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                     Maiden Lane III
--------------------------------------------------------------------------------------------------------------------------------------------------------
11/10/2008...................  FRBNY formed LLC  6 years, to be    Up to $30.0B....  1-month LIBOR +   FRBNY with       Same as above,   Principal
                                to purchase       extended at                         100 bps (loan     asset            only for         balance
                                multisector       FRBNY's                             by FRBNY); 1-     management by    purchase of      exposure at
                                CDOs from         discretion.                         month LIBOR +     BlackRock        multisector      closing
                                counterparties                                        300 bps           Financial        CDOs from        (height):
                                of AIGFP,                                             (repayment to     Management.      counterparties   $24.3B on Fed
                                lending money                                         AIG of equity                      of AIGFP. AIG    senior loan
                                to the LLC for                                        contribution                       and FRBNY       Total current
                                this purpose.                                         amount).                           receive 33%      exposure on
                                                                                                                         and 67%,         outstanding
                                                                                                                         respectively,    principal
                                                                                                                         of any           amount and
                                                                                                                         remaining        accrued
                                                                                                                         proceeds after   interest due
                                                                                                                         repayment of     to FRBNY:
                                                                                                                         loan and         $16.6B as of 5/
                                                                                                                         equity           27/2010, with
                                                                                                                         contribution.    outstanding
                                                                                                                                          principal and
                                                                                                                                          accrued
                                                                                                                                          interest on
                                                                                                                                          loan due to
                                                                                                                                          AIG of $5.3B
                                                                                                                                          as of 5/27/
                                                                                                                                          2010
--------------------------------------------------------------------------------------------------------------------------------------------------------

                                                                                                                                          
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

                                                                                                                                          

      FIGURE 3: GOVERNMENT ASSISTANCE TO AIG AS OF MAY 27, 2010 \2\
                          [Dollars in millions]
------------------------------------------------------------------------
                                                            Assistance
                                              Amount          Amount
                                            Authorized    Outstanding as
                                                            of 5/27/10
------------------------------------------------------------------------
                                  FRBNY
------------------------------------------------------------------------
Revolving Credit Facility...............         $34,000         $26,133
Maiden Lane II: Outstanding principal             22,500          14,532
 amount of loan extended by FRBNY.......
    Net portfolio holdings of Maiden                  --          15,910
     Lane II LLC........................
    Accrued interest payable to FRBNY...              --             342
Maiden Lane III: Outstanding principal            30,000          16,206
 amount of loan extended by FRBNY.......
    Net portfolio holdings of Maiden                  --          23,380
     Lane III LLC \3\...................
    Accrued interest payable to FRBNY...              --             427
Preferred interest in AIA Aurora LLC....          16,000          16,266
    Accrued dividends on preferred        ..............             125
     interests in AIA Aurora LLC........
Preferred interest in ALICO SPV.........           9,000           9,150
    Accrued dividends on preferred        ..............              70
     interests in ALICO Holdings LLC....
                                         -------------------------------
        Total FRBNY.....................         111,500          83,251
------------------------------------------------------------------------
                                  TARP
------------------------------------------------------------------------
Series E Non-cumulative Preferred stock.          40,000          40,000
    Unpaid dividends on Series D          ..............           1,600
     Preferred stock....................
Series F Non-cumulative Preferred stock.          29,835           7,544
                                         -------------------------------
        Total TARP......................          69,835          49,144
========================================================================
Net borrowings..........................         181,335         129,831
Accrued interest payable and unpaid       ..............           2,564
 dividends..............................
                                         -------------------------------
        Total Balance Outstanding.......        $181,335       $132,395
------------------------------------------------------------------------
\2\ U.S. Department of the Treasury, Troubled Asset Relief Program
  Transactions Report for Period Ending May 26, 2010, at 18 (May 28,
  2010) (online at www.financialstability.gov/docs/transaction-reports/5-
  28-10%20Transactions%20Report%20as%20of%205-26-10.pdf) (hereinafter
  ``Treasury Transactions Report''); Board of Governors of the Federal
  Reserve System, Factors Affecting Reserve Balances (H.4.1) (May 27,
  2010) (online at www.federalreserve.gov/releases/h41/20100527/)
  (hereinafter ``Federal Reserve H.4.1 Statistical Release'').
\3\ Federal Reserve H.4.1 Statistical Release, supra note 2 (``Dividends
  accrue as a percentage of the FRBNY's preferred interests in AIA
  Aurora LLC and ALICO Holdings LLC. On a quarterly basis, the accrued
  dividends are capitalized and added to the FRBNY's preferred interests
  in AIA Aurora LLC and ALICO Holdings LLC.'').


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

  
                              SECTION ONE:


                              A. Overview

    At the height of the government support, AIG and its 
affiliates had received $89.5 billion in loans from the Federal 
Reserve, $43.8 billion through Maiden Lanes II and III, and 
$49.1 billion in investments from Treasury. The government 
outlay remains high, with $26.1 billion in loans outstanding 
from the Federal Reserve's Revolving Credit Facility as of May 
27, 2010, $25.4 billion in preferred holdings of AIG related 
special purpose vehicles (SPVs), and the same Treasury support 
outstanding as at its height. The government controls 79.8 
percent of AIG's equity and has appointed 2 of its 13 
directors. Only Fannie Mae and Freddie Mac, institutions in 
government conservatorship, have received more money from the 
government.
    This report examines how AIG, a unique amalgamation of 
insurance and other financial companies, got into trouble, and 
looks at some of the regulatory challenges presented by such an 
entity. It follows the taxpayers' money. And it examines the 
actions taken by various governmental entities, primarily the 
Federal Reserve Bank of New York (FRBNY),\4\ which took the 
lead in the AIG rescue, the reasons those entities gave for the 
various decisions taken in the rescue, and the effectiveness of 
the government in achieving its objectives. The report also 
examines how those actions were explained to the taxpayer both 
contemporaneously and subsequently.
---------------------------------------------------------------------------
    \4\ FRBNY is one of 12 regional banks within the Federal Reserve 
System.
---------------------------------------------------------------------------
    The government chose to rescue AIG in full, rather than 
conditioning any rescue on shared losses with the creditors, 
whether through negotiation or bankruptcy. The significance of 
this choice cannot be overstated. The decision determined the 
parameters of all subsequent actions and decisions, and thus 
the report examines the choice in detail. Because the 
government chose to rescue AIG as a whole, all AIG's creditors 
were paid off in full. The report explains how the government's 
funds were used and who benefitted. It also asks how those 
results might have differed if bankruptcy, or some other option 
than wholesale rescue, had been chosen.
    Looking forward, the report examines AIG's plans to repay 
the taxpayers and the government's plans to exit its AIG 
holdings.
    The Panel's mandate is to review the use by the Secretary 
of the Treasury of his authority under the Emergency Economic 
Stabilization Act of 2008 (EESA) and his administration of the 
TARP. Treasury's actions, and the role Treasury chose to play 
with respect to AIG, cannot be understood except in the context 
of the actions taken by the Board of Governors of the Federal 
Reserve System (the Board) and FRBNY. The report therefore 
looks at the actions taken by all these governmental entities. 
Although the roles of the various parties are set out in the 
report, the governmental entities worked together closely and, 
for the ease of reading, are in some places referred to 
collectively as ``the government.''
    The report builds on the work done by other oversight 
bodies and will later this year be supplemented by a wide-
ranging report on all aspects of the AIG rescue by the 
Government Accountability Office (GAO). The Financial Crisis 
Inquiry Commission has also held hearings looking into the role 
of complex derivative securities in the financial crisis and 
the part played by AIG. The Special Inspector General for the 
Troubled Asset Relief Program (SIGTARP) has initiated an 
investigation into the manner in which public disclosure of the 
identity of certain of AIG's counterparties was delayed.
    As those future reports and investigations will show, the 
AIG story is not yet complete. The complexities of the company, 
and its cross-holdings and cross-subsidizations, discussed in 
the report, may mean that some time will elapse before the true 
financial position of AIG and its subsidiaries and their future 
are clear. Moreover, analysis of the rescue is dependent to 
some extent to the narrative framework presented by the 
government. While the report tests some of the assertions made 
by the various government entities--and reflects a review by 
the Panel staff of thousands of government documents--it is 
inevitably dependent to some extent on the information that 
those entities are willing to share and the manner in which 
they present the facts examined. The Panel has no subpoena 
power, and as a result it is entirely dependent upon the 
goodwill of private entities. AIG has provided extensive 
documentation to the Panel. Some of AIG's counterparties have 
not provided all documentation requested by the Panel.
    Context is everything with AIG. The government's later 
actions were shaped by the policy decisions it made and the 
actions it took in one turbulent week in September 2008. Its 
involvement was dictated by the unique threat to financial 
stability that it believed AIG's situation posed. It is 
therefore crucial to understand the nature of AIG, the ways 
different parts of AIG were regulated, and the state of affairs 
in the world when the government first contemplated the 
prospect of AIG's failure.

                  B. AIG Before the Government Rescue


1. AIG's History

    At its peak, AIG was one of the largest publicly traded 
companies in the world, whose principal businesses included 
insurance and financial services. Hank Greenberg, the long-term 
CEO of AIG, was chosen to succeed Cornelius Starr, the founder 
of the company, after leading AIG's North American operations. 
During his tenure, which ran from 1968 until 2005, the company 
grew considerably, diversified its product offerings, and 
expanded to more than 100 countries around the world. On March 
14, 2005, AIG's board forced Greenberg to step down amid 
increased scrutiny, followed by then New York Attorney General 
Eliot Spitzer and later the U.S. Securities and Exchange 
Commission (SEC) filing civil charges against Greenberg for his 
role in fraudulent business practices and accounting fraud that 
misrepresented AIG's earnings.\5\
---------------------------------------------------------------------------
    \5\ Securities and Exchange Commission, SEC Charges Hank Greenberg 
and Howard Smith for Roles in Alleged AIG Accounting Violations (Aug. 
6, 2009) (online at www.sec.gov/news/press/2009/2009-180.htm).
---------------------------------------------------------------------------
    AIG Financial Products (AIGFP), which contributed to the 
liquidity crisis at AIG, was created in 1987. AIGFP, as well as 
other swap dealers, rely heavily on the credit rating of the 
parent company. A triple-A rating usually affords the entity 
considerable leverage in negotiating contracts. Specifically, a 
triple-A rating provides leverage regarding if and when 
collateral is to be posted and the trigger and amounts of 
collateral, and it offers latitude in negotiations when 
problems arise. In the spring of 2005, rating agency Standard & 
Poor's (S&P) lowered the long-term senior debt and counterparty 
ratings of AIG from `AAA' to `AA.' As discussed in Section B3, 
this proved disastrous for AIGFP.\6\
---------------------------------------------------------------------------
    \6\ American International Group, Inc., Form 10-K for the Fiscal 
Year Ended December 31, 2005, at 14 (Mar. 16, 2006) (online at 
www.sec.gov/Archives/edgar/data/5272/000095012306003276/
y16349e10vk.htm) (hereinafter ``AIG Form 10-K for FY05'').
---------------------------------------------------------------------------

2. AIG's Structure and Regulatory Scheme

    The scale of and linkages across AIG's operations posed 
unique managerial and regulatory challenges. Prior to the 
rescue, AIG was the world's largest insurance organization, 
with over $1 trillion in assets and 76 million customers in 
over 130 countries. Core insurance operations encompassed both 
general insurance, including property and casualty, commercial 
and industrial, and life insurance, including annuities and 
retirement services. In addition to insurance, AIG's primary 
business units included financial services and asset 
management.
    Figure 5 below outlines the primary operations housed 
within AIG's four core business segments in 2008 as well as the 
relevant regulatory bodies--if any--that were responsible for 
oversight.

                                 FIGURE 5: AIG CURRENT PRIMARY BUSINESS SEGMENTS
----------------------------------------------------------------------------------------------------------------
                                           Life Insurance &
          General Insurance              Retirement Services       Financial Services      Asset Management \8\
----------------------------------------------------------------------------------------------------------------
                                                    Function
----------------------------------------------------------------------------------------------------------------
Property/casualty insurance..........  Individual and group     Capital markets........  Investment advisory
                                        life insurance          Consumer finance.......  Brokerage
                                        products.               Insurance premium        Private banking
                                       Retirement services....   finance.                Clients include AIG
                                       Annuities..............  Aircraft leasing.......   subsidiaries,
                                                                                          institutional and
                                                                                          individual investors
Commercial/industrial insurance......
Specialty insurance..................
Reinsurance..........................
----------------------------------------------------------------------------------------------------------------
                                               Key Regulators \7\
----------------------------------------------------------------------------------------------------------------
50 state insurance regulators........  50 state insurance       Office of Thrift         Securities and Exchange
                                        regulators.              Supervision.             Commission \8\
                                       Texas International      Securities and Exchange  International
                                        Regulators.              Commission.              Regulators
                                                                International
                                                                 Regulators.
Arizona, Delaware, Missouri, New
 York, Pennsylvania, Tennessee, Texas
 International Regulators.
----------------------------------------------------------------------------------------------------------------
\7\ Only domestic regulators are named here. International subsidiaries are overseen by the relevant regulators
  in the country of operation. The Office of Thrift Supervision had regulatory responsibility over the holding
  company, AIG Inc. (and therefore all of AIG) prior to September 18, 2008. FRBNY and Treasury now act as AIG's
  de facto primary regulators.
\8\ The Securities and Exchange Commission has a regulatory relationship with several AIG subsidiaries,
  including AIG Asset Management LLC, AIG Financial Securities Corp, and SunAmerica Capital Services Inc. SEC
  does not regulate the AIG parent company or AIGFP.

    Prior to the financial crisis, AIG generated annual revenue 
of more than $100 billion. During the 2004 to 2006 period, 
insurance operations accounted for nearly 90 percent of AIG's 
total net revenue, as shown in Figure 6. Approximately half of 
the company's net revenue during this period came from outside 
of the United States, largely concentrated in Asia.

   FIGURE 6: REVENUE BY SEGMENT (LEFT PIE) AND REVENUE BY GEOGRAPHIC 
             REGION (RIGHT PIE), 2004-2006 (AGGREGATE) \9\

      
---------------------------------------------------------------------------
    \9\ American International Group, Inc., Form 10-K for the Fiscal 
Year Ended December 31, 2006, at 4, 124 (Mar. 1, 2007) (online at 
www.sec.gov/Archives/edgar/data/5272/000095012307003026/
y27490e10vk.htm) (hereinafter ``Form 10-K for the Fiscal Year Ended 
December 31, 2006''); AIG Form 10-K for FY05, supra note 6, at 4, 94; 
American International Group, Inc., Form 10-K for the Fiscal Year Ended 
December 31, 2004, at 4, 147 (May 31, 2005) (online at www.sec.gov/
Archives/edgar/data/5272/000095012305006884/y03319e10vk.htm) 
(hereinafter ``AIG Form 10-K for FY04'').
---------------------------------------------------------------------------
      

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

    
    AIG's product and regional diversity was predicated on 
maintaining an exceptional credit rating, which helped bolster 
its insurance operations and allowed the company to use its low 
cost of funds as leverage to boost non-insurance business 
lines, including aircraft leasing and consumer finance. AIG's 
longtime AAA credit rating also increased its attractiveness as 
a counterparty in the capital markets, helping the company 
further expand its product base in the United States and around 
the world. The product and geographic breadth of AIG's 
operations, however, were not matched by a coherent regulatory 
structure to oversee its business. The Office of Thrift 
Supervision (OTS), a federal agency that regulates the U.S. 
thrift industry, was specifically charged with overseeing the 
parent and it failed to do so. Whether the OTS or a more 
coherent regulatory framework could have prevented the build-up 
in risks that the company's own management team failed to 
understand is unlikely, but this does not obscure the point 
that AIG's holding company regulator had the power and the duty 
to spot and require the company to curtail its risk.
    AIG insurance subsidiaries operate and are licensed in all 
50 states, and the states regulate the firm's domestic 
insurance subsidiaries.\10\ All of AIG's domestic insurance 
subsidiaries are domiciled in one of 14 states or Puerto Rico, 
and each of those jurisdictions has primary regulatory 
authority over its domiciled subsidiaries.\11\
---------------------------------------------------------------------------
    \10\ See McCarran-Ferguson Act, 15 U.S.C. Sec. Sec. 1011-1015. The 
McCarran-Ferguson Act exempts insurance from federal regulation unless 
expressly stated by Congress. It does not mandate that states regulate 
insurance; it states that no ``Act of Congress shall be construed to 
invalidate, impair, or supersede any law enacted by any State for the 
purpose of regulating the business of insurance, . . . unless such Act 
specifically relates to the business of insurance.'' 15 U.S.C. 
Sec. 1012(b).
    The state insurance agencies work together through the National 
Association of Insurance Commissioners (NAIC) to coordinate regulation, 
set certain uniform standards, and determine accreditation standards 
for state insurance regulators. One of these accreditation standards 
requires state regulators to conduct quarterly financial analyses of 
the state's multi-state domiciliary insurance companies and full 
examinations every 5 years. Regulators of non-domiciliary companies may 
also choose to conduct examinations, or they may rely on the lead 
regulator's examination. The insurance regulators will also communicate 
with other regulators, such as OTS.
    \11\ Most of these states have more than one AIG subsidiary; 
Delaware, North Carolina, New York, and Pennsylvania all have six or 
more. This excludes more than 100 foreign governments that regulate 
AIG's foreign insurance subsidiaries. See House Committee on Oversight 
and Government Reform, Written Testimony of Timothy F. Geithner, 
secretary, U.S. Department of the Treasury, The Federal Bailout of AIG, 
at 3 (Jan. 27, 2010) (online at oversight.house.gov/images/stories/
Hearings/Committee_on_Oversight/TESTIMONY-Geithner.pdf) (hereinafter 
``Testimony of Sec. Geithner''). An insurance company is domiciled in 
the state in which it is organized or which it has chosen as its state 
of domicile.
---------------------------------------------------------------------------
    The states, through the National Association of Insurance 
Commissioners (NAIC), coordinate so that AIG's insurance 
subsidiaries have four lead regulators. Texas is the lead 
regulator for life insurance companies, Pennsylvania for 
property & casualty, New York for personal lines, and Delaware 
for ``surplus'' or specialized lines. Domestic regulators, lead 
and otherwise, perform AIG's examinations concurrently, because 
of the commonality of systems between companies.\12\ Each lead 
regulator's main role is to coordinate examinations and other 
regulatory functions among the various state regulators. The 
lead regulator has no special legal authority; its role is 
merely to coordinate the various state regulators. Each state 
still has responsibility for examining its domiciled 
subsidiaries.\13\ This regulation entails regular financial 
examinations as well as scrutiny of major transactions, 
solvency issues, and other matters. The lead regulator and the 
individual state regulators each conduct regular examinations, 
but the lead regulator coordinates them. The state insurance 
regulators, including the lead regulators, only examine the AIG 
holding company to the extent that it relates to the insurance 
subsidiaries.\14\
---------------------------------------------------------------------------
    \12\ Panel staff conversation with the National Association of 
Insurance Commissioners (Apr. 2, 2010).
    \13\ Panel staff conversation with New York State Insurance 
Department (June 3, 2010).
    \14\ Though examinations of the holding company are limited to how 
it relates to the subsidiaries, the regulators obtain additional 
information about the holding company through informal channels, such 
as regular communications with holding company management and review of 
public filings. Panel staff conversation with New York State Insurance 
Department (June 3, 2010).
---------------------------------------------------------------------------
    Foreign insurance regulators, operating under their own 
countries' laws, have jurisdiction over AIG's overseas 
insurance subsidiaries.
    The OTS was the regulator of AIG's holding company, AIG 
Group, Inc., after it granted a federal charter to AIG Federal 
Savings Bank (AIG FSB) in May 2000.\15\ OTS was responsible for 
monitoring AIG's operations, ensuring compliance with relevant 
laws, and preventing risks that could affect the safety and 
soundness of the firm.\16\ The regulatory approach of OTS in 
regulating a thrift holding company such as AIG is predicated 
on evaluating the overall holding company to ensure that no 
harm is done to the thrift. As a result, OTS took a bottom-up 
approach to regulating AIG, from the thrift to the holding 
company, as opposed to a top-down, comprehensive approach to 
regulation.\17\ Although AIG's insurance subsidiaries were 
subject to the oversight of state and foreign regulators, OTS 
was the firm's consolidated supervisor, responsible for 
coordinating overall supervision.\18\
---------------------------------------------------------------------------
    \15\ Office of Thrift Supervision, OTS Approves AIG Acquisition of 
American General Bank (Aug. 1, 2001) (online at files.ots.treas.gov/
77152.html).
    \16\ See House Financial Services, Subcommittee on Capital Markets, 
Insurance and Government Sponsored Enterprises, Written Testimony of 
Scott M. Polakoff, acting director, Office of Thrift Supervision, 
American International Group's Impact on the Global Economy: Before, 
During, and After Federal Intervention, at 7 (Mar. 18, 2009) (online at 
www.house.gov/apps/list/hearing/financialsvcs_dem/ots_3.18.09.pdf) 
(hereinafter ``Written Testimony of Scott Polakoff'').
    \17\ Panel staff conversation with the Office of Thrift Supervision 
(May 21, 2010).
    \18\ U.S. Government Accountability Office, Troubled Asset Relief 
Program: Status of Government Assistance Provided to AIG, GAO-09-975 
(Sept. 2009) (online at www.gao.gov/new.items/d09975.pdf) (hereinafter 
``GAO Report'').
---------------------------------------------------------------------------
    The interlocking nature of AIG's businesses as well as the 
vast array of counterparties with which these businesses 
transacted posed an impediment to regulators constrained by 
functional and regional limitations on their oversight. In 
particular, AIGFP, the chief purveyor of AIG's credit default 
swaps (CDS) business, fell outside the scope of the state 
insurance regulators. Although OTS examined AIGFP in its 
regulation of the holding company, the CDS book of business 
fell outside of its regulatory authority.\19\ In addition, 
because OTS was considered an ``equivalent regulator'' by 
European Union (EU) standards, AIGFP's activities were only 
regulated by European regulators when they coincided with the 
European business of Banque AIG, a French subsidiary of AIGFP. 
This regulatory arrangement excluded any comprehensive 
examination and regulation of CDS activity within AIGFP.\20\ 
Certain other financial operations inside AIG--including 
capital markets, consumer finance and aircraft leasing--were 
regulated on a piecemeal basis or escaped regulation entirely.
---------------------------------------------------------------------------
    \19\ Panel staff conversation with the Office of Thrift Supervision 
(May 21, 2010). Credit default swaps were also exempted from regulation 
by the Securities and Exchange Commission (SEC) and the Commodities 
Future Trading Commission (CFTC) as a result of the Commodities Futures 
Modernization Act of 2000.
    \20\ Panel staff conversation with the Office of Thrift Supervision 
(May 21, 2010).
---------------------------------------------------------------------------

3. The Causes of AIG's Problems

    The trigger and primary cause of AIG's collapse came from 
inside AIGFP. This business unit, which included CDS on 
collateralized debt obligations (CDOs) backed by subprime 
mortgages, produced unrealized valuation losses and collateral 
calls that engulfed AIG in the fall of 2008. While the risk 
overhang in this business would have likely been sufficient to 
bring down the firm on its own, AIG's securities lending 
operations, which involved securities pooled from AIG's 
domestic life insurance subsidiaries, significantly raised the 
level of difficulty associated with executing a private sector 
solution or an orderly bankruptcy.\21\ In the words of Marshall 
Huebner of Davis Polk & Wardwell, a law firm that represented 
FRBNY, the securities lending problems contributed to a 
``double death spiral.'' \22\ The problems in AIGFP exacerbated 
the problems in securities lending, and vice versa, as 
collateral demands from both sets of counterparties quickly 
imperiled the company's liquidity position as it struggled to 
meet its cash demands. Meanwhile, the company's insurance 
operations were incapable of generating the requisite cash 
either through normal operations or asset sales to fund the 
parent company. In both cases, the threats within these 
businesses emanated from outsized exposure to the deteriorating 
mortgage markets, owing to grossly inadequate valuation and 
risk controls, including insufficient capital buffers as losses 
and collateral calls mounted.
---------------------------------------------------------------------------
    \21\ AIG's securities lending operations are discussed below in 
Section B.3.b (a detailed explanation of this business is provided in 
Annex V). Securities lending normally provides a low-risk mechanism for 
insurance companies and other long-term investors in the financial 
markets to earn modest sums of money on assets that would otherwise be 
sitting idle. However, rather than investing the cash collateral from 
borrowers in low-risk short-term securities in order to generate a 
modest yield, AIG invested in more speculative securities tied to the 
RMBS market. Consequently, these investments posed a duration mismatch 
(securities lending counterparties could demand a return of their 
collateral with very little notice), that was exacerbated by valuation 
losses and illiquidity in the mortgage markets that impaired AIG's 
ability to return cash to its securities lending counterparties.
    \22\ FRBNY and Treasury briefing with the Panel and Panel staff 
(Apr. 12, 2010).
---------------------------------------------------------------------------
    AIG was taking risks with the assets of its life insurance 
subsidiaries through its securities lending program, creating a 
potential $15 billion-plus cash drain on their operations, a 
shortfall that may have threatened the solvency of these units 
in the absence of government assistance, as discussed in 
Section B3b.\23\ Excluding the liquidity issues stemming from 
AIG's securities lending program, industry observers and 
regulators viewed the core operations on the life insurance 
side of the company as generally sound.\24\ The same held true 
for AIG's property-casualty insurance business. As a result of 
the financial crisis, life insurance companies industry-wide 
felt pressure from declining asset values. At AIG, as asset 
valuations for CDS portfolios moved closer to levels at which 
collateral requirements were triggered, reserve requirements 
for embedded guarantees in certain insurance products were 
increased, but this pressure did not otherwise translate into 
immediate liquidity issues for the company.
---------------------------------------------------------------------------
    \23\ As of September 30, 2008, the fair value of the approximately 
$40 billion RMBS portfolio in AIG's securities lending program was 
approximately $23.5 billion. American International Group, Form 10-Q 
for the Quarterly Period Ended September 30, 2008, at 52 (Nov. 10, 
2008) (online at www.sec.gov/Archives/edgar/data/5272/
000095012308014821/y72212e10vq.htm) (hereinafter ``AIG Form 10-Q for 
Third Quarter 2008'').
    \24\ Panel staff conversation with the National Association of 
Insurance Commissioners (Apr. 2, 2010); Standard and Poor's 
conversation with Panel staff (May 13, 2010) (noting prior to September 
2008 AIG primarily derived its high credit rating from its insurance 
subsidiaries).
---------------------------------------------------------------------------
            a. Credit Default Swaps
    AIG's downfall stemmed in large part from its CDS on multi-
sector CDOs, which exposed the firm to the vaporization of 
value in the subprime mortgage market.\25\ While many 
counterparties purchased these contracts to hedge or minimize 
credit risk, AIG essentially took the other side, a one-way, 
long-term bet on the U.S. mortgage market.\26\ This bet was 
premised on the presumed security of the `AAA'-plus ratings on 
the underlying CDOs, aided by the subordination structures 
built into the underlying collateral pools, as well as AIG's 
once stellar `AAA' credit rating. AIG relied on these factors 
to serve as a bulwark against market volatility that would 
undermine the value of the reference securities, and 
necessitate mark-to-market valuation losses and the posting of 
collateral to AIG's trading partners. AIGFP's model for CDOs 
was insufficiently robust to anticipate the impact of the 
significant declines in value associated with the market 
meltdown. This basic failure of comprehensive modeling and 
prudent risk/reward analysis on what was a relatively small 
slice of AIGFP's business ultimately brought down the entire 
firm and imperiled the U.S. financial system.
---------------------------------------------------------------------------
    \25\ See Annex III for an explanation of AIG's CDS business and the 
CDS market more generally.
    \26\ This was in contrast to other market participants, 
particularly dealers, which sought to balance the risk in their 
portfolios by accumulating both long and short positions to better net 
risk positions.
---------------------------------------------------------------------------
    AIGFP's obligations were guaranteed by its highly-rated 
parent company (`AAA'-rated by Standard & Poor's since 1983), 
an arrangement that facilitated easy money via much lower 
interest rates from the public markets, but ultimately made it 
difficult to isolate AIGFP from its parent, with disastrous 
consequences.\27\ The company's stellar earnings, business 
diversity, and sizable equity base allowed the firm to borrow 
at relatively cheaper levels in the capital markets. This 
allowed for the emergence of a ``carry trade'' mentality--i.e., 
borrowing at low rates, investing/lending at higher rates, and 
pocketing the difference, or spread--in pursuing investments 
that would maximize the value of AIG's balance sheet and low 
cost of funds.\28\ It is rare for any financial institution, 
much less one with significant capital markets operations, to 
have a AAA-rating.\29\ Major banks and other capital markets 
players could not compete with AIG's rating and its resulting 
access to lower-cost funding and more permissive collateral 
arrangements. Of course, AIG's rating would skew its internal 
risk/reward dynamics, as it could enter new markets more 
cheaply and deploy its balance sheet far more extensively than 
other competitors in the marketplace. As discussed in more 
detail below, the firm continued to underwrite multi-sector 
CDOs for almost a year after losing its AAA-rating in 2005.
---------------------------------------------------------------------------
    \27\ House Committee on Oversight and Government Reform, Written 
Testimony of Elias Habayeb, former senior vice president and chief 
financial officer, AIG Financial Services, The Federal Bailout of AIG, 
at 3 (Jan. 27, 2010) (online at oversight.house.gov/images/ stories/
Hearings/Committee_on_Oversight/ 2010/012710_AIG_Bailout/TESTIMONY-
Habayeb.pdf) (hereinafter ``Written Testimony of Elias Habayeb'').
    \28\ See Congressional Oversight Panel, Testimony of Robert 
Benmosche, president and chief executive officer, American 
International Group, COP Hearing on TARP and Other Assistance to AIG 
(May 26, 2010) (hereinafter ``Testimony of Robert Benmosche'').
    \29\ In 2005, for example, the year AIG lost its AAA rating, only 
four other financial companies had a AAA-rating from Standard & 
Poor's--Berkshire Hathaway, GE Capital, Syncora Guarantee, and Toyota 
Motor Credit.
---------------------------------------------------------------------------
    In turn, the parent company benefited from the modest 
earnings diversity offered by AIGFP's capital markets 
business.\30\ AIG's sterling credit rating was a differentiator 
in the market, and allowed the division to move aggressively 
into new business lines with lower levels of competition, 
expanding its scope as a counterparty to and underwriter of 
risk products, as institutional investors and financial 
institutions sought out more sophisticated instruments to hedge 
or speculate on credit, or other financial assets, through a 
variety of derivatives instruments.\31\ AIGFP both enabled and 
participated in this market. Federal Reserve Chairman Bernanke 
later characterized AIGFP as a ``hedge fund . . . attached to a 
large and stable insurance company.'' \32\
---------------------------------------------------------------------------
    \30\ AIGFP was viewed favorably by AIG investors and the ratings 
agencies. From their vantage point, AIGFP was a risk management tool 
for AIG's core insurance business because it diversified the company's 
earnings base. ``The establishment of a separate entity by an insurance 
company to offer financial products could satisfy one or more of the 
following benefits: the creation of capital efficiencies, isolation of 
the risk related to a specific business line for risk-management 
purposes, and the creation of a noninsurance entity that is not 
encumbered by possible regulatory restrictions.'' Standard & Poor's 
Ratings Services, Rating Financial Product Companies Higher Than 
Related Insurance Companies (Apr. 29, 2004) (online at 
www.standardandpoors.com/prot/ratings/articles/en/us/
?assetID=1245173065318).
    \31\ These included over-the-counter (OTC) derivatives and 
exchange-traded derivatives. OTC contracts, such as credit default 
swaps and forward contracts, are privately negotiated contracts between 
two parties. On the other hand, exchange-traded derivatives, including 
futures and option contracts, are traded on an exchange and settled 
through a clearing house.
    \32\ Senate Budget Committee, Testimony of Ben S. Bernanke, 
chairman, Board of Governors of the Federal Reserve System, Economic 
and Budget Challenges for the Short and Long Term (Mar. 3, 2009).
---------------------------------------------------------------------------
    AIGFP entered the fledging credit derivatives market in 
1998 when it underwrote its first credit default swap (CDS) 
with JP Morgan.\33\ CDS contracts are privately negotiated 
contracts that obligate one party to pay another in the event 
that a third party cannot pay its obligation.\34\ CDS contracts 
function in a similar manner to insurance contracts, although 
their payoff structure is closer to that of a put option.\35\
---------------------------------------------------------------------------
    \33\ Panel staff briefing with Weil Gotshal (May 12, 2010).
    \34\ BMO Capital Markets, Credit Default Swaps (online at 
www.bmocm.com/products/marketrisk/credit/swaps/default.aspx) (accessed 
June 8, 2010).
    \35\ See Annex III for a more detailed discussion of CDS contracts. 
Also, for a definition of CDS contracts in prior reports see 
Congressional Oversight Panel, December Oversight Report: Taking Stock: 
What Has the Troubled Asset Relief Program Achieved?, at 35 (Dec. 9, 
2009) (online at cop.senate.gov/documents/cop-120909-report.pdf).
---------------------------------------------------------------------------
    Over time AIGFP became a central player in the fast-growing 
CDS market, underwriting its first corporate arbitrage CDS in 
2000 and its first multi-sector CDS in 2004.\36\ AIGFP's 
corporate arbitrage CDS portfolio was comprised of CDS 
contracts written on corporate debt and collateralized loan 
obligations (CLOs) and its multi-sector CDS portfolio is 
comprised of CDS contracts written on CDOs. The collateral 
pools backing the corporate debt and CLO CDS portfolio included 
baskets of investment-grade corporate bonds and loans of 
commercial and industrial loans of large banks. The collateral 
pools backing the multi-sector CDOs included prime, Alt-A, and 
subprime residential mortgage-backed securities (RMBS); 
commercial mortgage-backed securities (CMBS); and other asset-
backed securities (ABS).\37\ CDS written on corporate debt, 
CLOs, and multi-sector CDOs serve as protection against 
``credit events'' of the issuer of the reference obligation, 
including bankruptcy, failure to pay, acceleration of payments 
on the issuer's obligations, default on the issuer's 
obligations, restructuring of the issuer's debt, and similar 
events.\38\
---------------------------------------------------------------------------
    \36\ Panel staff briefing with Weil Gotshal (May 12, 2010).
    \37\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 18, 
116, 121-22.
    \38\ Senate Committee on Agriculture, Nutrition and Forestry, 
Written Testimony of Robert Pickel, chief executive officer, 
International Swaps and Derivatives Association, Role of Financial 
Derivatives in Current Financial Crisis, at 1 (Oct. 14, 2008) (online 
at www.isda.org/press/pdf/Testimony-of-Robert-Pickel.pdf) (hereinafter 
``Written Testimony of Robert Pickel'').
---------------------------------------------------------------------------
    Figure 7 shows the explosion in the CDS market from its 
infancy in 2001 to a market with over $60 trillion in notional 
contracts outstanding in 2007.

   FIGURE 7: NOTIONAL AMOUNT OF CREDIT DEFAULT SWAPS OUTSTANDING \39\

      
---------------------------------------------------------------------------
    \39\ International Swaps and Derivatives Association, ISDA Market 
Survey: Historical Data (online at www.isda.org/statistics/
historical.html) (accessed June 8, 2010). 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


    AIGFP's operating income grew from $131 million in 1994 to 
$949 million in 2006, paralleling the boom in the overall 
derivatives market, as well as the CDS market. While the credit 
markets provided a source of steady profits for AIGFP, the 
division's operating income represented a relatively small 
percentage of AIG's total operating income, contributing just 7 
percent to firmwide net income in 2006.\40\ More importantly, 
as recent events make clear, the risk involved in this business 
was dramatically disproportionate to the revenue produced. For 
example, losses in 2007 totaled $11.5 billion, twice the 
aggregate net income produced by this division from 1994 to 
2006.\41\
---------------------------------------------------------------------------
    \40\ AIG Form 10-K for FY04, supra note 9, at 24.
    \41\ American International Group, Inc., Form 10-K for the Fiscal 
Year Ended December 31, 2007, at 34 (Feb. 28, 2008) (online at 
www.sec.gov/Archives/edgar/data/5272/000095012308002280/
y44393e10vk.htm) (hereinafter ``AIG Form 10-K for FY07'').
---------------------------------------------------------------------------

FIGURE 8: AIGFP'S OPERATING INCOME VS. CONTRIBUTION TO CONSOLIDATED AIG 
                              RESULTS \42\

      
---------------------------------------------------------------------------
    \42\ AIG Form 10-K for FY04, supra note 9, at 24; AIG Form 10-K for 
FY05, supra note 6, at 74; American International Group, Inc. Form 10-K 
for the Fiscal Year Ended December 31, 2002, at 63 (Mar. 31, 2003) 
(online at www.sec.gov/Archives/edgar/data/5272/000095012303003570/
y65998e10vk.txt); American International Group, Inc., Form 10-K for the 
Fiscal Year Ended December 31, 1999, at 45 (Mar. 30, 2000) 
(www.sec.gov/Archives/edgar/data/5272/0000950123-00-002999.txt); 
American International Group, Inc., Form 10-K for the Fiscal Year Ended 
December 31, 1996, at 38 (Mar. 28, 1997) (online at www.sec.gov/
Archives/edgar/data/5272/0000950123-97-002720.txt). 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


    This risk stemmed from a relatively small contributor to 
the firm's overall derivatives exposure. AIGFP grouped its CDS 
business into three separate categories, based on the 
underlying assets that were being insured: corporate debt/CLOs 
(corporate arbitrage), regulatory capital, and multi-sector 
CDOs. At its peak in 2007, these three groups represented an 
aggregate CDS portfolio of $527 billion,\43\ constituting just 
20 percent of the unit's overall derivatives exposure of $2.66 
trillion.\44\ In addition to its credit book, AIGFP also 
engaged in a wide variety of other derivative and financial 
transactions. These included standard and customized interest 
rate, currency, equity, commodity, and credit products; 
structured borrowings through notes, bonds, and guaranteed 
investment agreements (GIAs); and various commodity, foreign 
exchange trading, and market-making activities. These 
activities were responsible for the majority of AIG's 
derivatives activity.\45\
---------------------------------------------------------------------------
    \43\ In addition to its credit book, AIGFP also engaged in a wide 
variety of financial transactions through its Capital Markets division. 
These included standard and customized interest rate, currency, equity, 
commodity, and credit products; structured borrowings through notes, 
bonds, and guaranteed investment agreements; and various commodity, 
foreign exchange trading, and market-making activities. Capital Markets 
was responsible for the majority of AIG's derivatives activity. AIG 
Form 10-K for FY04, supra note 9, at 12, 75, 93.
    \44\ Congressional Oversight Panel, Testimony of Jim Millstein, 
chief restructuring officer, U.S. Department of the Treasury, COP 
Hearing on TARP and Other Assistance to AIG (May 26, 2010) (hereinafter 
``Testimony of Jim Millstein'').
    \45\ AIG Form 10-K for FY04, supra note 9, at 75, 93-4.
---------------------------------------------------------------------------
    Only $149 billion, or 6 percent, of AIGFP's total 
derivatives portfolio in 2007 was classified as Arbitrage CDS, 
comprised of both the multi-sector CDO and corporate debt/CLO 
components (see Figure 9).\46\ Ultimately, these two portfolios 
accounted for 99 percent of AIGFP's unrealized valuation losses 
in 2007 and 2008.\47\ AIGFP's multi-sector CDO subset of the 
Arbitrage portfolio, which represented approximately 3 percent 
of the notional value of AIGFP's total credit and non-credit 
derivatives exposure, accounted for over 90 percent of these 
losses.\48\ Ultimately, these losses were driven by just 125 of 
the roughly 44,000 contracts entered into by AIGFP.\49\
---------------------------------------------------------------------------
    \46\ AIG Form 10-K for FY07, supra note 41, at 122.
    \47\ American International Group, Inc., Form 10-K for the Fiscal 
Year Ended December 31, 2008, at 116 (Mar. 2, 2009) (online at 
www.sec.gov/Archives/edgar/data/5272/000095012309003734/
y74794e10vk.htm) (hereinafter ``AIG Form 10-K for FY08'').
    \48\ See Figure 36 in Section I.2(f) for an outline of the 
exposures and losses within AIGFP's credit portfolio, from 2008 to the 
first quarter of 2010.
    \49\ Testimony of Robert Benmosche, supra note 28.
---------------------------------------------------------------------------

 FIGURE 9: ARBITRAGE CDS PORTFOLIO VS. NET NOTIONAL AMOUNT OF AIGFP'S 
                    TOTAL DERIVATIVES PORTFOLIO \50\

      
---------------------------------------------------------------------------
    \50\ American International Group, Inc., Form 10-K for the Fiscal 
Year Ended December 31, 2009, at 130 (Feb. 26, 2010) (online at 
www.sec.gov/Archives/edgar/data/5272/000104746910001465/a2196553z10-
k.htm) (hereinafter ``AIG Form 10-K for FY09''); AIG Form 10-K for 
FY07, supra note 41, at 122.
---------------------------------------------------------------------------
      

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

    
    Drilling down further, at the end of September 2008, the 
net notional amount of the multi-sector CDO book was $72 
billion, or less than 20 percent, of AIGFP's total credit 
portfolio. Approximately $55 billion, or 77 percent, of the 
reference CDOs contained securities that included exposure to 
the U.S. subprime mortgage market.\51\ Because AIGFP ceased 
underwriting new subprime multi-sector CDS in 2005 (after 
launching this product line in 2004), the majority of this 
portfolio was exposed to 2004 and 2005 subprime RMBS 
vintages.\52\ However--and this is very important--the 
reference CDOs that AIG insured were not always static, and 
thus weaker, newer vintages infected older pools of securities 
as CDO managers adjusted portfolios.\53\ Weil Gotshal, a law 
firm that represents AIG, states that AIG's Credit Risk 
Management was in fact aware that some of the 2004 to 2005 CDO 
portfolios were actively managed, but there is no further 
information to suggest that this featured prominently in the 
desk's understanding of this product's ongoing risk 
profile.\54\ Ultimately, after considering these reinvestments 
(less than 10 percent of the portfolio) and non-subprime and 
CMBS deals closed in 2006 and 2007, approximately 26 percent of 
the overall multi-sector CDO book included the particularly 
toxic 2006 and 2007 vintages, of which 37 percent were exposed 
to subprime or Alt-A mortgages.
---------------------------------------------------------------------------
    \51\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 115-
16.
    \52\ A handful of CDOs with subprime exposure, which were 
apparently committed to before AIG decided to exit this business, were 
underwritten in early 2006.
    \53\ AIG Form 10-K for FY07, supra note 41, at 122. Managed CDOs 
usually consist of a sponsor, collateral manager, and investors who buy 
tranches with various maturity and credit risk characteristics. The 
duration of a managed deal consists broadly of three phases in which 
managers: (1) invest proceeds from sale of CDO securities; (2) actively 
manage the collateral (as assets amortize) and reinvest the cash flows; 
(3) and hold the collateral until maturity as assets are sold off and 
investors are paid back. Managers tend to be financial institutions who 
specialize in ``back office'' transactions.
    \54\ Weil Gotshal conversation with Panel staff (May 24, 2010).
---------------------------------------------------------------------------

 FIGURE 10: COMPOSITION AND VINTAGE OF AIGFP COLLATERAL SECURITIES IN 
          THE MULTI-SECTOR CDO BOOK (SEPTEMBER 30, 2008) \55\

      
---------------------------------------------------------------------------
    \55\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 116.
---------------------------------------------------------------------------
      

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

    
    In exchange for regular payments, which functioned much 
like insurance premiums, AIGFP was obligated to provide credit 
protection on a designated portfolio of loans or debt 
securities. In general, protection on these assets--including 
residential mortgages, commercial real estate loans, corporate 
debt and European bank loan books--were structured so that 
AIGFP was in a second-loss position. This meant that losses on 
the reference securities would have to exceed a certain 
threshold (referred to as an ``attachment point'') \56\ before 
triggering a credit event.\57\ AIGFP offered protection on the 
``super senior'' risk layer of these securities, a level that 
would absorb losses only after subordinate, including AAA-
rated, tranches were impacted by a credit event.
---------------------------------------------------------------------------
    \56\ Attachment points or subordination levels are described in 
more detail below, but in general, the higher the attachment point, the 
lower the level of credit risk (e.g., an attachment point of 20 percent 
indicates a cushion on the first 20 percent of bad debt exposure).
    \57\ See American International Group, Inc., Form 10-Q for the 
Quarterly Period Ended September 30, 2009, at 55 (Nov. 6, 2009) (online 
at www.sec.gov/Archives/edgar/data/5272/000104746909009659/a2195237z10-
q.htm). AIGFP will incur credit losses only after a shortfall of 
principal and/or interest, or other credit events (in respect of the 
protected loans and debt securities) exceed a specified threshold 
amount or level of ``first loss.''
---------------------------------------------------------------------------
    Figure 11, below, illustrates how the super senior level of 
this protection was structured. (See Annex III for a more 
detailed discussion of the CDS market more generally and the 
nature of AIGFP's business.)

      FIGURE 11: SUPER SENIOR RISK LAYER TRANSACTION EXAMPLE \58\

      
---------------------------------------------------------------------------
    \58\ AIG Form 10-K for FY09, supra note 50, at 132.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

    
    AIGFP's decision to cease underwriting new contracts on 
subprime multi-sector CDOs in December 2005 was not related to 
AIG's ratings downgrade from AAA that same year but rather 
reflected AIGFP's view that underwriting standards had 
deteriorated, according to Weil Gotshal, the counsel for AIGFP. 
This decision, though, which would otherwise appear to be a 
prudent reaction to changing market conditions, only impacted 
the intake mechanism, as no serious effort was made to reduce 
or hedge legacy exposures.\59\ AIGFP and AIG continued to view 
the risk associated with these transactions as extraordinarily 
remote and did not take steps to reduce or significantly hedge 
legacy or new exposures.\60\ In fact, as noted above, legacy 
positions on AIGFP's books would soon reflect the more 
problematic credit issues as older reference securities were 
replaced with more suspect ones by CDO managers. Former AIG CEO 
Hank Greenberg has asserted publicly and in a conversation with 
Panel staff that the company should have exited the multi-
sector CDO sector after AIG lost its AAA rating in March 2005, 
arguing that the economics and risks of this business changed 
with the ratings downgrade, since counterparties could 
contractually demand more collateral if the value of the CDOs 
began to deteriorate.\61\ However, there does not appear to be 
any evidence that Mr. Greenberg advocated for such a position 
shortly after the downgrade, a period when he was no longer the 
CEO, but clearly a large shareholder with a unique perspective 
on the company.\62\
---------------------------------------------------------------------------
    \59\ Panel staff briefing with Weil Gotshal (May 12, 2010). 
According to Weil Gotshal, there was no evidence of any discussion 
about hedging or unwinding the CDS risk book at that time. Also 
according to Gotshal, at the time that AIGFP changed the criteria for 
CDS written on multi-sector CDOs, they did not hedge the portfolio. At 
some point in 2006 there were small hedges put in place, but never on a 
scale sufficient to hedge the $70 billion book.
    \60\ Panel staff briefing with Weil Gotshal (May 12, 2010).
    \61\ Panel staff briefing with Maurice ``Hank'' Greenberg, former 
chief executive officer, AIG (May 13, 2010).
    \62\ Panel staff could find no evidence that Mr. Greenberg used his 
influence to push AIG to cease writing multi-sector CDS contracts in 
the period shortly after the firm lost its AAA-rating. Fact Sheet on 
AIGFP, E-mail from Boies, Schiller & Flexner LLP, counsel for former 
AIG CEO Maurice ``Hank'' Greenberg, to Panel staff (May 18, 2010).
---------------------------------------------------------------------------
    AIGFP continued to assume through the beginning of 2008 
that the credit risk from its CDS portfolio was virtually non-
existent given the super-senior credit ratings of the reference 
securities.\63\ This stance was by no means unique to AIG, as 
other market participants, including Citigroup and Merrill 
Lynch, also placed undue faith in the credit ratings of these 
instruments. However, AIG's assertion is somewhat odd given 
that the company underwrote this risk on behalf of clients who 
clearly believed there was some risk in these instruments worth 
insuring.
---------------------------------------------------------------------------
    \63\ Panel staff briefing with Gerry Pasciucco, chief operating 
officer, AIGFP (Apr. 23, 2010).
---------------------------------------------------------------------------
    The company, both in investor presentations and through its 
regulatory filings, continuously asserted that there was ``no 
probable and reasonably estimable realized loss'' in its CDS 
portfolio, based on its risk model's assessment of the credit 
profile and the ratings of the reference obligations.\64\ 
Joseph Cassano, the head of AIGFP at the time, noted on the 
company's second quarter 2007 earnings call: ``It is hard for 
us, without being flippant, to even see a scenario within any 
kind of realm or reason that would see us losing $1 in any of 
those transactions.'' \65\ AIG's then-CEO, Martin Sullivan, 
asserted in an investor presentation in December of 2007 that 
because AIG's CDS business is ``carefully underwritten and 
structured with very high attachment points to the multiples of 
expected losses, we believe the probability that it will 
sustain an economic loss is close to zero.'' \66\ According to 
congressional testimony by the former chief financial officer 
of AIG Financial Services, Elias Habayeb, it was not until the 
summer of 2008 that AIG took action to reduce the size of its 
legacy exposures.\67\
---------------------------------------------------------------------------
    \64\ AIG Form 10-K for FY07, supra note 41, at 124.
    \65\ American International Group, Inc., American International 
Group Q2 2007 Earnings Call Transcript (Aug. 9, 2007) (online at 
seekingalpha.com/article/44048-american-international-group-q2-2007-
earnings-call-transcript?source=bnet).
    \66\ American International Group, Inc., American International 
Group Investor Meeting: Final Transcript, at 5(Dec. 5, 2007).
    \67\ Written Testimony of Elias Habayeb, supra note 27, at 5.
---------------------------------------------------------------------------
    While AIG's assessment of the underlying credit quality of 
the reference obligations may have been technically correct (as 
AIGFP did not experience a ``credit loss'' event until the end 
of 2008),\68\ AIGFP's models failed to anticipate the 
consequences of declining market prices on the reference CDOs, 
as well as the attendant liquidity risks stemming from 
collateral calls from its CDS counterparties, and how these 
factors might impact the company's own credit rating (this 
dynamic is illustrated in greater detail below).\69\ This of 
course became painfully evident as the subprime crisis 
deepened, decimating liquidity and valuations in the underlying 
reference mortgage markets. PricewaterhouseCoopers (PwC), AIG's 
external auditor, noted in 2007 that AIG did not maintain 
effective internal control over financial reporting due to a 
material weakness related to the valuation of the AIGFP super 
senior CDS portfolio.\70\
---------------------------------------------------------------------------
    \68\ For CDS transactions requiring physical settlement, AIGFP's 
payment obligations were triggered by the occurrence of a ``credit 
event'' in respect to the reference obligation. All of AIGFP's CDS 
transactions requiring physical settlement define a ``credit event'' as 
a ``failure to pay,'' which is generally triggered by the failure of 
the issuer of the reference CDO to make a payment under the reference 
obligation. AIGFP experienced its first loss arising from a ``credit 
event'' in the fourth quarter of 2008 in the amount of $15 million. AIG 
Form 10-K for FY08, supra note 47, at 141, 168.
    \69\ AIG Form 10-K for FY07, supra note 41, at 124.
    \70\ AIG Form 10-K for FY07, supra note 41, at 202. See Section 
B(4)(a) (Risk Management) for a further discussion of PwC's audit 
findings.
---------------------------------------------------------------------------
    In the lead-up and during the initial phase of the subprime 
crisis, AIG was blinded by the limitations of its model, 
believing that valuations would ultimately align upwards with 
the underlying credit worthiness of the reference security. 
AIG's model overlooked the obligation and, therefore, the 
amount of collateral it could be required to post for its 
multi-sector CDS portfolio in the event of a meltdown of the 
markets for the underlying reference securities.
    Accordingly, as the first collateral calls from trading 
counterparties began in the summer of 2007, the firm stood 
behind its models, arguing that valuations were temporarily 
distorted by the absence of liquidity in the market, which 
prevented the emergence of benchmark pricing. A battle of the 
models ensued between AIG and its counterparties, resulting in 
protracted discussions on valuations and corresponding 
collateral obligations.\71\ Despite the uncertainty, AIGFP was 
generally able to resolve valuation differences and negotiate 
the collateral amounts with the counterparties.\72\
---------------------------------------------------------------------------
    \71\ Panel staff briefing with Weil Gotshal (May 12, 2010).
    \72\ AIG Form 10-K for FY07, supra note 41, at 124.
---------------------------------------------------------------------------
    While one-off negotiations were manageable, increased 
demands by counterparties ultimately left AIG with little room 
to maneuver, given the risks of being perceived as unwilling or 
unable to honor its obligations in the market, which could 
conceivably impact the firm's ability to secure funding.\73\ 
However, as the crisis deepened in 2007, rating agencies began 
to downgrade several of the referenced multi-sector CDOs,\74\ 
and prominent market participants, particularly Citigroup and 
Merrill Lynch, began to report losses in their CDS 
portfolios.\75\
---------------------------------------------------------------------------
    \73\ Panel staff briefing with Weil Gotshal (May 12, 2010).
    \74\ AIG Form 10-K for FY07, supra note 41, at 33.
    \75\ In 2007, Citigroup and Merrill Lynch reported unrealized 
losses on their subprime CDO portfolios in the amount of approximately 
$18 billion and $17 billion, respectively. See Citigroup, Form 10-K for 
the Fiscal Year Ended December 31, 2007, at 48 (Feb. 2, 2008) (online 
at www.sec.gov/Archives/edgar/data/831001/000119312508036445/d10k.htm); 
Merrill Lynch, Form 10-K for the Fiscal Year Ended December 28, 2007, 
at 37 (Feb. 25, 2008) (online at www.sec.gov/Archives/edgar/data/65100/
000095012308002050/y46644e10vk.htm). The ratings agencies responded to 
the news of the large losses and substantial exposures to subprime-
related assets (especially CDOs) by downgrading the ratings of both 
companies. Fitch Ratings, Fitch Global Corporate Rating Activity: 
Credit Quality Takes Negative Turn in 2007, at 4 (Mar. 6, 2008) (online 
at www.fitchratings.com/creditdesk/reports/
report_frame.cfm?rpt_id=375822); Standard and Poor's, Research Update: 
Merrill Lynch & Co. Inc. Ratings Lowered To `A/A-1' From A+/A-1', at 3 
(June 2, 2008) (online at www2.standardandpoors.com/spf/pdf/events/
fiart66308.pdf).
---------------------------------------------------------------------------
    These events changed the equation.\76\ The amount of 
collateral AIG was required to post for CDS contracts was a 
function of AIG's credit ratings, the rating of the reference 
multi-sector CDO, and the market value of the reference 
obligations.\77\ While market conditions remained similarly 
illiquid, ratings downgrades on the reference securities and 
valuation losses by market participants helped establish two of 
the three primary triggers for collateral payments, making it 
more difficult for AIG to continue to hide behind its models. 
As a result, in 2007 AIG recognized an unrealized market 
valuation loss totaling $11.25 billion, which primarily 
occurred in the fourth quarter of 2007.\78\
---------------------------------------------------------------------------
    \76\ In accordance with the adoption of FAS 155 as of January 1, 
2006 (``Accounting for Certain Hybrid Financial Instruments--an 
amendment of FAS 140 and FAS 133''), AIGFP began to record its credit 
default swap portfolio according to its fair market value, which 
resulted in a write-down of $11.5 billion in 2007. AIGFP used a complex 
model, which relied on numerous assumptions, to estimate the fair value 
of its super senior credit default swap portfolio. ``The most 
significant assumption utilized in developing the estimate is the 
pricing of the securities within the CDO collateral pools. If the 
actual pricing of the securities within the collateral pools differs 
from the pricing used in estimating the fair value of the super senior 
credit default swap portfolio, there is potential for significant 
variation in the fair value estimate.'' AIG Form 10-K for FY07, supra 
note 41, at 123, 145.
    \77\ AIG Form 10-K for FY09, supra note 50, at 148. See Annex III.B 
for an explanation of collateral calls.
    \78\ AIG Form 10-K for FY07, supra note 41, at 34; American 
International Group, Inc., Conference Call Credit Presentation: 
Financial Results for the Year Ended December 31, 2007, at 8, 15 (Feb. 
29, 2008) (online at media.corporate-ir.net/media_files/irol/76/76115/
Conference_Call_Credit_Presentation_031408_revised.pdf) (hereinafter 
``AIG Financial Results Conference Call--2007''). The large loss was a 
consequence of the economic downturn and credit deterioration, 
particularly in U.S. sub-prime mortgages. The unrealized market 
valuation loss of $11.25 billion significantly exceeded AIG's estimates 
of the realizable portfolio loss under a ``severe'' scenario.
---------------------------------------------------------------------------
    As the value of the underlying CDOs continued to decline 
thereafter, AIG--under mark-to-market accounting standards--
recorded valuation allowances on its contracts. While these 
losses were in almost all cases unrealized non-cash valuation 
charges, they corresponded with collateral calls from AIG's 
counterparties, which contributed to a drain on AIG's cash 
resources.\79\
---------------------------------------------------------------------------
    \79\ See Annex III.B for a more detailed discussion of the nature 
of the collateral rights AIG issued under CDS contracts.
---------------------------------------------------------------------------
    Predictably, valuation write-downs into the billions of 
dollars and collateral calls from CDS counterparties 
intensified pressure on AIG's own credit rating, the third key 
component in the collateral calculation cocktail. Subsequent 
downgrades of AIG's credit rating in turn precipitated 
additional collateral calls.\80\ This negative feedback loop, 
illustrated below in Figure 12, eventually exposed the firm's 
reckless securities lending business, as AIG was unable to meet 
the cash calls from jittery trading partners worried about the 
company's CDO exposure. And finally, according to one AIG 
executive, as the crisis peaked toward mid-September 2008, 
counterparties who owed AIG cash were ``sitting on their 
hands.'' \81\
---------------------------------------------------------------------------
    \80\ On March 30, 2005 S&P downgraded AIG's rating from `AAA' to 
`AA+' because of its concern over AIG's internal controls, especially 
regarding its financial transactions. S&P again lowered the rating to 
`AA' in June 2005 based on AIG's significant accounting adjustments. In 
February 2008, S&P placed a negative outlook on AIG's credit rating 
because of concerns as to how AIG valued it CDS portfolio. The credit 
rating was again downgraded in May 2008 to `AA-' based in large part on 
the $5.9 billion loss on its CDS portfolio. As the crisis in the 
financial markets escalated in September 2008, S&P became more 
concerned with AIG's financial condition. The final nail in the coffin 
occurred on September 15, 2008 when S&P lowered AIG's rating to `A-.' 
Congressional Oversight Panel, Written Testimony of Rodney Clark, 
managing director of ratings services, Standard & Poor's Financial 
Services, COP Hearing on TARP and Other Assistance to AIG, at 3-5 (May 
26, 2010) (online at cop.senate.gov/documents/testimony-052610-
clark.pdf) (hereinafter ``Written Testimony of Rodney Clark'').
    \81\ Panel staff conversation with former AIG executive.
---------------------------------------------------------------------------

           FIGURE 12: ILLUSTRATION OF NEGATIVE FEEDBACK LOOP 


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


    The demand for collateral calls accelerated in 2008 as a 
result of the rapid deterioration of its multi-sector CDS 
portfolio. In the first and second quarters of 2008, AIG 
scrambled to post $20.8 billion in cash to meet its collateral 
obligations for this portfolio.\82\ In the third quarter of 
2008 (ending September 30, 2008), AIG had posted approximately 
$31.5 billion in collateral as a result of the deterioration in 
value of its multi-sector CDO portfolio.\83\
---------------------------------------------------------------------------
    \82\ AIG Form 10-K for FY08, supra note 47, at 146. AIG posted 
approximately $7 billion in cash collateral as of March 2008 and 
approximately $13 billion in cash collateral as of June 2008.
    \83\ AIG Form 10-K for FY08, supra note 47, at 68, 146. AIGFP 
surrendered $35 billion of collateral previously posted in connection 
with ML3, which terminated $62.1 billion net notional amount of multi-
sector CDS. For an in-depth discussion of ML3, see Section D.3.
---------------------------------------------------------------------------
    Collateral calls stemming from AIGFP's other CDS portfolios 
were, in comparison, immaterial.\84\ However, the liquidity 
drain from the multi-sector portfolio accelerated demands by 
the firm's securities lending counterparties for the return of 
their cash collateral (discussed in more detail in Section 
B.3(b) below). Unable to access private capital to meet 
collateral calls stemming from its CDS book and securities 
lending activities, AIG's liquidity crisis deepened against a 
deteriorating market backdrop that saw the firm report 
unrealized mark-to-market valuation losses on its multi-sector 
CDS book that totaled just under $40 billion as of the end of 
2008.\85\
---------------------------------------------------------------------------
    \84\ By the end of 2008, collateral postings for the corporate 
arbitrage portfolio totaled $2.3 billion, whereas collateral postings 
for AIGFP's regulatory capital portfolio totaled $1.3 billion. AIG Form 
10-K for FY08, supra note 47, at 146.
    \85\ Panel staff briefing with Weil Gotshal (May 12, 2010).
---------------------------------------------------------------------------
    Figure 13, below, outlines the growing demand for 
additional cash collateral from AIGFP's multi-sector CDO 
counterparties as the value of the underlying contracts (and 
the market's perception of AIG as a reliable counterparty) 
deteriorated. By the end of September 2008 AIG recorded 
cumulative unrealized market valuation losses over the prior 
two years of $33 billion on this portfolio. This coincided with 
posted collateral of $32 billion, which represented 44 percent 
of the notional value of the multi-sector CDS portfolio at the 
time.\86\
---------------------------------------------------------------------------
    \86\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 114; 
AIG Form 10-K for FY08, supra note 47, at 146. AIG's collateral on this 
portfolio ultimately reached $37 billion as of November 5, 2008. 
Congressional Oversight Panel, Testimony of Timothy F. Geithner, 
secretary, U.S. Department of the Treasury, COP Hearing with Treasury 
Secretary Timothy F. Geithner, at 79 (Dec. 10, 2009) (online at 
cop.senate.gov/documents/transcript-121009-geithner.pdf) (hereinafter 
``COP Hearing with Secretary Geithner'').
---------------------------------------------------------------------------

FIGURE 13: COUNTERPARTY COLLATERAL DEMANDS VS. MARK-TO-MARKET LOSSES ON 
                      MULTI-SECTOR CDO PORTFOLIO 


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


    While the multi-sector CDS portfolio was the primary 
trigger for market concerns regarding AIGFP's exposure to the 
deteriorating mortgage market, the potential termination of 
AIG's largest credit book, the regulatory capital portfolio, 
from a bankruptcy filing had the potential to cause significant 
problems for numerous European banks.
    The regulatory capital swaps allowed financial institutions 
that bought credit protection from AIGFP to hold less capital 
than they would otherwise have been required to hold by 
regulators against pools of residential mortgages and corporate 
loans. A hypothetical example helps illustrate how this worked. 
According to the international rules established under Basel 
I,\87\ which generally applied to European banks prior to AIG's 
collapse, a bank that held an unhedged pool of loans valued at 
$1 billion might be required to set aside $80 million, or 8 
percent of the pool's value. But if the bank split the pool of 
loans, so that the first losses were absorbed by an $80 million 
junior tranche, and AIGFP provided credit protection on the 
$920 million senior tranche, the bank could significantly 
reduce the amount of capital it had to set aside.\88\ 
Importantly, AIG's regulatory capital swaps were sold by an 
AIGFP subsidiary called Banque AIG, which was a French-
regulated bank.\89\ Under Basel I, claims on banks such as 
Banque AIG were assigned a lower risk weighting in the 
calculation of required capital reserves than the loans for 
which the counterparties were buying credit protection would 
have been assigned.\90\ This formula worked to the advantage of 
the counterparties, which could then use some of their 
regulatory capital savings to pay for the credit protection 
from AIGFP, and could use the remaining amount to make more 
loans, increasing their own leverage and risk. Because these 
swaps allowed banks to take on greater risk by shifting their 
liabilities to AIGFP, former AIG CEO Edward Liddy has referred 
to the deals as a ``balance sheet rental.'' \91\
---------------------------------------------------------------------------
    \87\ Basel I was introduced in July 1988 and was described as an 
attempt to ``secure international convergence of supervisory 
regulations governing the capital adequacy of international banks.'' 
Bank for International Settlements, International Convergence of 
Capital Measurement and Capital Standards, at 1 (July 1988) (online at 
www.bis.org/publ/bcbsc111.pdf). The committee that constructed Basel II 
intended the majority of the framework which it set out to be 
accessible for implementation as of the completion of 2006, while the 
most complex approaches would be made available at the completion of 
2007. Basel II sought to separate credit risk from operational risk and 
align economic and regulatory capital more directly. Bank for 
International Settlements, International Convergence of Capital 
Measurement and Capital Standards: A Revised Framework, at 1-5 (Nov. 
2005) (online at bis.org/publ/bcbs118.pdf).
    \88\ See Jeffrey Rosenberg, Toward a Clear Understanding of the 
Systemic Risks of Large Institutions, 5 Journal of Credit Risk, No. 2, 
at 77 (Summer 2009).
    \89\ Banque AIG entered into back-to-back contracts with AIGFP, 
which thus bore the ultimate risk of the transaction.
    \90\ See Houman B. Shadab, Guilty By Association? Regulating Credit 
Default Swaps, 4 Entrepreneurial Business Law Journal, No. 2, at 448, 
fn 199 (2010) (online at ssrn.com/abstract=1368026); U.S. Government 
Accountability Office, Risk-Based Capital: Bank Regulators Need to 
Improve Transparency and Overcome Impediments to Implementing the 
Proposed Basel II Framework, at 15 (Feb. 2007) (GAO-07-253) (online at 
www.gao.gov/new.items/d07253.pdf).
    \91\ House Financial Services, Subcommittee on Capital Markets, 
Insurance, and Government Sponsored Enterprises, Testimony of Edward 
Liddy, chief executive officer, American International Group, Inc., 
American International Group's Impact on the Global Economy: Before, 
During, and After Federal Intervention, at 63-64 (Mar. 18, 2009) 
(online at frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=111_house_hearings&docid=f:48868.pdf) (hereinafter 
``Testimony of Edward Liddy'').
---------------------------------------------------------------------------
    This business grew to become the largest portion of AIGFP's 
CDS exposure, reflecting the demand for regulatory capital 
savings among European banks.\92\ As of the end of 2007, 
AIGFP's notional exposure on these swaps was $379 billion, or 
about 72 percent of its notional exposure on its entire super 
senior CDS portfolio.\93\ But these swaps were not one of the 
key reasons that AIG was on the verge of filing for bankruptcy 
on September 16, 2008; AIG's collateral payments to these 
counterparties totaled less than $500 million at the time,\94\ 
an amount far lower than had been paid under AIG's multi-sector 
CDO swaps. This disparity may have been due in part to 
differences in the value of the underlying assets, as well as 
differences in the way the swap contracts were structured. 
Nonetheless, in September 2008, AIGFP's regulatory capital 
swaps were a source of concern at FRBNY because of the 
potential consequences that an AIG bankruptcy would have had on 
the capital structures of the European banks that had bought 
credit protection from AIG.\95\
---------------------------------------------------------------------------
    \92\ American International Group, Inc., AIG: Is the Risk 
Systemic?, at 18 (Mar. 6, 2009) (hereinafter ``AIG Presentation on 
Systemic Risk'').
    \93\ AIG Form 10-K for FY07, supra note 41, at 33.
    \94\ AIG Form 10-K for FY08, supra note 47, at 146.
    \95\ E-mail from Alejandro LaTorre to Timothy Geithner and other 
Federal Reserve Bank of New York officials (Sept, 14, 2008) 
(FRBNYAIG00496). See Section F(1)(b)(iv) for a more detailed discussion 
of the potential impact of AIG failure on European banks.
---------------------------------------------------------------------------
            b. Securities Lending
    AIG's aggressive expansion of its securities lending 
business, which is generally a low-risk and mundane financing 
operation on Wall Street, ramped up the company's exposure to 
the subprime mortgage market in late 2005.\96\ Ironically, this 
business's growth and investment strategy coincided with the 
time period that AIGFP stopped writing CDS on subprime-related 
CDOs. Subsequently, after the government bailout and the 
creation of ML2, AIG unwound this business.\97\
---------------------------------------------------------------------------
    \96\ Memorandum from Kevin B. McGinn to AIG Credit Risk Committee, 
AIGGIG Global Securities Lending (GSL) Cash Collateral Investment 
Policy (Dec. 20. 2005).
    \97\ AIG Form 10-K for FY08, supra note 47, at 251.
---------------------------------------------------------------------------
    Apart from its risk profile, the mechanics of AIG's 
securities lending program functioned in a similar fashion to 
those used by custody firms and long-term asset managers. AIG 
lent out securities owned by participating insurance 
subsidiaries in exchange for cash collateral.\98\ Several of 
AIG's life insurance subsidiaries participated in the 
securities lending program, which essentially 
aggregated the securities lending (and collateral investment) 
operations of these subsidiaries. These subsidiaries entered 
into securities lending agreements with an affiliated lending 
agent (AIG 
Securities Lending Corp.) that authorized the agent to lend 
their securities to a list of authorized borrowers (primarily 
major banks and brokerage firms) on their behalf or for their 
benefit. This effectively centralized investment decisions 
related to securities lending collateral within AIG's asset 
management operations group, and away from the individual life 
insurance subsidiaries.\99\ By appointing an affiliated agent 
to manage the securities lending program, the subsidiaries 
provided AIG's asset management operations group with some 
measure of control of the securities lending program.
---------------------------------------------------------------------------
    \98\ See Annex V for a more detailed discussion of the mechanics of 
securities lending.
    \99\ See, e.g., SunAmerica Annuity and Life Assurance Company, 
Annual Statement for the Year 2009, at 19.1, 19.18 (Dec. 31, 2009) 
(hereinafter ``SunAmerica 2009 Annual Statement''). The program was 
managed by an affiliated lending agent (AIG Securities Lending Corp.) 
and an affiliated investment advisor (e.g., AIG Institutional Asset 
Management). AIG Form 10-Q for Third Quarter 2008, supra note 23, at 
104, 143-44.
---------------------------------------------------------------------------
    Securities lending normally provides a low-risk way for 
insurance companies to earn modest sums of money on assets that 
would otherwise be sitting idle.\100\ AIG's program, however, 
was unusual in two ways.
---------------------------------------------------------------------------
    \100\ See Annex V for a full discussion of securities lending.
---------------------------------------------------------------------------
    The first difference, alluded to above, involves the degree 
of risk that AIG took when it invested the cash collateral it 
received. Because securities lending agreements allow the 
counterparties to require the lender to return their cash 
collateral at any time, the cash collateral is normally 
invested in liquid securities, such as short-term Treasury 
bonds, or kept in cash to meet laddered collateral demands that 
range from overnight to roughly three months in maturity.\101\ 
Beginning in late 2005, however, AIG used some of this 
collateral to buy RMBS, with the intention of maximizing its 
returns.\102\ At the height of AIG's securities lending program 
in 2007, the U.S. pool held $76 billion in invested 
liabilities, 60 percent of which were RMBS.\103\
---------------------------------------------------------------------------
    \101\ Panel and staff briefing with AIG CFO David Herzog, chief 
financial officer, AIG (May 17, 2010).
    \102\ See AIG Form 10-K for FY08, supra note 47, at 40 (``Under 
AIG's securities lending program, cash collateral was received from 
borrowers in exchange for loans of securities owned by AIG's insurance 
company subsidiaries. The cash was invested by AIG in fixed income 
securities, primarily residential mortgage-backed securities (RMBS), to 
earn a spread'').
    \103\ Congressional Oversight Panel, Written Testimony of Michael 
Moriarty, deputy superintendent for property and casualty markets, New 
York State Insurance Department, COP Hearing on TARP and Other 
Assistance to AIG, at 4 (May 26, 2010) (online at cop.senate.gov/
documents/testimony-052610-moriarty.pdf) (hereinafter ``Written 
Testimony of Michael Moriarty''). See Section B.6, supra, for a 
discussion of the insurance regulators' insistence on the dismantling 
of the securities lending pool.
---------------------------------------------------------------------------
    Additionally, while AIG management has asserted that it 
began to reduce the size of the securities lending program in 
the fourth quarter of 2007, AIG CFO David Herzog, who was 
controller at the time of the rescue, noted that these efforts 
were primarily motivated by a goal of reducing the large 
relative size of this business to the firm's overall balance 
sheet. He believed that addressing the increasingly illiquid 
nature of the investments made with the collateral was a 
byproduct of those efforts, but not the sole focus.\104\ This 
effort was either tentative or was unduly complicated by market 
conditions. In any case, there is little evidence that the 
effort was accompanied by any meaningful reduction in the 
proportion of securities lending collateral held in RMBS, which 
posed a graver risk to the firm than the program's absolute 
size relative to AIG's balance sheet.
---------------------------------------------------------------------------
    \104\ Panel and staff briefing with AIG CFO David Herzog (May 17, 
2010). As of December 2007, Securities Lending assets and liabilities 
represented 7 percent and 8.5 percent, respectively, of AIG's total 
balance sheet. AIG Form 10-K for FY07, supra note 41, at 130-31.
---------------------------------------------------------------------------
    In contrast to Herzog's statements, the state insurance 
regulators say that in mid-2007, when they discovered the RMBS 
securities in the securities lending program, they were 
concerned about the concentration of the investments, which 
ultimately experienced liquidity issues. The regulators began 
to work closely with AIG to address regulatory concerns. In 
order to respond to those concerns, AIG developed a plan to 
wind down the program and enact a plan to increase the 
liquidity of the pool.\105\ This plan was for a gradual wind-
down of the program, aimed at avoiding realized losses to the 
collateral pool from the sale of impaired securities.\106\ It 
included guarantees by the AIG parent company against realized 
losses in the pool of up to $5 billion.\107\
---------------------------------------------------------------------------
    \105\ Panel staff conversation with Texas Department of Insurance 
(May 24, 2010).
    \106\ Panel call with Texas Department of Insurance (May 24, 2010). 
See also AIG Form 10-Q for Third Quarter 2008, supra note 23, at 43 
(``During the second quarter of 2008, AIG made certain revisions to the 
American International Group, Inc. (as Guarantor) Condensed Statement 
of Cash Flows, primarily relating to the effect of reclassifying 
certain intercompany and securities lending balances''); Id. at 49 
(``AIG parent also deposited amounts into the collateral pool to offset 
losses realized by the pool in connection with sales of impaired 
securities''); Senate Committee on Banking, Housing, and Urban Affairs, 
Written Testimony of Eric Dinallo, superintendent, New York State 
Insurance Department, American International Group: Examining What Went 
Wrong, Government Intervention, and Implications for Future Regulation, 
at 6 (Mar. 5, 2009) (online at banking.senate.gov/public/
index.cfm?FuseAction=Files.View&FileStore _id=8ee655c8-2aed-4d4b-b36f-
0ae0ae5e5863).
    \107\ The size of the guarantee grew over time. In fall of 2007, 
AIG had itself implemented a guarantee for up to $500 million of 
realized losses. In order to respond to regulatory concerns, AIG 
increased the guarantee to $1 billion on May 1, 2008 and then $5 
billion on June 17, 2008. The insurance regulators were mindful of 
liquidity pressures at the parent. At the insurance regulators' 
quarterly meeting with AIG management in August 2008, they asked 
holding company management to come to the next meeting prepared to 
discuss liquidity at the holding company level. Panel staff 
conversation with NAIC (Apr. 27, 2010).
---------------------------------------------------------------------------
    While these RMBS were AAA-rated at the time AIG purchased 
them, as the mortgage crisis deepened, the ratings of the 
securities likewise deteriorated, along with liquidity in the 
underlying market. So while AIG's counterparties could request 
a return of their cash collateral with little notice, AIG had 
invested the money in securities that were increasingly 
illiquid after housing prices began to fall in 2006. This 
duration mismatch represented an overly aggressive foray into 
outright speculation, or a misreading of the risks associated 
with subprime RMBS, or both.\108\
---------------------------------------------------------------------------
    \108\ It is important to realize that, since AIG was both insuring 
RMBS through their sale of CDS and also purchasing RMBS through their 
investment of securities lending collateral, in order to assess the 
risk to the company, one would need to know how these products moved 
together, or co-varied. And, since AIG did not fully grasp the details 
of the securities underlying the CDS, it would be almost impossible to 
estimate the covariance, and therefore truly understand the risk they 
were facing in their aggregate exposures across AIGFP and the company's 
securities lending activities.
---------------------------------------------------------------------------
    The second reason that AIG's securities lending program was 
riskier than other such programs stemmed from payments the AIG 
parent company made to the insurance subsidiaries that owned 
the securities that had been lent out. In normal circumstances, 
securities lending counterparties would be required to post 
collateral of 100 to 102 percent of the market value of the 
securities they borrowed, as specified by state insurance 
regulators.\109\ But when unregulated companies started to lend 
securities under terms that included lower collateral 
requirements, AIG determined that lower collateral amounts were 
necessary to compete in the market, with the AIG parent company 
making up the difference and posting the collateral deficit up 
to 100 percent.\110\
---------------------------------------------------------------------------
    \109\ See National Association of Insurance Commissioners Model 
Laws, 280-1, Sec. 16(E).
    \110\ Panel call with Texas Department of Insurance (May 24, 2010); 
see AIG Form 10-Q for Third Quarter 2008, supra note 23, at 49 
(``Historically, AIG had received cash collateral from borrowers of 
100-102 percent of the value of the loaned securities. In light of more 
favorable terms offered by other lenders of securities, AIG accepted 
cash advanced by borrowers of less than the 102 percent historically 
required by insurance regulators. Under an agreement with its insurance 
company subsidiaries participating in the securities lending program, 
AIG parent deposited collateral in an amount sufficient to address the 
deficit''); see also SunAmerica 2009 Annual Statement, supra note 99, 
at 19.1 (``The Company's lending agent received primarily cash 
collateral in an amount in excess of the market value of the securities 
loaned. Such collateral was held by the lending agent for the benefit 
of the Company and [was] not available for the general use of the 
Company. Since the collateral was restricted, it was not reflected in 
the Company's balance sheet as an asset and offsetting liability''). 
This restricted collateral could be used to pay the securities lending 
counterparties or reinvested. Had the AIG parent filed for bankruptcy, 
the subsidiaries would have had access to the collateral in order to 
pay the counterparties.
---------------------------------------------------------------------------
    As the subprime crisis deepened, and investors grew worried 
about AIG's solvency (initially owing to its CDS portfolio), 
counterparties to securities lending transactions sought to 
ring-fence their duration exposure to AIG. They did this 
initially by shortening the length of their exposure to AIG--
for example, from 90-day or 30-day liabilities to 3-day or 
overnight ones--before ultimately opting to close out their 
exposure, demanding the return of their cash collateral in 
exchange for the securities they had borrowed. Between 
September 12 and September 30, 2008 securities lending 
counterparties demanded that AIG return approximately $24 
billion in cash.\111\ This proved difficult for AIG to do, as 
losses on the RMBS in the context of an increasingly illiquid 
market required AIG to look elsewhere for the cash, creating 
yet another drain on the parent company's liquidity.\112\ The 
situation was further complicated by AIG's aforementioned 
subsidization of below-market terms to its securities 
borrowers, as the company, in desperate need for cash, began to 
accept collateral in some cases as low as 90 percent of the 
value of the securities borrowed.\113\ By the end of August 
2008, AIG had provided $3.3 billion, in the form of financing 
terms and investment sales, to its insurance subsidiaries to 
help plug the shortfall.\114\
---------------------------------------------------------------------------
    \111\ Written Testimony of Michael Moriarty, supra note 103, at 4.
    \112\ While specific data for mid-September 2008 is not available, 
as of September 30, 2008, the fair value of the approximately $40 
billion RMBS portfolio in AIG's securities lending program was 
approximately $23.5 billion. AIG Form 10-Q for Third Quarter 2008, 
supra note 23, at 52.
    \113\ Panel staff briefing with David Herzog, chief financial 
officer, AIG (May 17, 2010).
    \114\ AIG Form 10-K for FY08, supra note 47, at 3.
---------------------------------------------------------------------------
    The insurance regulators have asserted that the securities 
lending program alone would not have caused the insolvency of 
the insurance subsidiaries. This assumes, however, a situation 
in which the problems at AIGFP did not exist. New York Deputy 
Insurance Superintendent Michael Moriarty wrote in his 
testimony to the Panel: ``Certainly, there would have been 
losses, with some companies hurt more than others. But we 
believe that there would have been sufficient assets in the 
companies and in the parent to maintain the solvency of all the 
companies.'' \115\ The existence of ``sufficient assets . . . 
in the parent'' assumes that these assets were not needed for 
AIGFP--a big assumption.\116\
---------------------------------------------------------------------------
    \115\ Written Testimony of Michael Moriarty, supra note 103, at 5.
    \116\ The New York Insurance Department has subsequently stated 
that there would have been sufficient capital and assets within the 
subsidiaries to resolve the securities lending issue without assistance 
from the parent. Panel staff conversation with New York Insurance 
Department (June 3, 2010).
---------------------------------------------------------------------------

4. Other Problematic Aspects of AIG's Financial Position and 
        Performance

    While the primary causes of AIG's distress were the 
collateral calls relating to its CDSs and securities lending 
program, it appears that other aspects of the company--both 
conventional and unconventional--may have amplified its 
problems, and made it more difficult to assess AIG's true 
financial position. Accounting, risk management, technology, 
financial controls and--ultimately--company leadership 
contributed to the problems that would engulf AIG.
            a. Risk Management
    The accounting treatment for AIGFP's CDSs on CDOs did not 
necessarily encourage hard questions about their risk. Given 
the perceived credit strength of the super senior tranches of 
the CDOs, which put holders at the front of the line in terms 
of cash flows, AIG (and many others in the marketplace) viewed 
the risk as remote, similar to catastrophic risk, and did not 
incur any capital charges on its balance sheet when it booked 
the initial transactions. This encouraged both underpricing and 
a large appetite for these products. And, as discussed above in 
Section B.3(a), this adherence to a limited risk model led the 
firm to overlook the potential consequences of protracted 
liquidity risk, and the consequent mark-to-market valuation 
losses on CDS exposure, as well as the liquidity constraints 
from collateral calls.
    As noted earlier, in 2007 AIG reported a material weakness 
in its internal oversight and monitoring of the financial 
reporting related to the valuation of the AIGFP CDS portfolio. 
AIG did not have sufficient resources to design and carry out 
effective controls over the valuation model, which hindered its 
ability to adequately assess the relevance of third party 
information to the model inputs in a timely manner.\117\ 
Changes to fair value accounting standards and the contraction 
in the CDS market driven by deteriorating credit conditions 
necessitated the development of a valuation model to estimate 
the fair value of the portfolio as actual market data was no 
longer readily available, and created a need for human 
resources and processes that AIG was ultimately unable to 
address quickly enough to ensure reliable valuation 
results.\118\ Information sharing at appropriate levels, 
especially between AIG and AIGFP, was also not effective in 
regards to the CDS portfolio valuation, exacerbating the 
problems inherent with the model's lack of comprehensive data 
inputs and preventing them from being detected and 
escalated.\119\ As a result of its lax oversight, AIG failed to 
detect inaccuracies in AIGFP's fair value estimates of its 
super senior CDS portfolio.\120\
---------------------------------------------------------------------------
    \117\ AIG Form 10-K for FY07, supra note 41, at 202.
    \118\ This period also coincided with the elimination of EITF 02-03 
and the implementation of FAS 157's market valuation requirements.
    \119\ AIG Form 10-K for FY07, supra note 41, at 202.
    \120\ AIG revealed weaknesses in its oversight and monitoring of 
AIGFP's valuation process for its super senior credit default swap 
portfolio, including the timely sharing of information with AIG and 
AIG's internal risk control groups. ``As a result, controls over the 
AIGFP super senior credit default swap portfolio valuation process and 
oversight thereof were not adequate to prevent or detect misstatements 
in the accuracy of management's fair value estimates and disclosures on 
a timely basis, resulting in adjustments for purposes of AIG's December 
31, 2007 consolidated financial statements. In addition, this 
deficiency could result in a misstatement in management's fair value 
estimates or disclosures that could be material to AIG's annual or 
interim consolidated financial statements that would not be prevented 
or detected on a timely basis.'' AIG Form 10-K for FY07, supra note 41, 
at 202. The revelations regarding AIG's lax oversight of AIGFP led S&P 
to place AIG on negative outlook in February 2008. Written Testimony of 
Rodney Clark, supra note 80, at 4.
---------------------------------------------------------------------------
    This followed other accounting issues noted by AIG and PwC 
in the course of the 2004 audit \121\ and uncovered by former 
New York Attorney General Eliot Spitzer and former New York 
State Insurance Superintendent Howard Mills, who filed a civil 
lawsuit on May 26, 2005 against AIG, AIG's former chairman 
Maurice Greenberg, and AIG's former chief financial officer 
Howard Smith, charging them with manipulating AIG's financial 
statements.\122\ In January 2006, AIG entered into a settlement 
agreement with the New York Attorney General in which AIG made 
payments totaling $1.6 billion in restitution and 
penalties.\123\
---------------------------------------------------------------------------
    \121\ For the fiscal year 2004, AIG noted five material weaknesses 
in its financial statements related to the following: control 
environment, controls over balance sheet reconciliations, controls over 
accounting for certain derivative transactions/FAS 133 implementation, 
controls over the evaluation of risk transfer/reinsurance, and controls 
over income tax accounting. AIG Form 10-K for FY04, supra note 9, at 
99.
    \122\ Plaintiffs' Complaint, 2-4, People v. American International 
Group, Inc., N.Y. App. Div. (May 26, 2005) (No. 401720-2005) (online at 
www.ag.ny.gov/media_center/2005/may/Summons%20and%20Complaint.pdf). In 
2005 problems with AIG's reinsurance division led to an investigation 
by the Securities and Exchange Commission, the New York Attorney 
General, the New York State Insurance Department, and the Justice 
Department as to ``whether reinsurance companies controlled by AIG were 
treated as separate entities in order to help hide AIG's exposure to 
risk; whether reinsurance transactions are tantamount to loans that 
should have been so listed; whether assets and liabilities were swapped 
to smooth earnings; and, finally, whether AIG used finite reinsurance 
to smooth earnings.'' The reinsurance revelations contributed to the 
rating agencies' downgrade of the credit rating of AIG in 2005, AIG's 
amendment of its 2005 10-K filing, and Mr. Greenberg's departure as 
chairman and CEO of AIG.
    \123\ Attorney General of the State of New York, Agreement Between 
the Attorney General of the State of New York and American 
International Group, Inc. and Its Subsidiaries, at 12-19 (Jan. 18, 
2006) (online at www.ag.ny.gov/media_center/2006/feb/
signedSettlement.pdf).
---------------------------------------------------------------------------
    While the problems at AIGFP can be viewed as a valuation 
and risk management failure, exacerbated by accounting issues, 
the life insurance subsidiaries' securities lending business 
was a blatant risk-management failure. The decision to invest 
cash collateral from the firm's securities lending customers in 
RMBS represented a misjudgment of the volatility and liquidity 
risks in the mortgage market. It was the duration mismatch on 
these investments--in the context of the collapse in the 
mortgage market--that created a liquidity crunch for the parent 
company. The situation was exacerbated by the cross-funding 
arrangements throughout the firm, which complicated the 
relationship between AIG's subsidiaries and the parent company. 
In addition, the life insurance subsidiaries were ramping up 
the purchases of RMBS at the same time that AIGFP had decided 
to stop writing swaps on subprime mortgage backed securities 
because of the riskiness of the underlying bonds, highlighting 
the failure of enterprise risk management at the company.
            b. Technology
    An additional factor which may have contributed to AIG's 
financial troubles was shortfalls in its technological 
infrastructure. AIGFP Chief Operating Officer Gerry Pasciucco, 
who joined the division in the aftermath of government 
assistance, asserts that the unit's technology and 
infrastructure--which he described as similar to that of a 
fast-growing hedge fund, but with few deficiencies that would 
rise above the ``annoyance'' level--did not contribute to the 
valuation and risk management challenges that engulfed AIG. 
Rather than the models or the technology, Mr. Pasciucco 
believes the inputs and the assumptions underlying those inputs 
were the source of the problem.\124\
---------------------------------------------------------------------------
    \124\ Panel staff conversation with Gerry Pasciucco (Apr. 23, 
2010).
---------------------------------------------------------------------------
    That said, while the systems within the individual 
businesses may have been adequate, discussions with several 
market observers point to systemic technology issues that may 
have prevented AIG from adequately measuring its aggregate risk 
exposures and inter-connections. In this context, it may have 
been difficult for management and regulators to see the whole 
picture across AIG's vast, interconnected business operations.
            c. Reserves
    Insurance companies report reserve estimates for both GAAP 
and statutory reporting purposes, and due to inherent 
differences in reserve requirements for each, the two estimates 
often differ. Statutory reserves must be maintained at levels 
required by state insurance regulators, while GAAP reserves 
must meet the reserve estimate methodology required for 
financial statement reporting. Insurance reserve estimate 
methodology under GAAP employs assumptions, such as estimates 
of expected investment yields, mortality, morbidity, 
terminations, and expenses, applicable at the time of initial 
contract with adjustments to the assumptions made over 
time.\125\ As with any assumptions, the degree of subjectivity 
and flexibility allows for a wide range of reserve results of 
which AIG has historically chosen the lower end. Some market 
observers believe that the company has had a deliberate and 
consistent policy of slightly underreserving in a manner that 
is not material to any one subsidiary, but is material on a 
consolidated basis at the parent.\126\ The regulators review 
life reserves on a legal entity basis and P&C reserves on a 
pooled basis, but do not perform a group-wide consolidated 
review of life reserves.\127\ Similarly, the ratings agencies 
that rate insurance subsidiaries do not look at all 
subsidiaries on a consolidated basis; but they do a 
consolidated evaluation of all subsidiaries of a particular 
group (life, property & casualty).\128\ Fitch placed AIG on 
Ratings Watch Negative after it took a $1.8 billion after tax 
reserve charge in the P&C operations in 2003.\129\ In addition, 
AIG is required to include in its annual report with the SEC a 
reestimate of its insurance reserves over a 10-year 
period.\130\ The insurance reserves reestimate is calculated 
based on current information rather than past information.\131\ 
The 2009 10-K shows consistent deficiencies in reserves over 
the past 10 years, with the highest deficiency amount in 2001 
and 2002, when the net deficiency amount totaled $22.0 billion 
and $22.6 billion, respectively.\132\
---------------------------------------------------------------------------
    \125\ Accounting Standards Codification (ASC) 944-40-30, Financial 
Services--Insurance, Claim Costs and Liabilities for Future Policy 
Benefits, Initial Measurement (online at asc.fasb.org/
section&trid=4737918%26analyticsAssetName =subtopic_page_section%26nav 
_type=subtopic_page).
    \126\ Panel staff conversation with industry participants (May 7, 
2010).
    \127\ Panel staff conversation with Texas Insurance Department (May 
24, 2010). The regulators review statutory reserves, not GAAP reserves.
    \128\ Panel staff conversations with rating agency (May 18, 2010); 
Panel staff conversation with rating agency (May 19, 2010).
    \129\ Fitch Ratings, Fitch Places AIG's Sr Debt on RW-Neg; Affirms 
ST Rtg and Financial Strength Rtgs (Feb. 3, 2003).
    \130\ SEC's Industry Guide 6 (Disclosures Concerning Unpaid Claims 
and Claims Adjustment Expenses from Property--Casualty Insurance 
Underwriters) provides disclosure guidance for companies with material 
casualty insurance operations. Guide 6 calls for tabular information 
depicting the activity with respect to loss reserves and revisions to 
those estimates over time. See U.S. Securities and Exchange Commission, 
Industry Guides, at 32 (online at www.sec.gov/about/forms/
industryguides.pdf).
    \131\ As noted in the 2009 Form 10-K, the increase from ``the 
original estimate[d] [reserve] generally results from a combination of 
a number of factors, including claims being settled for larger amounts 
than originally estimated.'' AIG Form 10-K for FY09, supra note 50, at 
5.
    \132\ This data shows ``losses and loss expense reserves. . 
.excluding those with respect to asbestos and environmental claims.'' 
Including asbestos and environmental claims results in higher 
deficiencies. AIG Form 10-K for FY09, supra note 50, at 7.
---------------------------------------------------------------------------
            d. Cross-holdings
    Inter-company transactions and cross-holdings complicated 
AIG's financial position. Many of AIG's insurance subsidiaries 
held common stock in other AIG insurance subsidiaries.\133\ 
This stock was counted towards regulatory capital of the 
insurance subsidiaries. In addition to common stock, some 
larger subsidiaries provided guarantees for smaller 
subsidiaries.
---------------------------------------------------------------------------
    \133\ For example, as of September 30, 2009, Pacific Union owned 
67,435 shares of the parent company. See Pacific Union Assurance 
Company, Quarterly Statement as of September 30, 2009 of the Condition 
and Affairs of the Pacific Union Assurance Company, at Q07.2 (Nov. 11, 
2009).
---------------------------------------------------------------------------
    Beyond the insurance subsidiaries, AIGFP had liabilities 
across AIG, both to the parent and other subsidiaries. AIGFP 
had ``intercompany payables'' of $54 billion owed to the 
parent.\134\ FRBNY considered the systemic risk of these 
obligations to be high, as ``the failure of FP to perform on 
obligations to other AIG entities may create an event of 
default for the company,'' and the ``[f]ailure of FP may put at 
risk the financial condition of other AIG operating 
subsidiaries.'' The insurance and financing subsidiaries also 
had $1.85 billion in derivatives exposure to AIGFP. The 
subsidiaries with the largest exposures were ILFC ($695 
million), AIG Matched Investment Program ($441.5 million), 
SunAmerica LIC ($240.3 million), and American General ($225.4 
million). Lastly, as discussed in Section B.6, all of Banque 
AIG's risk was back-to-back with AIGFP, meaning that AIGFP was 
liable for all of Banque AIG's obligations. An FRBNY staff 
document describes that a default by AIGFP would have ``a 
catastrophic impact on Banque AIG.'' \135\
---------------------------------------------------------------------------
    \134\ This $54 billion is the sum of maturing AIGFP liabilities 
plus collateral posted to third-parties--the parent had lent AIGFP 
funds to pay off counterparties and AIGFP debtholders.
    \135\AIGFP Systemic Risk Analysis--Draft, Attachment to e-mail sent 
from Peter Juhas, advisor, Morgan Stanley, to Sarah Dahlgren, senior 
vice president, Federal Reserve Bank of New York, at 1, 2 (Oct. 25, 
2008) (FRBNY-TOWNS-R1-116163); Systemic Risks of AIG, Attachment to e-
mail sent from Michael Gibson to Rich Ashton, at 3 (Nov. 3, 2008) 
(FRBNY-TOWNS-R1-122347-352).
---------------------------------------------------------------------------
    Through 2008 and 2009, AIG provided capital contributions 
to its subsidiaries. In total, AIG provided $27.2 billion to 
its subsidiaries in 2008 and $5.7 billion in 2009.\136\ Of the 
2008 capital contributions, $22.7 billion went to the domestic 
life insurance subsidiaries, primarily to cover losses in the 
securities lending portfolio.\137\ In 2008, the parent 
contributed $4.4 billion to the foreign life insurance 
subsidiaries after they experienced ``significant capital needs 
following publicity of AIG parent's liquidity issues and 
related credit ratings downgrades and reflecting the decline in 
the equity markets.'' \138\ In 2009, AIG contributed $2.4 
billion to its domestic life insurance subsidiaries ``to 
replace a portion of the capital lost as a result of net 
realized capital losses (primarily resulting from other-than-
temporary impairment charges) and other investment-related 
items.'' \139\ The parent provided $624 million in funding to 
foreign life insurance subsidiaries in 2009.\140\ In some 
cases, the subsidiary paid the entire amount back later in the 
year as a dividend.\141\
---------------------------------------------------------------------------
    \136\ Although much of these payments are post-rescue, they reflect 
issues that existed before the rescue, such as securities lending. 
These numbers exclude MIP and Series AIGFP debt. A significant portion 
of the 2008 capital contributions were to cover securities lending 
liabilities at the life insurance subsidiaries. AIG Form 10-K for FY09, 
supra note 50, at 48-49; AIG Form 10-K for FY08, supra note 47, at 48.
    \137\ AIG Form 10-K for FY08, supra note 47, at 50, 251. The 
insurance regulators have stated, however, that the subsidiaries could 
have managed these liquidity needs on their own, without outside 
assistance. See note 167 and accompanying text, infra.
    \138\ AIG Form 10-K for FY08, supra note 47, at 50.
    \139\ AIG Form 10-K for FY09, supra note 50, at 50.
    \140\ AIG Form 10-K for FY09, supra note 50, at 50.
    \141\ AIG Form 10-K for FY09, supra note 50, at 49 (``In 2009, AIG 
made a capital contribution of $641 million to a Chartis U.S. 
subsidiary, all of which was returned as a dividend to AIG later in the 
year'').
---------------------------------------------------------------------------
            e. Leadership
    Some view AIG's leadership as another factor leading to its 
collapse. Though a controversial figure, Hank Greenberg is 
widely acknowledged to have been the only person who fully 
understood the company's vast web of inter-relationships.\142\ 
Some believe that, had he remained with the company, he would 
have realized the implications of the market shift in late 2005 
and required AIGFP to hedge its CDS exposure and also would 
have provided stronger enterprise risk management.\143\ Among 
other things, he might have noted the inconsistencies when the 
securities lending program began purchasing RMBS at the same 
time that AIGFP stopped writing CDS on subprime mortgage 
products. Others believe that many of the company's bad 
practices were developed under his watch. Lack of adequate 
succession planning also played a role. Had AIG had a strong 
succession plan in 2005 when Mr. Greenberg was forced to 
resign, the new CEO could have had a more thorough 
understanding of the complexity of the company, and thus could 
have prevented or mitigated the damage. This complexity and 
lack of transparency was not only a cause of the company's 
troubles, it also impeded the rescue and recovery by obscuring 
the nature and size of the problem.\144\
---------------------------------------------------------------------------
    \142\ The charges brought against Mr. Greenberg, and forced him to 
resign, were largely related to reinsurance transactions and an off-
shore entity. See Section B1, supra.
    \143\ Panel staff call with industry analysts (Apr. 23, 2010).
    \144\ Former AIG General Counsel Anastasia Kelly stated: ``There 
wasn't focus on the fact that now that Hank's gone, what do we need, 
what kind of succession planning should we have in place. . .A lot of 
companies have very robust human resource-driven succession plans, have 
people identified. AIG didn't have that. Maybe they would have had Hank 
stay as long as he wanted to and had done it himself.'' She continued, 
saying that when the crisis hit, AIG did not have the ``infrastructure 
to call upon to respond'' and that ``there was no one in charge.'' Ian 
Katz and Hugh Son, AIG Was Unprepared for Financial Crisis, Former Top 
Lawyer Says, Bloomberg News (Mar. 13, 2010) (online at 
www.bloomberg.com/apps/news?pid=20601087&sid=aYq7MDFtelkc).
---------------------------------------------------------------------------

5. The Role of Credit Rating Agencies \145\
---------------------------------------------------------------------------

    \145\ Credit rating agencies, known formally as Nationally 
Recognized Statistical Rating Organizations (NRSROs), are private, SEC-
registered firms that assign credit ratings to issuers, such as 
companies, measuring their ``willingness and ability'' to repay their 
financial obligations. In general, higher credit ratings lower an 
issuer's borrowing costs, enhance its ability to raise capital, and 
heighten its appeal as a business partner or counterparty. Credit 
ratings can also be assigned to individual debt issues, such as 
mortgage-backed securities, measuring their likelihood of default. 
Rating agencies use letter-based rating scales to express credit 
quality; for example, a `AAA' rating indicates the least amount of 
credit risk, while a `D' rating indicates the most. Changes in credit 
quality can trigger upgrades or downgrades along this rating scale. 
Three rating agencies (S&P, Moody's, and Fitch) account for 98 percent 
of all ratings generated by NRSROs. Although credit ratings technically 
constitute only an opinion of credit quality, because ratings are used 
to make investment decisions, and to satisfy certain regulatory and 
investment requirements, credit ratings play a critical role in the 
broader markets. See Standard and Poor's, Credit Ratings Definitions & 
FAQs (online at www.standardandpoors.com/ratings/definitions-and-faqs/
en/us) (accessed June 9, 2010); Frank Partnoy, Rethinking Regulation of 
Credit Rating Agencies: An Institutional Investor Perspective, at 4 
(Apr. 2009) (online at www.cii.org/UserFiles/file/CRAWhitePaper04-14-
09.pdf).
---------------------------------------------------------------------------
    Credit rating agencies played an exceptionally important 
role in AIG's collapse and rescue. Credit rating downgrades 
were a factor in AIG's problems, and the need to maintain 
ratings significantly constrained the government agencies' 
options in the rescue. Large insurance companies in general are 
dependent on a sound credit rating that permits them to access 
the bond markets cheaply. Many insurance customers are highly 
ratings sensitive, and will not do business with insurers with 
less than an investment grade credit rating. A low cost of 
borrowing enables these companies to make a profit from the 
spread between their cost of capital and the return on their 
investments. AIG appears to have been more dependent on this 
business model than most other insurance firms, as can be seen 
in the frequent guarantee of the obligations of AIG 
subsidiaries. Although AIG profited for many years from its AAA 
credit rating, it also became particularly vulnerable to the 
negative consequences of ratings downgrades.
    AIG was a AAA company as recently as late 2004. In early 
2005, all three major ratings agencies began downgrading AIG. 
Although the agencies downgraded AIG again as its 
vulnerabilities became more apparent in 2008, it still entered 
September 2008 with relatively decent, investment-grade 
ratings.\146\ On Monday, September 15, the day Lehman Brothers 
failed, after the extent of AIG's liquidity problems became 
known, AIG was again downgraded by all three major rating 
agencies and by A.M. Best, a specialty insurance rating agency. 
These downgrades prompted collateral calls that brought AIG to 
the brink of bankruptcy, and ultimately resulted in FRBNY's 
rescue. Less than two months later, ratings agencies again 
warned of downgrades, concerned that FRBNY credit facility was 
making AIG overleveraged. As discussed below, this event was a 
factor in Treasury's intervention with TARP funds.
---------------------------------------------------------------------------
    \146\ For example, as of September 14, 2008, AIG's senior unsecured 
debt ratings were AA- from S&P, and Aa3 from Moody's.
---------------------------------------------------------------------------

6. Were Regulators Aware of AIG's Position?

    In retrospect, it is clear that AIG's regulators failed to 
assess the firm's risk adequately. OTS operated under ``a 
statutory mandate to regulate federal savings associations in a 
manner that preserves safety and soundness, protects the 
federal deposit insurance funds, and promotes the provision of 
credit for homes and other goods and services in accordance 
with the best practices of thrift institutions in the United 
States.'' \147\ As discussed earlier, OTS was the only 
regulator that had explicit authority to look at the entire 
company, and the only regulator with any authority over 
AIGFP.\148\ But under federal law, OTS' regulatory authority 
was predicated on the chief objective of protecting the thrift 
subsidiary, with holding company regulation conducted in light 
of that objective. As such, OTS generally did not interpret its 
mandate broadly, focusing primarily on the company's regulated 
thrift, which represented a small fraction of AIG's overall 
business, and accounted for well under 1 percent of the holding 
company's total assets.\149\
---------------------------------------------------------------------------
    \147\ Office of Thrift Supervision, Legal Opinions: Operating 
Subsidiaries and Federal Preemption (Oct. 17, 1994) (online at 
www.ots.treas.gov/_files/56423.pdf); 12 U.S.C. 1464(a).
    \148\ Testimony of Edward Liddy, supra note 91, at 39 (stating that 
``while credit default swaps may be an unregulated product, they 
absolutely, positively fell within a company that OTS regulated and we 
indeed very much understood the risks of the profile of the credit 
default portfolio as we were looking at it'').
    \149\ Although OTS had oversight over the entire company, AIG FSB's 
assets of $1.27 billion as of December 2008 constituted a mere 0.14 
percent of AIG's total assets. See American International Group, Inc., 
2008 Annual Report, at 192 (Mar. 27, 2009) (online at phx.corporate-
ir.net/
External.File?item=UGFyZW50SUQ9MTQ4OHxDaGlsZElEPS0xfFR5cGU9Mw==&t=1); 
see also Federal Financial Institutions Examination Council, AIG 
Federal Savings Bank, Consolidated Statement of Condition (online at 
www2.fdic.gov/Call_TFR_Rpts/
toccallreport1.asp?pInstitution=&pSQL=pcmbQtrEnd=12/31/
2008&pas_city=&pcmbState=ANY&pCert=35267&prdbNameSearch=&pDocket) 
(accessed June 9, 2010).
---------------------------------------------------------------------------
    Federal law regarding savings and loan holding companies is 
generally aimed at protecting the safety and soundness of the 
thrift subsidiary by preventing capital drains or overreaching 
by affiliates within the holding company structure. OTS is 
provided with the authority to examine the holding company and 
its subsidiaries, as well as to restrict activities of the 
holding company when there is reasonable cause to believe that 
the activities constitute ``a serious risk to the financial 
safety, soundness, or stability'' of the holding company's 
subsidiary savings association.\150\ The Gramm-Leach-Bliley Act 
of 1999 provided for coordination between the primary regulator 
(in this case, OTS) and various functional regulators of the 
holding company's subsidiaries (in this case, state insurance 
regulators) and emphasized the safety and soundness of the 
subsidiary depository institution as the primary objective of 
regulation.\151\
---------------------------------------------------------------------------
    \150\ See 12 U.S.C. 1467a (2009) for regulation of holding 
companies.
    \151\ Gramm-Leach-Bliley Act, Pub. L. 106-102, Sec. 401 (1999) 
(online at www.gpo.gov/fdsys/pkg/PLAW-106publ102/pdf/PLAW-
106publ102.pdf); Congressional Oversight Panel, Written Testimony of 
Michael E. Finn, Northeast regional director, Office of Thrift 
Supervision, COP Hearing on TARP and Other Assistance to AIG, at 3 (May 
26, 2010) (online at cop.senate.gov/documents/testimony-052610-
finn.pdf) (hereinafter ``Written Testimony of Michael E. Finn'').
---------------------------------------------------------------------------
    OTS supervises and examines holding company enterprises, 
such as AIG, within regulated holding companies, but it 
generally relies on specific functional regulators for findings 
and issues related to the various holding company subsidiaries 
examined by other functional regulators to reduce duplication 
of work. In its role as supervisory regulator, OTS must consult 
with the functional regulator of a holding company subsidiary 
before further examining or making authoritative decisions 
regarding that entity and must prove that it needs information 
that might indicate an adverse impact on the holding 
company.\152\ According to OTS staff, to their knowledge, the 
determination to prove the need to further examine a subsidiary 
regulated by another functional regulator and obtain more 
information was never made or exercised during its regulation 
of AIG.\153\ Since no other functional regulator was overseeing 
AIGFP, the potential for missed clues about future liquidity or 
credit risks was high.
---------------------------------------------------------------------------
    \152\ Pub. L. 106-102, Sec. 401 (online at www.gpo.gov/fdsys/pkg/
PLAW-106publ102/pdf/PLAW-106publ102.pdf); Panel staff conversation with 
OTS (May 21, 2010).
    \153\ Panel staff conversation with OTS (May 21, 2010).
---------------------------------------------------------------------------
    After becoming the regulator of AIG's holding company in 
2000, OTS began conducting targeted, risk-focused reviews of 
AIG's businesses, including AIGFP, in 2004 and made 
recommendations regarding risk management oversight, financial 
reporting transparency, and corporate governance to AIG's 
senior management and Board of Directors.\154\ OTS began 
holding annual ``supervisory college'' meetings with the firm's 
key foreign and U.S. insurance regulators in 2006 to share 
information and coordinate actions, with certain meetings 
including AIG personnel and others limited to only supervisors. 
OTS rolled out a formal, risk-focused continuous supervision 
plan for large holding companies such as AIG that same year, 
well after the ramp-up in CDS contracts within AIGFP.\155\ In 
January 2007, French bank regulator Commission Bancaire, 
coordinating supervisor of AIG's European operations, deemed 
the supervision of AIG by OTS as having equivalency status in 
accordance with the EU's Financial Conglomerates 
Directive.\156\ This decision exempted London-based AIGFP from 
oversight by UK and European regulators, except in instances of 
AIGFP activity affecting Banque AIG's European activity and 
transactions,\157\ but it did not provide OTS with any 
additional regulatory authority or powers in its supervision of 
AIG.\158\
---------------------------------------------------------------------------
    \154\ Written Testimony of Michael E. Finn, supra note 151, at 13.
    \155\ Testimony of Edward Liddy, supra note 91, at 217.
    \156\ OJ C 28 E of 11.2.2003, Directive 2002/87/EC of the European 
Parliament and of the Council (Dec. 16, 2002) (online at eur-
lex.europa.eu/pri/en/oj/dat/2003/l_035/l_03520030211en00010027.pdf); 
Office of Thrift Supervision, Press Release: OTS 07-011--OTS Receives 
EU Equivalency Designation for Supervision of AIG (Feb. 22, 2007) 
(online at www.ots.treas.gov/
%5C?p=PressReleases&ContentRecord_id=df05bfa2-8364-45a7-bf4c-
18437165c11f).
    \157\ Panel staff conversation with OTS (May 21, 2010).
    \158\ Written Testimony of Michael E. Finn, supra note 151, at 12.
---------------------------------------------------------------------------
    In 2007, as the housing market deteriorated, OTS increased 
its surveillance of AIGFP and its portfolio of mortgage-related 
CDSs. Among other things, OTS recommended that AIGFP review its 
CDS modeling assumptions in light of worsening market 
conditions and that it increase risk monitoring and controls. 
Beginning in February 2008, in response to a material weakness 
finding in AIG's CDS valuation process, OTS again stepped up 
its efforts to force AIG to manage the risks associated with 
its CDS portfolio. OTS downgraded the firm's CORE rating \159\ 
in March 2008 and wrote a formal letter to AIG's General 
Counsel regarding AIG's risk management failure.\160\ In August 
2008, OTS began to review AIG's remediation plan to improve 
practices and processes earlier criticized by OTS.\161\ During 
this same month, the OTS field examiner to AIG met with 
personnel from FRBNY at the request of the bank, largely for 
FRBNY to obtain information and data about AIG's current state 
from the field examiner. The most forceful protective action 
taken by OTS occurred in September 16, 2008, when, in light of 
mounting problems at the holding company level, OTS precluded 
AIG FSB from engaging in transactions with affiliates without 
its knowledge and lack of objection, restricted capital 
distributions, required minimum liquidity be maintained, and 
required retention of counsel to advise the board about pending 
corporate issues and risks.\162\
---------------------------------------------------------------------------
    \159\ The OTS evaluates a supervised company's managerial 
resources, financial resources, and future prospects through the CORE 
holding company examination components: Capital, Organizational 
Structure, Risk Management, and Earnings. The examination reviews a 
company's capital adequacy in light of inherent risk, ability to absorb 
unanticipated losses, ability to support debt maturities, and overall 
strategy. A CORE rating is assigned based on the results of the OTS 
examination.
    \160\ Written Testimony of Scott Polakoff, supra note 16, at 15-16.
    \161\ Panel staff conversation with OTS (May 21, 2010).
    \162\ Written Testimony of Michael E. Finn, supra note 151, at 14.
---------------------------------------------------------------------------
    All of these steps were too little, too late to address the 
company's vast exposure to a rapidly deteriorating housing 
market and economy. As former Acting OTS Director Scott M. 
Polakoff later acknowledged: ``OTS did not foresee the extent 
of risk concentration and profound systemic impact CDS caused 
within AIG.'' Polakoff also stated that OTS should have 
directed AIG to stop originating CDSs and begin reducing its 
CDS portfolio before December 2005.\163\ Former senior 
personnel at OTS have admitted that they should have stopped 
AIGFP's CDSbook of business in 2004 and that they ``did not 
foresee the extent that the mortgage market would deteriorate 
and the impact on the liquidity of AIGFP.'' \164\ While OTS 
claims to have reviewed the valuation models that AIG used and 
worked with the external auditors in understanding the 
valuation process, they readily admit to not grasping the 
inherent complexities of the CDS business, the degree of risk 
taken on by AIG through its most troublesome subsidiaries, and 
the comprehensive impact of collateral triggers on AIG's 
liquidity and ability to operate as a going concern in a worst 
case scenario. Some have speculated that AIG founded its thrift 
in 2000 primarily to secure supervision from the supposedly lax 
OTS.\165\
---------------------------------------------------------------------------
    \163\ Written Testimony of Scott Polakoff, supra note 16, at 18.
    \164\ Written Testimony of Scott Polakoff, supra note 16, at 17.
    \165\ See, e.g. Paul Kiel, Banks' Favorite (Toothless) Regulator, 
ProPublica (Nov. 25, 2008) (online at www.propublica.org/article/banks-
favorite-toothless-regulator-1125).
---------------------------------------------------------------------------
    Prior to AIG's collapse, OTS deemed the capital at the 
thrift level to be adequate, and as that was its starting point 
for regulation, it did not take more forceful actions against 
the holding company. As OTS monitored actions by management and 
encouraged corrective action in 2008, OTS put a protective 
hedge around the thrift to ensure it remained well capitalized 
and that its capital could not be drained by the holding 
company. Furthermore, OTS personnel note that after the fall of 
Bear Stearns in early 2008, all OTS field regulators were 
conducting heightened evaluations of the major banks with a 
focus on CDS practices, mortgage lines, and off-balance sheet 
transactions.\166\
---------------------------------------------------------------------------
    \166\ Panel staff conversation with OTS (May 21, 2010).
---------------------------------------------------------------------------
    AIG's insurance regulators had more success in taking 
action regarding the company's securities lending program. In 
mid-2007, as part of its examination process, Texas, the lead 
regulator for the firm's life insurance subsidiaries, 
discovered that AIG was purchasing RMBS with its securities 
lending collateral (a practice that began in late 2005).\167\ 
When Texas discovered this, various state insurance regulators 
began working closely with management to develop both short 
(guarantees) and long (wind-down) term plans to address the 
regulators' concerns with the program.\168\ AIG's goal was to 
wind down the program gradually, so as not to force the 
subsidiaries to sell assets at a loss.\169\ During this period 
they required detailed monthly reporting on the securities 
lending portfolio. They also closely monitored realized and 
unrealized losses from the program and capital levels at the 
subsidiaries.
---------------------------------------------------------------------------
    \167\ NAIC has stated that AIG should have disclosed to the 
regulators this material change in the composition of the assets 
purchased.
    \168\ Panel staff conversation with Texas Department of Insurance 
(May 24, 2010). The New York Insurance Department learned of the RMBS 
purchases in mid-2006; they discovered them when reviewing AIG's risk-
based capital reporting. Because the RMBS were AAA-rated liquid assets 
at the time, New York did not raise the RMBS purchases as an issue. 
Panel staff conversation with New York Insurance Department (June 3, 
2010).
    \169\ Through the wind down of the program, the insurance 
subsidiaries had $5 billion in realized losses and $7.873 billion in 
unrealized losses, as of July 2008, from the securities lending 
program. Panel staff conversation with Texas Department of Insurance 
(May 24, 2010).
---------------------------------------------------------------------------
    At the November 2007 AIG Supervisory College, the Texas 
Department of Insurance informed OTS and the other regulators 
of the securities lending issue.\170\ The Texas regulators 
discussed the securities lending issue as part of its 
presentation to the other regulators, and also held a private 
conversation with OTS about the issue afterwards.\171\ This 
presentation included a summary of what they had found in the 
examination, as well as a mention of the $1 billion in 
unrealized losses the program had incurred to date. OTS did not 
follow up on this issue with the Texas regulators after this 
meeting.
---------------------------------------------------------------------------
    \170\ Texas also informed the other insurance regulators with 
domiciled subsidiaries that participated in the program.
    \171\ Panel staff conversation with Texas Department of Insurance 
(May 24, 2010).
---------------------------------------------------------------------------
    Texas had a plan in place if the program had to be wound 
down quickly, but it was not implemented because of FRBNY's 
rescue. From its height of $76 billion, the securities lending 
portfolio had been wound down to $58 billion by September 2008 
\172\--a significant decrease, though not enough to avoid 
enormous liquidity strains at the height of AIG's troubles. The 
regulators have stated that, had it not been for the ``run'' by 
securities lending counterparties, caused by the public 
liquidity crunch at AIGFP, the insurance subsidiaries would 
have been able to gradually wind down the program without 
significant assistance from the parent.\173\
---------------------------------------------------------------------------
    \172\ Written Testimony of Michael Moriarty, supra note 103, at 4.
    \173\ See Panel staff conversation with Texas Department of 
Insurance (May 24, 2010); Written Testimony of Michael Moriarty, supra 
note 103, at 4-5 (``At that point, the crisis caused by Financial 
Products caused the equivalent of a run on AIG securities lending. 
Borrowers that had reliably rolled over their positions from period to 
period for months began returning the borrowed securities and demanding 
their cash collateral. From September 12 to September 30, borrowers 
demanded the return of about $24 billion in cash.'').
---------------------------------------------------------------------------
    Though supervision of each of the four main insurance 
groups was coordinated, it is not clear that the regulators 
coordinated further to analyze all of the insurance 
subsidiaries on a consolidated basis. Lead regulators evaluated 
the subsidiaries individually as well as each group as a whole. 
While all of AIG's insurance regulators talk regularly about 
issues related to the company, they do not engage in any 
consolidated review of all of the subsidiaries across groups.

                             C. The Rescue


1. Key Events Leading up to the Rescue

    AIG's problems did not arrive out of the blue in mid-
September 2008. More than six months earlier, in February, the 
firm announced that AIGFP had recognized $11.1 billion in 
unrealized market valuation losses on its CDS contracts for the 
fourth quarter of 2007, and that the head of the business would 
resign.\174\ On May 21, AIG raised $20 billion in capital 
through sales of common stock, mandatory convertible stock, and 
hybrid fixed maturity securities.\175\ On June 15, the company 
announced that CEO Martin Sullivan was leaving his post and 
being replaced by Chairman Robert Willumstad.\176\ In late 
June, the company recognized $13.5 billion in unrealized losses 
against its RMBS and other structured securities 
investments.\177\ In July, Mr. Willumstad discussed AIG's 
condition with rating agencies, which said they would wait to 
review the firm's ratings until after AIG announced its 
strategic plans, which was then scheduled for September 
25.\178\ On July 29, Mr. Willumstad spoke to then-President 
Timothy Geithner about the possibility of getting access to the 
Federal Reserve's Discount Window; according to Mr. Willumstad, 
President Geithner expressed the view that if the Federal 
Reserve were to provide liquidity to AIG, it would only 
exacerbate the potential of a run on AIG by its creditors.\179\ 
From mid-July through August 2008, AIG management reviewed 
measures to address the liquidity problems of its securities 
lending portfolio and the collateral calls on AIGFP's 
CDSs.\180\ On August 18, AIG raised $3.25 billion through a 10-
year debt issuance that paid 8.25 percent,\181\ but the company 
felt that it needed more capital. In late August, AIG contacted 
triple-A-rated insurer Berkshire Hathaway about the possibility 
of providing a $5 billion backstop to AIG's guaranteed 
investment contracts.\182\ Around the same time, AIG hired JP 
Morgan Chase to help develop alternatives as the market and the 
company's condition deteriorated rapidly.\183\ But those 
efforts proved insufficient.
---------------------------------------------------------------------------
    \174\ AIG Form 10-K for FY07, supra note 41, at 197; AIG Financial 
Results Conference Call--2007, supra note 78; Allstair Barr and Greg 
Morcroft, AIG Shares Plunge After Company Posts $5.29 Billion Loss, 
MarketWatch (Feb. 29, 2008) (online at www.marketwatch.com/story/aig-
shares-fall-after-loss-troubled-unit-chief-resigns).
    \175\ American International Group, Inc., Credit Exposure to AIG 
(Sept. 16, 2008), Attachment to e-mail from Antonio Moreano of FRBNY to 
others at FRBNY (Sept. 16, 2008) (FRBNYAIG00444).
    \176\ American International Group, Inc., AIG Names Robert B. 
Willumstad Chief Executive Officer (Sept. 15, 2008) (online at 
web.aig.com/2008/mem7755/mem7755NewCEO.pdf).
    \177\ American International Group, Inc., Form 10-Q for the 
Quarterly Period Ended June 30, 2008, at 112 (Aug. 6, 2008) (online at 
www.sec.gov/Archives/edgar/data/5272/000095012308008949/
y59464e10vq.htm) (hereinafter ``AIG Form 10-Q for the Second Quarter 
2008''). This figure includes gross unrealized losses on RMBS ($10 
billion), CMBS ($2 billion) and CDO/ABS ($1.5 billion).
    \178\ Congressional Oversight Panel, Written Testimony of Robert 
Willumstad, former chairman and chief executive officer, American 
International Group, Inc., COP Hearing on TARP and Other Assistance to 
AIG, at 3 (May 26, 2010) (online at cop.senate.gov/documents/testimony-
052610-willumstad.pdf) (hereinafter ``Written Testimony of Robert 
Willumstad'').
    \179\ Congressional Oversight Panel, Testimony of Robert 
Willumstad, former chairman and chief executive officer, American 
International Group, Inc., COP Hearing on TARP and Other Assistance to 
AIG (May 26, 2010) (hereinafter ``Testimony of Robert Willumstad'').
    \180\ AIG Form 10-K for FY08, supra note 47, at 3.
    \181\ AIG Form 10-K for FY08, supra note 47, at 56.
    \182\ Warren Buffett conversation with Panel staff (May 25, 2010).
    \183\ American International Group, Inc. Form 10-K for the Fiscal 
Year Ended December 31, 2008, at 3 (Mar. 2, 2009) (online at sec.gov/
Archives/edgar/data/5272/000095012309003734/y74794e10vk.htm).
---------------------------------------------------------------------------
    AIG's growing problems were unfolding within the broader 
context of the financial crisis. JPMorgan Chase's government-
supported acquisition of Bear Stearns happened on March 24, 
2008, and Bank of America purchased Countrywide Financial Corp. 
on June 5. The financial market deterioration accelerated in 
September. Between September 7-15, the markets reflected a 
level of turmoil unseen for decades. On September 7, the U.S. 
government took control of Fannie Mae and Freddie Mac,\184\ a 
decision that cemented the market's view, already widely held, 
that taxpayers would assume their liabilities if the two 
mortgage giants became imperiled. Three major events shook the 
financial system in the two days prior to FRBNY's bailout of 
AIG. Bank of America announced that it was buying Merrill Lynch 
amid concerns about Merrill's exposure to securities based on 
residential mortgages.\185\ In addition, at midday on September 
16, the assets of a money-market mutual fund that had exposure 
to Lehman fell below $1 per share, a rare occurrence known as 
``breaking the buck,'' which further stoked investors' fears; 
\186\ that week, money-market mutual funds were subjected to 
enormous withdrawals, especially by institutional 
investors.\187\ And finally, as described in more detail below, 
Lehman Brothers filed for bankruptcy,\188\ in what became the 
largest bankruptcy case in U.S. history.\189\
---------------------------------------------------------------------------
    \184\ See U.S. Department of the Treasury, Statement by Secretary 
Henry M. Paulson, Jr. on Treasury and Federal Housing Finance Agency 
Action to Protect Financial Markets and Taxpayers (Sept. 7, 2008) 
(online at www.ustreas.gov/press/releases/hp1129.htm).
    \185\ See Bank of America Corporation, Bank of America Buys Merrill 
Lynch Creating Unique Financial Services Firm (Sept. 15, 2008) (online 
at newsroom.bankofamerica.com/index.php?s=43&item=8255).
    \186\ See The Reserve, Important Notice Regarding Reserve Primary 
Fund's Net Asset Value (Nov. 26, 2008) (online at www.reservefunds.com/
pdfs/Press Release Prim NAV 2008_FINAL_112608.pdf).
    \187\ See Bank for International Settlements, International Banking 
and Financial Developments, BIS Quarterly Review, at 72 (Mar. 2009) 
(online at www.bis.org/publ/qtrpdf/r_qt0903.pdf) (hereinafter 
``International Banking and Financial Developments'').
    \188\ See U.S. Securities and Exchange Commission, Statement 
Regarding Recent Market Events and Lehman Brothers (Sept. 14, 2008) 
(online at www.sec.gov/news/press/2008/2008-197.htm).
    \189\ House Committee on Financial Services, Written Testimony of 
Anton R. Valukas, court-appointed bankruptcy examiner, Lehman Brothers 
Bankruptcy: Public Policy Issues Raised by the Report of the Lehman 
Bankruptcy Examiner, at 2 (Apr. 20, 2010) (online at www.house.gov/
apps/list/hearing/financialsvcs_dem/valuks_4.20.10.pdf).
---------------------------------------------------------------------------
    Various data illustrate the turmoil that racked the 
financial markets in the fall of 2008. The Dow Jones Industrial 
Average fell by about 25 percent between September 9 and 
October 9, from 11,231 to 8,579.\190\ Arguably more important, 
the cost of interbank borrowing soared to historic levels, a 
situation that held the potential to choke off the supply of 
credit in the U.S. economy. The spread between the three-month 
rate at which banks typically lend to each other and the three-
month Treasury bill rate rose from 1.16 percent on September 9 
to 3.02 percent on September 17.\191\ The spread between the 
interest rate for 30-day commercial paper loans, which many 
businesses use to finance their day-to-day operations, and the 
rate for Treasury bonds also skyrocketed.\192\ Figure 14 
includes data that quantify the problems experienced between 
August-November 2008 both by AIG and in the financial markets 
more generally.
---------------------------------------------------------------------------
    \190\ Bloomberg, Dow Jones Industrial Average Chart (online at 
www.bloomberg.com/apps/cbuilder?ticker1=INDU%3AIND) (accessed June 8, 
2010).
    \191\ Bloomberg, TED Spread Chart (online at www.bloomberg.com/
apps/cbuilder?ticker1=.TEDSP%3AIND) (accessed June 8, 2010).
    \192\ See Board of Governors of the Federal Reserve System, 
Commercial Paper Rates and Outstanding (online at 
www.federalreserve.gov/releases/cp/) (accessed June 8, 2010); Board of 
Governors of the Federal Reserve System, Market Yield on U.S. Treasury 
Securities at 1-month Constant Maturity, Quoted on Investment Basis 
(online at www.federalreserve.gov/releases/h15/data/Business_day/
H15_TCMNOM_M1.txt) (accessed June 8, 2010).

                              FIGURE 14: INDICATORS OF FINANCIAL MARKET UPHEAVAL193
----------------------------------------------------------------------------------------------------------------
                                                             3-Month
                               TED Spread      3-Month      Treasury      AIG Stock     Dow Jones      AIG CDS
                                  (bps)       LIBOR-OIS    Bond Yield     Price ($)    Industrial   Spread (bps)
                                            Spread (bps)       (%)                       Average
----------------------------------------------------------------------------------------------------------------
August 15, 2008.............            96            77          1.85         459.8      11,659.9         300.7
September 15, 2008..........           180           105          1.02          95.2      10,917.5       1,527.6
October 15, 2008............           433           345          0.22          48.6       8,577.9       1,816.9
November 7, 2008............           198           176          0.31          42.2       8,943.8      2,923.9
----------------------------------------------------------------------------------------------------------------
193 SNL Financial.

    In early September, AIG met with the major rating agencies 
about the company's liquidity problems.\194\ On Tuesday, 
September 9, Mr. Willumstad again spoke with President 
Geithner. Mr. Willumstad noted AIG's widening credit spreads 
and multi-billion-dollar losses in recent quarters, and stated 
that he expected further losses.\195\ Then on Friday, September 
12, the company's deterioration accelerated. S&P placed AIG on 
a watch status with negative implications, and noted that its 
review of the company could lead to a lower rating of up to 
three notches. Two financial services subsidiaries of AIG were 
unable to replace all of their maturing commercial paper, and 
AIG's parent company advanced loans to them so that they could 
meet their obligations.\196\ Also on Friday, Mr. Willumstad 
called Warren Buffett, CEO of Berkshire Hathaway, to discuss a 
possible investment in AIG. Later in the day, Mr. Buffett 
received a packet of materials about AIG's property & casualty 
insurance business, which AIG was interested in selling to 
Berkshire Hathaway. But Mr. Buffett quickly concluded that the 
assets for sale were not attractive enough, and he would have 
had trouble raising the $25 billion that AIG would have needed 
to receive for its property & casualty business.\197\
---------------------------------------------------------------------------
    \194\ House Committee on Oversight and Government Reform, Written 
Testimony of Robert B. Willumstad, former chief executive officer, 
American International Group, Inc., The Causes and Effects of the AIG 
Bailout, at 3-4 (Oct. 7, 2008) (online at oversight.house.gov/images/
stories/documents/20081007101054.pdf); AIG Form 10-K for FY08, supra 
note 47, at 3-4. AIG's meeting with Standard & Poor's happened on Sept. 
11, 2008.
    \195\ Testimony of Robert Willumstad, supra note 179.
    \196\ The two subsidiaries were International Lease Finance 
Corporation (ILFC) and American General Finance (AGF). AIG Form 10-K 
for FY08, supra note 47, at 4.
    \197\ Warren Buffett conversation with Panel staff (May 25, 2010).
---------------------------------------------------------------------------
    After the markets closed on Friday, an e-mail by an FRBNY 
employee stated that hedge funds were panicking about AIG. 
``Every bank and dealer has exposure to them,'' read the e-
mail, which was sent to William Dudley, then executive vice 
president of FRBNY's Markets Group and currently FRBNY's 
president, among others. ``People I heard from worry they can't 
roll over their funding. . . . Estimate I hear is 2 trillion 
balance sheet.'' \198\ That same evening, officials from FRBNY 
and the Federal Reserve Board of Governors met with AIG senior 
executives. At this meeting, AIG stated that it had $8 billion 
cash in its holding company and enough liquidity to last for 
the next two weeks. AIG estimated that it might have to pay out 
$18.6 billion over the next week if, as expected, its ratings 
were downgraded the following week.\199\ Also Friday, AIG 
informed Treasury and the New York state insurance regulators 
of its severe liquidity problems, principally due to increasing 
demands to return cash collateral under its securities lending 
program and collateral calls on AIGFP's CDS portfolio.\200\ AIG 
found itself unable to obtain short-term or long-term financing 
in the public debt markets. This, coupled with its inability to 
roll over commercial paper coming due, posed the most 
significant immediate threat to the company's solvency.\201\
---------------------------------------------------------------------------
    \198\ E-mail from Hayley Boesky, vice president, Federal Reserve 
Bank of New York, to William Dudley, executive vice president, Federal 
Reserve Bank of New York, and other Federal Reserve Bank of New York 
officials (Sept, 12, 2008) (FRBNYAIG00511).
    \199\ E-mail from Alejandro LaTorre, vice president, Federal 
Reserve Bank of New York, to Timothy F. Geithner, president, Federal 
Reserve Bank of New York, and other Federal Reserve Bank of New York 
officials (Sept. 12, 2008) (FRBNYAIG00509).
    \200\ See GAO Report, supra note 18, at 11-15; Testimony of Sec. 
Geithner, supra note 11, at 3; AIG Form 10-K for FY08, supra note 47, 
at 40.
    \201\  AIG Form 10-K for FY08, supra note 47, at 201.
---------------------------------------------------------------------------
    At the same time as AIG's collapse, Lehman Brothers was 
also on the verge of bankruptcy. On Friday, President Geithner 
called together representatives of 12 major financial 
institutions to participate in discussions regarding a private-
sector consortium rescue for Lehman. The financial institutions 
committed to financing $40 billion of Lehman's real estate 
assets in order to facilitate Lehman's acquisition by Barclays; 
those efforts would soon unravel, though.\202\
---------------------------------------------------------------------------
    \202\ FRBNY conversation with the Panel (May 11, 2010).
---------------------------------------------------------------------------
    While top government officials were continuing to deal with 
the problems facing Lehman Brothers and Merrill Lynch, teams 
from FRBNY and the New York State Insurance Department worked 
Saturday to determine how a failure of AIG would affect the 
financial system and the broader economy, and examined their 
options for containing the damage from an AIG failure.\203\ The 
Governor of New York, David Paterson, and the State Insurance 
Department considered allowing AIG to tap $20 billion from its 
insurance subsidiaries, as part of an emergency plan devised by 
AIG. (The following Monday, Governor Paterson announced 
publicly that the authorities would allow this transaction, 
though it did not actually happen in the end.) \204\
---------------------------------------------------------------------------
    \203\ Testimony of Sec. Geithner, supra note 11, at 4-5.
    \204\ David A. Paterson, governor, State of New York, Governor 
Paterson Announces New York Will Facilitate Financing Plan for World's 
Largest Insurance Provider (Sept. 15, 2008) (online at www.state.ny.us/
governor/press/press_0915082.html). See also e-mail from Patricia 
Mosser, senior vice president, Federal Reserve Bank of New York, to 
Scott Alvarez of Federal Reserve Board of Governors, among others 
(Sept. 13, 2008) (FRBNYAIG00508).
---------------------------------------------------------------------------
    At 11 a.m. Saturday, Federal Reserve officials held a call 
with AIG CEO Willumstad and CFO Steven Bensinger, among others, 
during which AIG said it had a plan over the next six to 12 
months to sell approximately $40 billion in assets, including 
domestic and foreign life insurance subsidiaries; these assets 
equaled 35-40 percent of the company. AIG said that in addition 
to the aforementioned assistance from the New York State 
Insurance Department, it needed bridge financing, and was 
interested in tapping Federal Reserve lending facilities. 
Federal Reserve officials got the impression that AIG had not 
approached private financial institutions about obtaining this 
financing, likely because AIG believed that it would be turned 
down. This phone call also included a discussion of the Federal 
Reserve's emergency lending authority under Section 13(3) of 
the Federal Reserve Act. The Federal Reserve officials stated 
that 13(3) lending to AIG would send a negative signal to the 
market, and told AIG that they ``should not be particularly 
optimistic,'' given the history and hurdles of 13(3) 
lending.\205\
---------------------------------------------------------------------------
    \205\ E-mail from Patricia Mosser, senior vice president, Federal 
Reserve Bank of New York, to Scott Alvarez of Federal Reserve Board of 
Governors, among others (Sept. 13, 2008) (FRBNYAIG00508). For a 
discussion of the Federal Reserve authority under 13(3), see Section 
C.4.
---------------------------------------------------------------------------
    During that weekend, a small number of private equity firms 
submitted bids to acquire a controlling interest in AIG.\206\ 
JC Flowers & Co. LLC, a private equity firm in New York, made 
two different efforts. Its first overture involved a plan to 
combine private equity with asset sales, along with the 
upstreaming of assets, as contemplated by the New York State 
Insurance Department, from AIG's insurance subsidiaries to the 
parent company. This plan also relied on a backstop of AIG 
guaranteed investment contracts by Berkshire Hathaway; AIG 
contacted Mr. Buffett about the idea, but it never came to 
fruition.\207\ The second attempt jointly offered private 
equity from JC Flowers and German insurance firm Allianz SE. 
The latter plan, which was regarded by some senior officials at 
the FRBNY as a ``takeover offer,'' called for AIG to more than 
double its outstanding shares and was contingent on AIG gaining 
access to the Federal Reserve's lending facilities.\208\ A 
later account provided in former Treasury Secretary Henry M 
Paulson Jr.'s book, ``On The Brink,'' characterized the offers 
as an attempt by Flowers to ``buy pieces of AIG on the cheap. . 
.'' \209\ The buyout firms Kohlberg Kravis Roberts & Co. and 
TPG Capital also expressed interest in acquiring at least some 
portion of AIG, according to news reports at the time.\210\ For 
its own part, AIG was also still trying to renegotiate the 
terms of its most burdensome financial instruments. In addition 
to its talks with private equity firms, AIG's efforts to raise 
capital and otherwise improve its liquidity position included 
conversations with sovereign wealth funds, and the retention of 
Blackstone Advisory Services LP to assist in these 
efforts.\211\
---------------------------------------------------------------------------
    \206\ AIG got assistance during this process from investment 
banking advisors JPMorgan Chase and Citigroup. Testimony of Robert 
Willumstad, supra note 179.
    \207\ E-mail from Patricia Mosser, senior vice president, FRBNY, to 
others at FRBNY and the Federal Reserve Board (Sept. 14, 2008) 
(FRBNYAIG00495); Warren Buffett conversation with Panel staff (May 25, 
2010).
    \208\ E-mail from Patricia Mosser, senior vice president, FRBNY, to 
others at FRBNY and the Federal Reserve Board (Sept. 14, 2008) 
(FRBNYAIG00495).
    \209\ Henry M. Paulson, Jr., On The Brink, at 200, 217 (2010) 
(hereinafter ``On The Brink''). Of course, given AIG's precarious 
condition at the time, it is neither surprising nor unusual that some 
market participants sought to take advantage by offering to buy assets 
at a discount.
    \210\ Andrew Ross Sorkin et al., AIG Seeks $40 billion in Fed Aid 
to Survive, New York Times Dealbook Blog (Sept. 14, 2008) (online at 
dealbook.blogs.nytimes.com/2008/09/14/aig-seeks-fed-aid-to-survive/).
    \211\ AIG Form 10-K for FY08, supra note 47, at 4.
---------------------------------------------------------------------------
    Between Friday, September 12 and the evening of Saturday, 
September 13, AIG's own estimate of the size of the hole in its 
balance sheet rose from $20 billion to $40 billion.\212\ 
Saturday evening, Mr. Willumstad told Secretary Paulson and 
President Geithner that he believed AIG could probably raise 
$30 billion that weekend,\213\ but only if the potential 
investors and the New York State Insurance Department received 
assurances that the company would survive after it got the $30 
billion. Mr. Willumstad believed that the Federal Reserve was 
the only entity that could provide such an assurance. But Mr. 
Willumstad says he was told that there would be no government 
solution for AIG.\214\
---------------------------------------------------------------------------
    \212\ Testimony of Robert Willumstad, supra note 179.
    \213\ Testimony of Robert Willumstad, supra note 179.
    \214\ Testimony of Robert Willumstad, supra note 179. For a 
discussion of whether a hybrid public-private solution would have been 
feasible, see Section F.1, infra.
---------------------------------------------------------------------------
    Throughout the weekend of September 13-14, representatives 
of large financial institutions were meeting at FRBNY regarding 
the potential rescue of Lehman Brothers. Two of the CEOs on 
hand provided assurances to FRBNY officials that there would be 
a private-sector solution for AIG, according to recent 
testimony before the Panel by a senior FRBNY official.\215\ And 
right up until FRBNY stepped in to rescue AIG, senior 
government officials remained hopeful that the private sector 
would produce an alternative solution resembling the bailout of 
Long-Term Capital Management ten years earlier.\216\ The LTCM 
bailout was seen as a model because the government did not 
provide assistance, and the firms that did provide emergency 
credit were repaid with interest.\217\
---------------------------------------------------------------------------
    \215\ Congressional Oversight Panel, Testimony of Thomas C. Baxter, 
Jr., general counsel and executive vice president of the legal group, 
Federal Reserve Bank of New York, COP Hearing on TARP and Other 
Assistance to AIG (May 26, 2010) (hereinafter ``Testimony of Thomas C. 
Baxter'').
    \216\ FRBNY conversation with the Panel (May 11, 2010).
    \217\ House Committee on Banking and Financial Services, Written 
Testimony of Alan Greenspan, chairman, Board of Governors of the 
Federal Reserve System, Private-Sector Refinancing of the Large Hedge 
Fund: Long-Term Capital Management, 105th Cong. (Oct. 1, 1998) (online 
at www.federalreserve.gov/boarddocs/testimony/19981001.htm) 
(hereinafter ``Written Testimony of Alan Greenspan''); FRBNY 
conversation with the Panel (May 11, 2010).
---------------------------------------------------------------------------
    By Sunday morning, FRBNY staffers were preparing to brief 
President Geithner on the pros and cons of providing AIG access 
to the Federal Reserve's Discount Window.\218\ Later that 
afternoon, President Geithner received from his staff a 
spreadsheet showing which banks had the largest estimated 
exposure to AIG, as well as an FRBNY presentation about the 
strength of AIG's subsidiaries, and a two-page memo laying out 
the pros and cons of lending to AIG.\219\ At 5 p.m. Sunday, Mr. 
Willumstad, after having been summoned to FRBNY notified 
Secretary Paulson and President Geithner that AIG had failed to 
raise any capital, and that the hole in the firm's balance 
sheet had grown again.\220\ Mr. Willumstad's latest plan was 
for the Federal Reserve to provide a $40 billion bridge loan, 
to be accompanied by $10 billion that AIG thought it could 
generate from unencumbered securities. President Geithner again 
said that the government was not going to lend, and that Mr. 
Willumstad should seek a bridge loan from a consortium of 
private lenders.\221\
---------------------------------------------------------------------------
    \218\ E-mail from Paul Whynott, Federal Reserve Bank of New York, 
to Sarah Dahlgren, Brian Peters, Jim Mahoney, Catherine Voigts, and 
Christopher Calabria (Sept. 14, 2008) (FRBNYAIG00459-460).
    \219\ Pros and Cons on AIG Lending, E-mail and attachments from 
Alejandro LaTorre, assistant vice president, Federal Reserve Bank of 
New York (Sept. 14, 2008) (FRBNYAIG00496-505).
    \220\ Mr. Willumstad testified that the balance sheet hole was $60 
billion by Sunday night. Secretary Paulson, in his book, put the figure 
at $50 billion. See Testimony of Robert Willumstad, supra note 179; On 
The Brink, supra note 209.
    \221\ On The Brink, supra note 209, at 217-218.
---------------------------------------------------------------------------
    In a recent interview with the Panel, Secretary Geithner 
said that on Sunday night, he got government officials to start 
thinking about the implications of an AIG failure both on U.S. 
insurance subsidiaries and around the world.\222\ Nonetheless, 
Secretary Geithner has stated that as late as that night, ``it 
still seemed inconceivable that the Federal Reserve could or 
should play any role in preventing AIG's collapse.'' \223\ Also 
Sunday evening, government officials contacted Morgan Stanley 
about serving as an adviser to the government in another effort 
to effect a private-sector rescue of AIG.\224\ Government 
officials also summoned JPMorgan Chase for a meeting; AIG asked 
to be included in the talks, but the firm received word that it 
was not invited.\225\
---------------------------------------------------------------------------
    \222\ Panel conversation with Secretary Geithner (June 2, 2010).
    \223\ Testimony of Sec. Geithner, supra note 11, at 4; Panel 
conversation with Secretary Geithner (June 2, 2010).
    \224\ Rescue Effort Participant conversation with Panel staff (May 
24, 2010).
    \225\ Testimony of Robert Willumstad, supra note 179. Mr. Geithner 
says that on Sunday night he wanted a more organized effort by AIG's 
advisors to approach potential investors, including institutions that 
had an interest in AIG's survival, even though the probability of 
success in such an effort was low. Panel conversation with Secretary 
Geithner (June 2, 2010).
---------------------------------------------------------------------------
    Shortly after midnight on the morning of Monday, September 
15, Lehman Brothers announced that it was filing for 
bankruptcy.\226\ Only at this point did the focus of top 
government officials turn to AIG. President Geithner called 
Lloyd Blankfein, Goldman Sachs' CEO, and asked him to convene a 
team to work on a private-sector rescue.\227\ Around 11 a.m., 
representatives from JPMorgan Chase and Goldman Sachs--along 
with representatives from AIG, the New York State Insurance 
Department, Treasury, and Morgan Stanley, which was acting in 
its new capacity as an adviser to the government--convened for 
a meeting at FRBNY.\228\ Government officials hoped that these 
banks, by syndicating a multi-billion dollar loan with other 
large financial institutions, would be able to provide the 
private-sector bailout that AIG had been unable to organize 
over the weekend.\229\ President Geithner spoke at the 
beginning of the meeting, and according to the accounts of 
several people who were there, he either strongly downplayed or 
ruled out the possibility of a government rescue of AIG.\230\ 
Then he left. Secretary Paulson, after spending the weekend in 
New York dealing with Merrill Lynch and Lehman Brothers, had 
returned to Washington by Monday morning and was not in 
attendance.\231\ According to one person who was in the room, 
the meeting that ensued was largely run by JPMorgan Chase and 
Goldman Sachs, though representatives of FRBNY and Treasury 
were also present.\232\
---------------------------------------------------------------------------
    \226\ See Lehman Brothers, Press Release: Lehman Brothers Announces 
it Intends to File Chapter 11 Bankruptcy Petition (Sept. 15, 2008) 
(online at www.lehman.com/press/pdf_2008/
091508_lbhi_chapter11_announce.pdf). See also Lehman Brothers Holdings 
Inc., Voluntary Petition, United States Bankruptcy Court, Southern 
District of New York (Sept. 14, 2008) (online at 
www.bankruptcylitigationblog.com/uploads/file/voluntary petition.pdf).
    \227\ Rescue Effort Participant conversation with Panel staff (June 
2, 2010); Panel conversation with Secretary Geithner (June 2, 2010).
    \228\ See Federal Reserve Bank of New York, Visitors List (Sept. 
15, 2008) (FRBNYAIG00488).
    \229\ In an e-mail circulated sent to FRBNY staff that morning, 
Brian Peters of FRBNY noted that FRBNY had no supervisory authority 
over AIG and stated: ``As a result, we need to be clear that we are NOT 
holding ourselves out as responsible when we deal with firms and other 
supervisors. . . . We also believe that the private sector is and 
should be actively working on a resolution, and that based on our 
earlier dimensioning work that AIG has options (albeit unpleasant) to 
solve this themselves.'' AIG: Important, E-mail from Brian Peters, 
senior vice president, risk management function, Federal Reserve Bank 
of New York (Sept. 15, 2008) (FRBNYAIG 00491-492).
    \230\ One participant recalls Geithner saying that the banks should 
not assume that the Federal Reserve would bail out AIG, so the private 
sector needed to find the solution; others remember Geithner saying 
that he wanted the banks to explore a private solution given that 
government money was not going to be available. Morgan Stanley 
conversation with Panel staff (May 24, 2010); GS conversation with 
Panel staff (June 2, 2010).
    \231\ On The Brink, supra note 209.
    \232\ Morgan Stanley conversation with Panel staff (May 24, 2010). 
Mr. Willumstad testified that the meeting ended around 12:30 or 1 p.m., 
and that he did not believe at that time that a loan syndicate to 
rescue AIG was being put together. Testimony of Robert Willumstad, 
supra note 179.
---------------------------------------------------------------------------
    The assembled bankers later proceeded to AIG's 
headquarters, where they received additional information about 
the firm's liquidity position and the value of its 
businesses.\233\ Later in the day, the group returned to FRBNY. 
The atmosphere throughout the day was described by one banker 
in attendance as highly frenetic, with various participants 
taking part in numerous side meetings and conversations.\234\ 
It is not clear exactly when, but at some point, the private-
sector banks developed a $75 billion term sheet for an AIG 
rescue. The idea was that the private-sector lending would 
serve as a bridge loan until AIG could sell enough assets to 
stabilize itself.\235\ Although AIG has stated that Goldman 
Sachs and JPMorgan Chase made efforts on Monday to syndicate 
the loan,\236\ it is not clear what other firms they contacted, 
or whether their efforts met with any success.
---------------------------------------------------------------------------
    \233\ Rescue Effort Participant conversation with Panel staff (May 
24, 2010).
    \234\ Rescue Effort Participant conversation with Panel staff (May 
24, 2010).
    \235\ See AIG Form 10-K for FY08, supra note 47, at 4. FRBNY's 
visitors list from Sept. 15, 2008, also shows that representatives of 
Morgan Stanley, the law firm Sullivan & Cromwell, the New York 
Insurance Department, and Treasury were at FRBNY that morning. Federal 
Reserve Bank of New York Visitors List, September 15, 2008, Attachment 
to e-mail sent by Campbell Cole of FRBNY (Sept. 15, 2008) 
(FRBNYAIG00487-488).
    \236\ AIG Form 10-K for FY08, supra note 47, at 4.
---------------------------------------------------------------------------
    At a press conference Monday afternoon at the White House, 
Secretary Paulson was asked if the Federal Reserve was going to 
provide a bridge loan to AIG, and he responded by saying that 
``what is going on right now in New York has nothing to do with 
any bridge loan from the government. What's going on in New 
York is a private-sector effort . . . '' \237\ AIG's problems 
were compounded further Monday afternoon, when three major 
rating agencies, Fitch Ratings, Moody's Investors Service, and 
Standard & Poor's, all downgraded AIG's credit ratings, 
triggering $20 billion in collateral calls and transaction 
termination payments.\238\ Moody's attributed its decision to 
the impact on AIG's ``liquidity and capital position'' of the 
``continuing deterioration in the U.S. housing market.'' It 
also signaled that ``further downgrades . . . are likely if the 
immediate liquidity and capital concerns are not fully 
addressed.'' \239\ At this point, AIG's ability to meet 
collateral demands, already severely strained by the sharp 
decline in mortgage-linked asset values, was being exhausted in 
the wake of the Lehman bankruptcy and the subsequent rating 
downgrades of AIG. On Monday alone, AIG made payments of $5.2 
billion to its securities lending counterparties.\240\
---------------------------------------------------------------------------
    \237\ The White House, Press Briefing by Dana Perino and Secretary 
of the Treasury Henry Paulson (Sept. 15, 2008) (online at georgewbush-
whitehouse.archives.gov/news/releases/2008/09/20080915-8.html).
    \238\ Testimony of Sec. Geithner, supra note 11, at 6; AIG Form 10-
K for FY08, supra note 47, at 4.
    \239\ Standard & Poor's Ratings Services, Research Update: American 
International Group Inc. Ratings Placed on CreditWatch with Negative 
Implications (Sept. 12, 2008); Standard & Poor's Ratings Services, 
Research Update: American International Group Ratings Lowered and Kept 
on CreditWatch Negative (Sept. 15, 2008); Moody's Investors Service, 
Rating Action: Moody's Downgrades AIG (senior to A2); LT and ST Ratings 
Under Review (Sept. 15, 2008) (online at www.wgains.com/assets/
attachments/MoodysPressRelease.pdf).
    \240\ AIG Form 10-K for FY08, supra note 47, at 4.
---------------------------------------------------------------------------
    Just after 7 p.m. Monday, bankers from Goldman Sachs, 
JPMorgan Chase and Morgan Stanley, along with representatives 
from AIG, Treasury, and the New York State Insurance 
Department, reconvened for another meeting at FRBNY.\241\ There 
was a sense among the bankers assembled that AIG's problems 
were too big for the private-sector banks, especially within a 
limited timeframe created by AIG's swift descent and the 
prevailing economic conditions.\242\ Secretary Geithner says 
that by late Monday, he knew that the private-sector talks had 
failed, even though FRBNY did not get formal notification until 
early Tuesday morning; \243\ Secretary Geithner says that he 
never thought the private-sector talks had a high probability 
of success.\244\
---------------------------------------------------------------------------
    \241\ Federal Reserve Bank of New York, Visitors List, September 
15, 2008, 7:05 pm EST.
    \242\ Rescue Effort Participant conversation with Panel staff (May 
24, 2010).
    \243\ Testimony of Thomas C. Baxter, supra note 215.
    \244\ Panel conversation with Secretary Geithner (June 2, 2010).
---------------------------------------------------------------------------
    Government officials have given two reasons as to why the 
private-sector rescue effort collapsed.\245\ One was that the 
banks could not establish with any precision what AIG's 
liquidity needs were.\246\ The other reason was that after the 
Lehman bankruptcy, the combination of AIG's rising liquidity 
needs and increased concern about capital preservation by large 
financial institutions caused them to pull back on their 
willingness to participate.\247\
---------------------------------------------------------------------------
    \245\ Donald L. Kohn, vice chairman of the Board of Governors of 
the Federal Reserve System, offered the following testimony in 2009: 
``The private sector worked through the weekend of September 13-14 to 
find a way for private firms to address AIG's mounting liquidity 
strains. But that effort was unsuccessful in a deteriorating economic 
and financial environment in which firms were not willing to expose 
themselves to risks. . . .'' Senate Committee on Banking, Housing, and 
Urban Affairs, Written Testimony of Donald L. Kohn, vice chairman, 
Board of Governors of the Federal Reserve System, American 
International Group: Examining What Went Wrong, Government 
Intervention, and Implications for Future Regulation, at 4 (Mar. 5, 
2009) (online at banking.senate.gov/public/
index.cfm?FuseAction=Files.View&FileStore_id=aa8bcdf2-f42b-4a60-b6f6-
cdb045ce8141) (hereinafter ``Testimony of Donald Kohn'').
    \246\ Panel conversation with FRBNY staff (Apr. 12, 2010). One bank 
that participated in the private-sector rescue effort told the Panel 
that the banks also concluded that AIG did not have adequate collateral 
to support the necessary loan. Panel conversation with Rescue Effort 
Participants. In connection with the September 15 private-sector rescue 
effort, SIGTARP states that ``an analysis of AIG's financial condition 
revealed that liquidity needs exceeded the valuation of the company's 
assets, thus making the private participants unwilling to fund the 
transaction.'' SIGTARP goes on to state: ``FRBNY officials told SIGTARP 
that, in their view, the private participants declined to provide 
funding not because AIG's assets were insufficient to meet its needs, 
but because AIG's liquidity needs quickly mounted in the wake of the 
Lehman bankruptcy and the other major banks decided they needed to 
conserve capital to deal with adverse market conditions.'' Office of 
the Special Inspector General for the Troubled Asset Relief Program, 
Factors Affecting Efforts to Limit Payments to AIG Counterparties, at 8 
(Nov. 17, 2009) (online at sigtarp.gov/reports/audit/2009/
Factors_Affecting_Efforts_to_Limit_Payments_to_AIG_Counterparties.pdf) 
(hereinafter ``SIGTARP Report on AIG Counterparties'').
    \247\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010). More specifically, FRBNY states that in the wake of Lehman 
Brothers' bankruptcy, JPMorgan Chase was lending $40 billion-$60 
billion per night to keep Lehman's broker-dealer afloat. Panel 
conversation with FRBNY staff (Apr. 12, 2010).
---------------------------------------------------------------------------
    Whatever the reasons, the private sector rescue effort fell 
apart. Instead, the term sheet that the banks had developed 
became the template for the AIG rescue package that FRBNY 
proceeded to put together later on Tuesday.

2. The Rescue Itself

    On Tuesday, September 16, AIG was poised to fail. That 
morning, the two AIG subsidiaries that the previous week had 
lost access to the commercial paper market drew down a combined 
$11.1 billion from their revolving credit facilities with the 
parent company.\248\ Between September 2 and 15, AIG's stock 
price had fallen by 79 percent.\249\ The cost of a CDS that 
provided $1 million of protection against an AIG default within 
five years had risen by more than 900 percent, from around 
$37,000 on September 1 to around $350,000 on September 16.\250\
---------------------------------------------------------------------------
    \248\ AIG Form 10-K for FY08, supra note 47, at 4.
    \249\ Bloomberg, American International Group Inc. Stock Price 
Chart (online at www.bloomberg.com/apps/cbuilder?ticker1=AIG%3AUS) 
(accessed June 8, 2010).
    \250\ Bloomberg data.
---------------------------------------------------------------------------
    Early that morning, FRBNY staff e-mailed a staff proposal 
to President Geithner that would have allowed AIG's parent 
company to fail while having the government reinsure 
approximately $38 billion in AIG stable value wrap contracts, 
which provide a layer of security around the value of workers' 
pension funds. The staff proposal stated that an act of 
Congress would be necessary to implement the idea.\251\ Also in 
the early morning hours of Tuesday, President Geithner received 
an FRBNY memo stating that an AIG failure could be more 
systemic than Lehman's failure, in part because of AIG's retail 
businesses. The memo went on to discuss how an AIG bankruptcy 
might unfold; it reflected FRBNY's uncertainty about the health 
of AIG's insurance subsidiaries, and noted various potential 
negative consequences that an AIG bankruptcy could have on the 
financial system.\252\
---------------------------------------------------------------------------
    \251\ Proposal to Insulate Retail Impact of AIGFP Failure, e-mail 
from Alejandro LaTorre, vice president, Federal Reserve Bank of New 
York, to Timothy F. Geithner, president, Federal Reserve Bank of New 
York (Sept. 16, 2008) (FRBNYAIG00474-478) (hereinafter ``Proposal to 
Insulate Retail Impact of AIGFP Failure'').
    \252\ Systemic Impact of AIG Bankruptcy, Attachment to e-mail from 
Alejandro LaTorre of FRBNY to FRBNY President Geithner (Sept. 16, 2008) 
(FRBNYAIG00483-486). The memo, sent to Mr. Geithner at 3:16 a.m., 
states that AIG's derivatives book was more complex than Lehman 
Brothers'; that an AIG bankruptcy would be a bigger surprise than 
Lehman's; and that it would occur on the back of the Lehman bankruptcy, 
among other negative aspects of an AIG failure.
---------------------------------------------------------------------------
    Later Tuesday morning, representatives from Goldman Sachs 
and JPMorgan Chase took part in a final meeting at FRBNY 
regarding AIG. FRBNY officials' recollection is that JPMorgan 
Chase said they were bowing out of the rescue talks and were 
not going to listen to any further discussion.\253\ FRBNY 
officials have said they concluded that continuing to seek a 
private-sector solution was futile.\254\ The Panel found no 
evidence that FRBNY officials, following the previous night's 
failure, made any further effort with respect to the private-
sector rescue effort.
---------------------------------------------------------------------------
    \253\ FRBNY conversation with the Panel (May 11, 2010). Thomas 
Baxter, FRBNY's executive vice president and general counsel, told the 
Panel that he believes Marshall Huebner, the Davis Polk & Wardwell 
lawyer who was then representing the private-sector banking consortium, 
delivered the news. Testimony of Thomas C. Baxter, supra note 215.
    \254\ FRBNY conversation with the Panel (May 11, 2010).
---------------------------------------------------------------------------
    Also on Tuesday morning, President Geithner participated in 
a conference call about AIG with Secretary Paulson and Chairman 
Bernanke. According to Thomas Baxter Jr., FRBNY's general 
counsel, who also participated in the call, the government 
officials faced ``a binary choice to either let AIG file for 
bankruptcy or to provide it with liquidity.'' \255\ A similar 
situation had occurred with Lehman just one day before, and in 
that case the government officials had chosen bankruptcy. 
During this call, according to Mr. Baxter, the decision was 
made that the consequences of a bankruptcy were far worse than 
those that would come from providing liquidity to AIG.\256\ The 
decision would not be finalized, though, until the Federal 
Reserve Board authorized the loan under its emergency authority 
in Section 13(3) of the Federal Reserve Act.
---------------------------------------------------------------------------
    \255\ Congressional Oversight Panel, Joint Written Testimony of 
Thomas C. Baxter, Jr., general counsel and executive vice president of 
the legal group, and Sarah Dahlgren, executive vice president of 
special investments management and AIG monitoring, Federal Reserve Bank 
of New York, COP Hearing on TARP and Other Assistance to AIG, at 3 (May 
26, 2010) (online at cop.senate.gov/documents/testimony-052610-
baxter.pdf) (hereinafter ``Joint Written Testimony of Thomas C. Baxter 
and Sarah Dahlgren''). For the Panel's analysis of this assertion, see 
Section F.1, supra.
    \256\ FRBNY conversation with the Panel (May 11, 2010).
---------------------------------------------------------------------------
    In order for the Federal Reserve to use its 13(3) 
authority, AIG needed to come up with sufficient collateral to 
allow the Federal Reserve to lend on a secured basis. (The law 
required that the Federal Reserve be secured to its 
satisfaction.) That afternoon, FRBNY security personnel went to 
AIG's headquarters at 80 Pine Street in lower Manhattan, and, 
after collecting stock certificates representing billions of 
dollars worth of AIG's equity stakes in its insurance 
subsidiaries, walked back to FRBNY.\257\ It is not clear 
exactly when the Federal Reserve Board voted to authorize 
lending to AIG, but it appears to have happened before 3:30 
p.m., when FRBNY sent AIG the terms of a secured lending 
agreement that it was prepared to provide. In Washington, 
meanwhile, Secretary Paulson and Chairman Bernanke briefed the 
President and the President's Working Group on Financial 
Markets, as well as congressional leadership, about the rescue 
plan that FRBNY was developing. Also that afternoon, the head 
of bank supervision at FRBNY held a conference call with 
foreign banking and insurance supervisors to send a message 
that FRBNY was providing liquidity to AIG.\258\
---------------------------------------------------------------------------
    \257\ FRBNY conversation with the Panel (May 11, 2010). As part of 
the final Guarantee and Pledge Agreement associated with the creation 
of the Revolving Credit Facility (RCF) and executed on September 22, 
2008, AIG pledged a portion of its equity interest in the following 
subsidiary companies: AIG BG Holdings, Inc. (1,000 shares), AIG Capital 
Corporation (10,000 shares), AIG Federal Savings Banks (1,000 shares), 
AIG Retirement Services (100 shares), AIG Trading Group (4,000 shares 
and 1,192 shares of non-cumulative preferred stock), American 
International Underwriters Overseas, Ltd. (20,000,000 shares), American 
Life Insurance Company (300,000 shares), Transatlantic Holdings, Inc. 
(17,073,690 shares), and an uncertified number of shares in AIG Life 
Holdings (International) LLC, AIG Castle Holdings LLC, and AIG Castle 
Holdings II LLC. Furthermore, AIG pledged $1.16 billion in financial 
instruments as collateral. Finally, AIG pledged 64 financial agreements 
held by the parent and certain subsidiaries: International Lease 
Finance Company ($35.6 billion), American General Finance, Inc. ($2.6 
billion), American General Finance Corporation ($4.1 billion), and 
American International Group, Inc. ($63.6 billion). American 
International Group, Inc., Form 8-K, Agreement Executed September 22, 
2008, at 193 (Sept. 26, 2008) (online at www.sec.gov/Archives/edgar/
data/5272/000095012308011496/y71452e8vk.htm).
    \258\ FRBNY officials say that prior to the Federal Reserve's 
exercise of authority under Section 13(3), they did not have any 
conversation with European banking supervisors about the consequences 
an AIG bankruptcy could have on European banks. FRBNY conversation with 
the Panel (May 11, 2010).
---------------------------------------------------------------------------
    The FRBNY offer was for an $85 billion credit facility, on 
the same terms put together the previous day by the private-
sector banks; \259\ FRBNY simply took the private-sector's $75 
billion term sheet and added $10 billion as a cushion.\260\ In 
mere days, the estimated cost of saving AIG had risen from $20 
billion to $85 billion. Mr. Willumstad learned of the 
government's offer Tuesday afternoon, and was told that it was 
non-negotiable. Secretary Paulson told Mr. Willumstad that as 
part of the agreement, he would have to resign as AIG's CEO. 
AIG's Board of Directors met over the next few hours and agreed 
to the government's proposal that evening.\261\
---------------------------------------------------------------------------
    \259\ Initially, the facility had a two-year term, and interest 
accrued on the outstanding balance at a rate of the 3-month London 
Interbank Offer Rate (LIBOR) plus 850 basis points. The loan is 
collateralized by all the assets of AIG and of its primary non-
regulated subsidiaries (including the stock of substantially all of the 
regulated subsidiaries).
    \260\ FRBNY says this cushion was added in anticipation of looming 
liquidity concerns, and because the Federal Reserve did not want to 
have to increase the line of credit at a later date. FRBNY conversation 
with the Panel (May 11, 2010).
    \261\ Written Testimony of Robert Willumstad, supra note 178, at 5.
---------------------------------------------------------------------------
    At 9 p.m. Tuesday, the Federal Reserve Board of Governors, 
with the full support of Treasury, announced that, using its 
authority under Section 13(3) of the Federal Reserve Act, it 
had authorized FRBNY to establish an $85 billion RCF for 
AIG.\262\ (That same evening, FRBNY advanced $14 billion in 
credit to AIG.) \263\ The $85 billion facility would be secured 
by AIG's assets and would ``assist AIG in meeting its 
obligations as they come due and 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.'' \264\ In exchange for the provision of the credit 
facility from the federal government, AIG provided to the 
United States Treasury preferred shares and warrants that, if 
the warrants were exercised, would give the government a 79.9 
percent ownership stake in AIG.\265\
---------------------------------------------------------------------------
    \262\ The Board's vote was 5-0, with Chairman Ben Bernanke, Vice 
Chairman Donald Kohn, and Governors Kevin Warsh, Elizabeth Duke and 
Randall Kroszner all casting votes. Board of Governors of the Federal 
Reserve System, Notice of a Meeting Under Expedited Procedures (Sept. 
17, 2008) (online at www.federalreserve.gov/boarddocs/meetings/2008/
20080916/expedited.htm). See also On The Brink, supra note 209.
    \263\ Joint Written Testimony of Thomas C. Baxter and Sarah 
Dahlgren, supra note 255, at 4.
    \264\ Board of Governors of the Federal Reserve System, Report 
Pursuant to Section 129 of the Emergency Economic Stabilization Act of 
2008: Securities Borrowing Facility for American International Group, 
at 2 (Oct. 14, 2008) (online at www.federalreserve.gov/monetarypolicy/
files/129aigsecborrowfacility.pdf) (hereinafter ``Securities Borrowing 
Facility for AIG'').
    \265\ Because neither Treasury nor the Federal Reserve had the 
authority to own these shares, the terms were written so that the 
shares would be held by the U.S. Treasury. FRBNY conversation with the 
Panel (May 11, 2010). The government's AIG bailout plan involving its 
obtaining a 79.9 percent equity stake in the company was closely 
modeled on the approach taken with GSEs Fannie Mae and Freddie Mac. 
Treasury conversation with Panel staff (May 13, 2009). The ownership 
percentage of directly under 80 percent was chosen due to the 
consequences of ``push down'' accounting. When a purchase transaction 
results in one company becoming substantially owned by another, the 
financial statements of the purchased company should reflect the new 
basis of accounting for the purchased assets and liabilities shown in 
the financial statements of the parent company, which would be based on 
the purchase price. Thus, the new basis of the assets and liabilities 
per the parent company are ``pushed down'' to the purchased company, 
causing either a net positive or a net negative adjustment to balance 
sheet valuation depending on the discrepancy between the purchase price 
and the balance sheet carrying values. This can have significant 
ramifications for the company's equity, key ratios, and overall 
valuation. Push down basis of accounting is required in ``purchase 
transactions that result in an entity becoming substantially wholly 
owned,'' which in practice, means 95 percent or more. Push down 
accounting is permitted if ownership in an entity is between 80 and 95 
percent, and it is prohibited with less than 80 percent ownership. 
Accounting Standards Codification (ASC) 805-50-S99, Business 
Combinations (formerly Emerging Issues Task Force, Topic D-97, Push-
Down Accounting) (online at asc.fasb.org/subtopic&nav 
_type=topic_page%26analyticsAssetName=topic 
_page_subtopic%26trid=2899256). Thus, the government's maintenance of 
its ownership in AIG below the 80 percent threshold ensures that push 
down accounting is disallowed and not an issue. Securities and Exchange 
Commission, SEC Staff Accounting Bulletin: Codification of Staff 
Accounting Bulletins, Topic 5(J) (June 16, 2009) (online at 
www.sec.gov/interps/account/sabcodet5.htm#5j).
---------------------------------------------------------------------------
    At the time, the Federal Reserve stated that its goal was 
to provide AIG with sufficient liquidity to meet its 
obligations, and to allow for the orderly disposition of 
certain AIG businesses.\266\ In more recent comments, FRBNY 
officials have maintained that they decided on a bailout 
because AIG needed liquidity, and stated that the Federal 
Reserve believed that AIG was solvent on the basis of its 
balance sheet.\267\ FRBNY does not dispute that AIG's massive 
liquidity problem pre-dated Lehman's bankruptcy, but notes that 
there was a general pull-back in private sector liquidity after 
Lehman filed for bankruptcy. FRBNY officials say that the 
government took a 79.9 percent equity interest in AIG because 
it believed the taxpayer should receive the same terms and 
conditions that the private sector wanted,\268\ and the 79.9 
percent equity interest was in the private sector consortium's 
term sheet.
---------------------------------------------------------------------------
    \266\ Board of Governors of the Federal Reserve System, Press 
Release (Sept. 16, 2008) (online at www.federalreserve.gov/newsevents/
press/other/20080916a.htm) (hereinafter ``Federal Reserve Press 
Release'').
    \267\ FRBNY conversation with Panel (Apr. 12, 2010).
    \268\ The Panel notes that in contrast to the position that the 
government took with regard to AIG, the government has in other 
instances during the financial crisis not taken advantage of the terms 
the private sector would have gotten. See Congressional Oversight 
Panel, February Oversight Report: Valuing Treasury's Acquisitions, at 
7-9 (Feb. 6, 2009) (online at cop.senate.gov/documents/cop-020609-
report.pdf) (discussion of a report by the international valuation firm 
Duff & Phelps that compares Treasury's investments with those made by 
private investors).
---------------------------------------------------------------------------

3. The Key Players in the Rescue

    The rescue of AIG was ultimately led by FRBNY, acting on 
behalf of the Board of Governors of the Federal Reserve System 
and in close consultation with Treasury. The other key players 
in the story include the OTS, the New York State Superintendent 
of Insurance, other state insurance regulators, and numerous 
Wall Street lawyers, advisors, counterparties and investors. As 
discussed in section K.5, many of these actors, particularly 
advisors and attorneys, played more than one role in the 
rescue. Notwithstanding these parties' internal conflicts 
rules, these entanglements create an overwhelming perception by 
the public that Wall Street was helping Wall Street, using 
taxpayer funds.
    Federal Reserve Bank of New York. The rescue of AIG was led 
by FRBNY and the Federal Reserve System, which began to focus 
on AIG's conditions toward the end of the week of September 7-
13, 2008. Treasury was directly involved in discussions of 
AIG's conditions and the consequences for the financial system 
of an AIG failure, but it had little if any authority to 
provide funds to AIG at the time; EESA was not enacted until 
October 3, 2008. Similarly, other AIG regulatory bodies, such 
as state insurance regulators and OTS, possessed oversight 
authority but lacked any legal authority to step in and provide 
funds and aid to the company.
    On September 16, the Federal Reserve authorized FRBNY to 
provide assistance to AIG in the form of an $85 billion lending 
facility under the authority of Section 13(3) of the Federal 
Reserve Act.\269\ As indicated, Treasury had been involved in 
discussions of the rescue package and the Board and FRBNY acted 
in cooperation with Treasury and the Administration.\270\ At 
the time of the initial aid to AIG, now-Secretary Geithner was 
the President of FRBNY, a position whose incumbent is appointed 
by the bank's board of directors (themselves primarily bankers 
or investment bankers) with the approval of the Federal 
Reserve.\271\
---------------------------------------------------------------------------
    \269\ Federal Reserve Press Release, supra note 266. In general, 
Section 13(3) allows the Board of Governors of the Federal Reserve 
System to authorize a Federal Reserve bank (such as FRBNY) to provide 
emergency assistance to corporations, with certain limitations, if they 
determine that unusual and exigent circumstances exist (by the 
affirmative vote of at least five members). This lending authority has 
been rarely invoked and had not been used until the onset of the 
financial crisis (with the assistance in March 2008 to Bear Sterns) 
since the Great Depression. For additional discussion of Section 13(3), 
see Section C.4.b and Annex IV.
    \270\ Testimony of Sec. Geithner, supra note 11, at 1.
    \271\ Board of Governors of the Federal Reserve System, Federal 
Reserve Bank Presidents (Nov. 6, 2009) (online at 
www.federalreserve.gov/aboutthefed/bios/banks/default.htm). Steve 
Friedman, former chairman of the Board of Directors of the Federal 
Reserve Bank of New York at the time of the AIG bailout and a director 
at Goldman Sachs since April 2005 and Stone Point Capital, a private 
equity firm, stated in testimony before the House Committee on 
Oversight and Government Reform that he had no involvement in the 
decisions regarding AIG and that ``the directors of the 12 Federal 
Reserve banks have no role in the regulation, supervision, or oversight 
of banks, bank-holding companies, or other financial institutions.'' 
Friedman stated that the Board of Governors in Washington effectively 
acts as the board of directors in the traditional sense, with the 
actual board of directors for each Federal Reserve bank serving more of 
an advisory capacity. House Committee on Oversight and Government 
Reform, Written Testimony of Steve Friedman, former chairman, Federal 
Reserve Bank of New York, The Federal Bailout of AIG (Jan. 27, 2010) 
(online at oversight.house.gov/images/stories/Hearings/
Committee_on_Oversight/2010/012710_AIG_Bailout/TESTIMONY-Friedman-
revised.pdf).
---------------------------------------------------------------------------
    Treasury. Treasury's participation in the initial rescue of 
AIG was limited, as discussed above, to an advisory role. It is 
clear, however, that all actions taken by FRBNY were in close 
consultation with Treasury. In October 2008, that authority was 
provided through the passage of EESA, and Treasury took on a 
greater role in the AIG rescue as the government expanded and 
restructured its aid. See Sections D.2 and F.3 for a fuller 
discussion and analysis of Treasury's later role.
    Office of Thrift Supervision. OTS was involved in 
conversations with Treasury and other officials during the 
weekend of the Lehman bankruptcy, as Treasury was concerned 
about AIG as well. Through these conversations and its own 
monitoring around this time, OTS became more aware of liquidity 
concerns at the holding company level, putting protections 
around the thrift to ensure that it remained well capitalized. 
OTS was not involved in any consultative manner with Treasury 
or the Federal Reserve concerning actions taken towards AIG, 
however. The calls between OTS and Treasury or the Federal 
Reserve were ultimately to provide OTS with an update of 
actions being taken, as opposed to seeking OTS officials' 
knowledge or opinions.
    OTS continued to act as AIG's consolidated supervisor until 
FRBNY's loan to the company on September 16, 2008. At the close 
of the transaction, AIG was no longer defined as a savings and 
loan holding company under federal statute, and thus the 
holding company was no longer an entity subject to regulation 
by OTS.\272\ As its role of equivalent regulator for EU and 
international purposes was based on its regulation of the 
holding company, OTS was no longer considered the equivalent 
regulator once its role as holding company regulator ended. OTS 
regulates only AIG FSB currently.\273\
---------------------------------------------------------------------------
    \272\ Testimony of Edward Liddy, supra note 91, at 17.
    \273\ Panel staff conversation with OTS (May 21, 2010).
---------------------------------------------------------------------------
    State Insurance Regulators. Each of AIG's domestic 
insurance companies is a stand-alone legal entity with its own 
primary insurance regulator from the state in which it is 
domiciled.\274\ During the government's rescue, the state 
insurance regulators were heavily involved in the protection of 
the insurance subsidiaries but were not called upon to provide 
any capital infusions from outside the AIG group. See Section 
F.1 for further analysis of the role played by the state 
insurance regulators.
---------------------------------------------------------------------------
    \274\ American International Group, Inc., AIG and AIG Commercial 
Insurance Overview and Financial Update (Nov. 13, 2008) (online at 
www.aig.com/aigweb/internet/en/files/RSSPres111308b_tcm20-132858.pdf).
---------------------------------------------------------------------------
    Private Sector Actors. Numerous private entities also 
played important roles in the government's rescue of AIG. In 
some cases these private-sector actors played more than one 
role. The following list is not exhaustive, but it provides an 
overview of the roles that key private-sector actors played at 
various stages before and during the rescue:
     JPMorgan Chase became an advisor to AIG in late 
August 2008; it provided AIG advice on raising capital in the 
private markets. In the last two days before the government's 
rescue of AIG, FRBNY asked JPMorgan Chase to play a different 
role, as one of the financial institutions that would invest in 
the insurer in order to save it from bankruptcy. JPMorgan Chase 
was also the lead agent on a $15 billion, multi-bank line of 
credit to AIG that the insurer sought but was unable to tap in 
the hours before the government's initial bailout.\275\
---------------------------------------------------------------------------
    \275\ See Sections C1 and C2, supra; AIG Drawing on Its Credit 
Line, E-mail from Edgar Moreano, Federal Reserve Bank of New York, to 
other Federal Reserve Bank of New York officials (Sept. 16, 2008) 
(FRBNYAIG00470-472); E-mail from Jacqueline Lovisa, FRBNY to others at 
FRBNY re: AIG Update--Important (Sept. 16, 2008) (FRBNYAIG00439-440).
---------------------------------------------------------------------------
     Goldman Sachs was one of AIG's largest 
counterparties until November 2008, when the government took 
steps to close out the exposure that Goldman and other large 
financial institutions had to AIG. On September 15, 2008, at 
the invitation of FRBNY, Goldman Sachs also took part in the 
failed private-sector rescue talks.\276\
---------------------------------------------------------------------------
    \276\ See Section C2, supra, and Sections D3 and D4, infra.
---------------------------------------------------------------------------
     Morgan Stanley was also one of AIG's 
counterparties until November 2008, though its exposure to AIG 
was significantly smaller than Goldman's. Morgan Stanley was 
hired by the government as an advisor in the private-sector 
rescue talks from September 14-16, 2008. More recently, Morgan 
Stanley has served as FRBNY's banker in connection with its 
investment in AIG.\277\
---------------------------------------------------------------------------
    \277\ See Section C1, supra, and Sections D3 and F7, infra.
---------------------------------------------------------------------------
     The law firm Davis Polk & Wardwell advised 
JPMorgan Chase in the failed attempt to organize a private-
sector rescue of AIG. It was Davis Polk & Wardwell that 
informed FRBNY on the morning of September 16, 2008, that the 
private-sector effort had unraveled. In a matter of minutes, 
Davis Polk & Wardwell transitioned to become an advisor to 
FRBNY and Treasury in the government's own rescue. Davis Polk & 
Wardwell's contract with FRBNY does not prevent it from also 
representing AIG's counterparties.\278\
---------------------------------------------------------------------------
    \278\ Testimony of Thomas C. Baxter, supra note 215; Columbia Law 
School, It Really Was Too Big to Fail: Government's Lead Outside 
Counsel in AIG Rescue Takes a Look Back (Mar. 3, 2010) (online at 
www.law.columbia.edu/media_inquiries/news_events/2010/march2010/aig-
huebner); Engagement agreement between Davis Polk & Wardwell and the 
Federal Reserve Bank of New York, at Sec. 10 (Sept. 16, 2008) (online 
at www.newyorkfed.org/aboutthefed/DavisPolk.pdf).
---------------------------------------------------------------------------
     BlackRock Solutions acted as an advisor to AIG 
regarding the mortgage-related exposure at AIGFP in the months 
prior to the government rescue.\279\ Since the bailout, FRBNY 
has retained BlackRock to manage and sell the mortgage-related 
instruments that two FRBNY-established SPVs purchased from AIG 
in late 2008.\280\
---------------------------------------------------------------------------
    \279\ BlackRock is one of the world's largest asset management 
firms. As of March 31, 2010, BlackRock's assets under management were 
$3.36 trillion. The firm manages these funds using a wide range of 
investment categories including equity, debt, cash management, real 
estate, and alternative investments (hedge funds). BlackRock employs 
over 8,500 individuals in 24 countries. The firm is publicly traded on 
the New York Stock Exchange and does not have a majority shareholder. 
Merrill Lynch, currently a subsidiary of Bank of America, PNC Financial 
Services Group and Barclays PLC own approximately 34.1 percent, 24.6 
percent and 19.9 percent of BlackRock respectively.
    Through its subsidiary, BlackRock Solutions, the firm provides 
advisory services, risk management analysis, and investment platforms. 
BlackRock Solutions is walled off from the rest of BlackRock. BlackRock 
conversation with Panel staff (May 18, 2010). As of March 31, 2010, 
BlackRock Solutions was utilized by clients with portfolios totaling 
approximately $9 trillion. The Financial Markets Advisory practice of 
BlackRock Solutions provides valuations and risk analysis on securities 
such as credit derivatives, securitized products and bonds. This 
practice also specializes in asset disposition for distressed 
portfolios.
    \280\ Joint Written Testimony of Thomas C. Baxter and Sarah 
Dahlgren, supra note 255, at 11; see Sections F.4, F.5, and J.1, infra.
---------------------------------------------------------------------------
     Blackstone Advisory Services LP was retained by 
AIG in September 2008 to assist with its efforts to raise 
capital. Following the rescue, Blackstone continued to help AIG 
to restructure and sell its business units. Blackstone has 
hired away at least one AIG employee who had been charged with 
the same basic task within AIG.\281\
---------------------------------------------------------------------------
    \281\ See Section C.1, supra; The Blackstone Group, Advisory and 
Restructuring Selected Transactions (Mar. 2, 2009) (online at 
www.blackstone.com/cps/rde/xchg/bxcom/hs/5694.htm); The Blackstone 
Group, Our People (online at www.blackstone.com/cps/rde/xchg/bxcom/hs/
firm_ourpeople_6244.htm) (accessed June 8, 2010).
---------------------------------------------------------------------------
    For a fuller discussion of the multiple roles private-
sector institutions played in the government's rescue of AIG, 
and the problems raised by those roles, see Section K.5.

4. The Legal Options for Addressing AIG's Problems in September 2008

    This section discusses the legal options and legal 
constraints that the Federal Reserve, FRBNY, and Treasury were 
facing in September 2008 when the Federal Reserve decided to 
authorize FRBNY to provide funds to AIG to meet its liquidity 
needs and avoid bankruptcy. A detailed analysis of the 
decisions made by the Federal Reserve, FRBNY, and Treasury is 
provided in Section F. The Federal Reserve, FRBNY, and Treasury 
have described their choice as ``binary,'' either allowing AIG 
to file for bankruptcy or providing it with liquidity,\282\ but 
as discussed more below and in Section F, more options were 
available than providing continuing capital so that all of 
AIG's creditors would be paid in full.
---------------------------------------------------------------------------
    \282\ Joint Written Testimony of Thomas C. Baxter and Sarah 
Dahlgren, supra note 255, at 4.
---------------------------------------------------------------------------
            a. The Bankruptcy Regime That Would Have Applied
    Bankruptcy was one option for AIG in mid-September 2008. It 
would have provided a mechanism to gather, value, and protect 
AIG's assets (within the limitations discussed below) by 
imposing an automatic stay on creditors while they negotiated a 
payment plan.\283\ A bankruptcy filing would have constituted 
an event of default for AIG's various derivative contracts, and 
it would have stopped collateral calls by and termination 
payments to the counterparties to those derivative 
contracts.\284\ Those counterparties, however, would not have 
been subject to the automatic stay, and would have been able to 
close out their agreements,\285\ seize collateral that had been 
posted prior to the bankruptcy filing, mitigate their losses, 
and offset or net out other obligations.\286\ They would have 
been subject to the substantial discount negotiated for 
unsecured creditors as part of the bankruptcy plan for any 
deficiency claims they asserted.\287\
---------------------------------------------------------------------------
    \283\ For a more detailed discussion of the general protections 
provided by bankruptcy law, see Annex IV. Generally, creditors are 
subject to an automatic stay to protect the debtor's assets while they 
negotiate a payment plan, cannot get an unfair advantage from payments 
or collateral transfers made while the debtor was insolvent, and cannot 
terminate or modify contracts based on the debtor's financial condition 
or bankruptcy filing. See 11 U.S.C. 362(a), 365(e)(1), 544, 545, 547, 
548. The decision of which subsidiaries would seek bankruptcy 
protection would be made on an entity-by-entity basis, weighing a 
variety of factors such as financial condition, the likely outcome of 
the bankruptcy, and the potential consequences on consumers, suppliers, 
creditors, and investors and taking into account that several of AIG's 
subsidiaries would not be able to file for bankruptcy in the U.S., as 
discussed below.
    \284\ It should be noted that AIG was not forced to post 
collateral. AIG could have refused to do so, also resulting in an event 
of default that would allow the counterparty requesting collateral to 
cancel the contract. However, such a refusal would have had negative 
business consequences for AIG, resulting in a loss of trust by its 
various counterparties that would hinder its ability to operate as a 
financial company.
    \285\ For an explanation of what it means to ``close out'' a 
derivative contract, see Annex III (What are Credit Default Swaps?).
    \286\ For a more detailed discussion of the specific provisions in 
the bankruptcy code providing additional protection or favorable 
treatment to counterparties to various financial instruments, see Annex 
IV. Generally, counterparties to various ``financial instruments''--
defined broadly to include credit default swaps issued by AIG and AIG's 
repurchase agreements--are exempt from the automatic stay, the 
prohibition on modifying or terminating contracts based on a bankruptcy 
filing, and various avoidance actions related to pre-bankruptcy 
collateral transfers. See 11 U.S.C. 101, 362(b)(6)-(7), 362(b)(17), 
362(b)(27), 362(o), 546(e)-(g), 546(j), 553, 555, 556, 559, 560, 561. 
These statutory provisions, including those added to or amended by the 
Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (``2005 
amendments''), provide a ``safe harbor'' to the counterparties to 
various financial contracts and are thus often referred to as the 
``safe harbor'' provisions. The Federal Reserve, FRBNY, and Treasury 
(as well as the SEC, CFTC, FDIC, and OCC) were proponents of the safe 
harbor provisions. See, e.g., House Committee on the Judiciary, 
Committee Report on the Bankruptcy Abuse Prevention and Consumer 
Protection Act of 2005, 109th Cong., at 20 (Feb. 2005) (H. Rept. 109-
31) (online at frwebgate.access.gpo.gov/cgi-bin/
getdoc.cgi?dbname=109_cong_reports&docid=f:hr031p1.109.pdf).
    \287\ Counterparties do not receive special priority for their 
deficiency claims, if any; these deficiency claims are unsecured claims 
subject to the discount negotiated for unsecured creditors as part of 
the bankruptcy plan.
---------------------------------------------------------------------------
    Even though bankruptcy would have assisted the 
reorganization or liquidation of the AIG parent company and the 
derivatives portfolio, bankruptcy would not have covered all 
parts of AIG because the bankruptcy court would not have had 
jurisdiction over AIG's domestic or foreign insurance 
subsidiaries or other foreign subsidiaries without a sufficient 
connection to the United States.\288\ This removes a 
substantial number of AIG's businesses from the purview of the 
bankruptcy court.\289\ It is unclear how a bankruptcy filing 
would have affected the business or solvency of the insurance 
subsidiaries, the actions of the various insurance regulators, 
or the decisions of current and prospective insurance customers 
regarding insurance coverage.\290\ The cross-border 
implications for the foreign subsidiaries--and the potential 
problems arising from the interplay between different 
regulatory and insolvency regimes--are also unclear. Moreover, 
once AIG had entered bankruptcy, it would have likely lost the 
confidence of market counterparties necessary to operate as a 
financial company, although normal considerations may not have 
applied if the government was the debtor-in-possession (DIP) 
lender.\291\
---------------------------------------------------------------------------
    \288\ See 11 U.S.C. Sec. 109(a) (requiring U.S. connection), 
109(b)(2) (excluding domestic insurance companies and certain banks 
from Chapter 7 bankruptcy), 109(b)(3) (excluding foreign insurance 
companies from Chapter 7), 109(d) (making these Chapter 7 exclusions 
applicable to Chapter 11).
    \289\ For example, AIG ``owns the largest commercial and industrial 
insurance company in the U.S. and one of our country's and the world's 
largest life insurance companies.'' House Committee on Oversight and 
Government Reform, Written Testimony of Eric Dinallo, superintendent, 
New York State Insurance Department, The Causes and Effects of the AIG 
Bailout, at 2 (Oct. 7, 2008) (online at oversight.house.gov/images/
stories/documents/20081007100906.pdf) (hereinafter ``Written Testimony 
of Eric Dinallo'').
    \290\ For additional discussion of the potential impact on the 
insurance subsidiaries, see Section E2 and Annex VIII. For example, 
some of AIG's insurance regulators (New York, Texas, and Pennsylvania) 
have provided that they would not necessarily have seized AIG's 
insurance subsidiaries if the AIG parent company had filed for 
bankruptcy (providing Conseco Inc. as an example of an insurance 
holding company bankruptcy (Chapter 11) that did not require the 
insurance regulators to seize the insurance subsidiaries (who remained 
solvent before and after the holding company filed)). However, they 
indicated that they would have seized the subsidiaries if they believed 
formal action was necessary to protect the insurance subsidiaries or 
their policyholders. Panel staff conversation with Texas Department of 
Insurance (May 24, 2010); Panel staff conversation with NAIC (Apr. 23, 
2010).
    \291\ For additional explanation of DIP financing, see Section E. 
The government may have provided an additional level of comfort, 
reliability, financial stability, or negotiating leverage to an AIG 
bankruptcy. However, it should be noted that the timing of an AIG 
bankruptcy would determine the government DIP lender. For example, if 
AIG had filed for bankruptcy before the enactment of EESA, Treasury 
would not have had the authority to be the DIP lender, leaving only the 
Federal Reserve banks to serve as the lender of last resort under 
Section 13(3) of the Federal Reserve Act.
---------------------------------------------------------------------------
    Finally, it is unclear how an AIG bankruptcy filing would 
have impacted the company's many counterparties or the 
financial system as a whole. Despite concerns about AIG's 
financial condition and its ability to pay, many of its CDS 
counterparties had not decided to close out their derivative 
contracts by mid-September 2008. If AIG had filed for 
bankruptcy, however, they probably would have done so, 
resulting in some level of disorder in the capital markets and 
causing liquidity pressure on some of the counterparties.\292\ 
The severity of the market impact and how quickly the markets 
would have been able to recover are unclear. If the Lehman 
Brothers bankruptcy is any guide, the impact of an AIG 
bankruptcy on the financial system would have been severe. As 
discussed more below, when Lehman filed for bankruptcy, the 
LIBOR-OIS spread (a measure of illiquidity in financial 
markets) spiked significantly, providing one measure of the 
extent of the impact of Lehman's filing on the markets.\293\ 
AIG was a much larger company with a more complicated corporate 
structure, more subsidiaries, more counterparties to its 
various derivative contracts and securities lending agreements, 
and an insurance component that reached many individuals and 
businesses. The potential impact of an AIG bankruptcy filing is 
discussed in more detail in Sections E.2 and F.1 below.
---------------------------------------------------------------------------
    \292\ As discussed above, the bankruptcy filing would have 
constituted an event of default giving the counterparties the option to 
terminate or close out their derivative contracts. It should be noted 
that this discussion relates to CDS contracts issued by AIG.
    \293\ On September 15, 2008, the LIBOR-OIS spread jumped 22 percent 
from its level on the previous trading day to 105 basis points. By 
September 30, 2008, the metric had reached 232 basis points, a 168 
percent increase from the trading day prior to Lehman Brother's 
bankruptcy. This metric, which averaged 74 basis points for the first 
three quarters of 2008, spiked to an average of 294 basis points during 
October 2008. For additional discussion of the importance of the LIBOR-
OIS spread and Lehman's impact on the markets, see Section F.1(b)(iv).
---------------------------------------------------------------------------
    There was no legal structure or resolution authority that 
had the capacity to address the resolution of AIG, the impact 
of an AIG bankruptcy filing on its insurance subsidiaries, the 
cross-border implications for the foreign subsidiaries, and the 
potential systemic consequences for the financial system as a 
whole. Treasury did not have the authority to act because 
Congress had not yet passed EESA.\294\ As a result, the only 
alternative to bankruptcy that the government saw was 
intervention by the Federal Reserve using its emergency powers 
under Section 13(3) of the Federal Reserve Act. As indicated 
below, however, when it came to 13(3), more options were 
available to the Federal Reserve and FRBNY than the specific 
actions they took, beginning with the $85 billion RCF to make 
funds immediately available to AIG to fund its liquidity needs.
---------------------------------------------------------------------------
    \294\ EESA was enacted on October 3, 2008. Treasury provided part 
of AIG's government assistance thereafter, such as the $40 billion 
preferred stock investment on November 10, 2008, as part of its SSFI 
under the TARP. See, e.g., U.S. Department of the Treasury, Treasury to 
Invest in AIG Restructuring Under the Emergency Economic Stabilization 
Act (Nov. 10, 2008) (online at www.treas.gov/press/releases/
hp1261.htm). As discussed in Section C.2 above, however, it should be 
noted that even though Treasury's formal participation in the AIG 
rescue began after the passage of EESA, it was in close consultation 
with the Federal Reserve and FRBNY regarding the forms of assistance 
provided to AIG.
---------------------------------------------------------------------------
            b. The Federal Reserve's Section 13(3) Authority
    Section 13(3) of the Federal Reserve Act provides the 
Federal Reserve with the authority to authorize Federal Reserve 
banks to provide emergency assistance to individuals, 
partnerships, and corporations in limited circumstances as the 
lender of last resort.\295\ It provides that the Federal 
Reserve Board ``may authorize any Federal Reserve bank . . . to 
discount . . . notes, drafts, and bills of exchange'' for ``any 
individual, partnership, or corporation'' if three conditions 
are met. First, the Board of Governors must determine that 
``unusual and exigent'' circumstances exist by the affirmative 
vote of at least five members. Second, the notes, drafts, and 
bills of exchange must be secured to the satisfaction of the 
Federal Reserve bank. Third, the Federal Reserve bank must 
determine that the person or institution involved cannot secure 
adequate credit from other banking institutions.\296\ In 
addition to Section 13(3), the Federal Reserve banks have the 
authority to exercise ``incidental powers as shall be necessary 
to carry on the business of banking within the limitations 
prescribed by this Act.'' \297\ Thus, the incidental powers 
provision could supplement the authority granted in Section 
13(3), but it would not give the Federal Reserve banks 
authority to take actions that were specifically prohibited by 
the Federal Reserve Act (Section 13(3) or otherwise).
---------------------------------------------------------------------------
    \295\ See 12 U.S.C. 343. Section 13(13) of the Federal Reserve Act, 
12 U.S.C. 347c, allows the Federal Reserve to make advances to 
individuals, partnerships, and corporations, but these advances cannot 
exceed 90 days and must be secured by U.S. Treasury, U.S. agency, or 
U.S. agency-guaranteed obligations.
    \296\ 12 U.S.C. 343; see also David H. Small and James A. Clouse, 
The Scope of Monetary Policy Actions Authorized Under the Federal 
Reserve Act, at 14-16 (July 19, 2004) (online at 
www.federalreserve.gov/pubs/feds/2004/200440/200440pap.pdf). Section 
13(3) also provides that the discounted instruments must bear interest 
``at rates determined under section 14(d),'' and Section 14(d) provides 
that discount rates are to be set at least every 14 days, ``with a view 
of accommodating commerce and business.'' Regulation A provides one set 
of authorizations for Federal Reserve lending under Section 13(3)--
clarifying that credit must not be available from ``other sources'' 
(not just other ``banking institutions''), adding the gloss that the 
institution's ``failure to obtain such credit would adversely affect 
the economy,'' and providing that the discount rate will be ``above the 
highest rate in effect for advances to depository institutions''--but 
this does not preclude the Federal Reserve Board from authorizing 
lending pursuant to Section 13(3) under other authorities. Panel staff 
conversation with Federal Reserve Board staff (May 27, 2010); 12 CFR 
Sec. 201.4(d) (Regulation A).
    \297\ 12 U.S.C. Sec. 341(4).
---------------------------------------------------------------------------
    There is very little historical precedent to shape the 
interpretation of Section 13(3).\298\ The provision was enacted 
during the Great Depression and was used to extend 123 loans 
totaling around $1.5 million to a variety of businesses from 
1932 to 1936.\299\ The Federal Reserve's authority was 
broadened significantly in 1991, allowing the Federal Reserve 
to authorize any Federal Reserve bank to discount notes, 
drafts, or bills of exchange that ``are indorsed or otherwise 
secured to the satisfaction of the Federal Reserve bank''--
removing the restriction that it could only discount the types 
of paper that could be discounted for member banks. The change 
both provided the Federal Reserve with additional flexibility 
and potentially made borrowing under the section more 
attractive.\300\ However, loans were not actually made pursuant 
to the Federal Reserve's Section 13(3) authority again from 
1936 until 2008.\301\ Since March 2008, the Federal Reserve has 
relied on Section 13(3) several times, three times in providing 
assistance to AIG: the original $85 billion RCF in September 
2008, a $37.8 billion Securities Borrowing Facility (SBF) in 
October 2008, and the Maiden Lane facilities (ML2 and ML3) in 
November 2008.\302\
---------------------------------------------------------------------------
    \298\ It should be noted that the Federal Reserve Board not only 
had broad discretion under the statute but it is also generally 
relatively insulated from legal challenge. It is unclear whether anyone 
would have standing to sue the Federal Reserve related to its actions 
involving AIG, and in any event, the standard of review is very 
deferential (requiring clear evidence of arbitrariness or 
capriciousness). See Huntington Towers, Ltd. v. Franklin National Bank, 
559 F.2d 863, 868 (2d Cir. 1978) (``Absent clear evidence of grossly 
arbitrary or capricious action on the part of [the Federal Reserve 
Bank] . . . it is not for the courts to say whether or not the actions 
taken were justified in the public interest, particularly where it 
vitally concerned the operation and stability of the nation's banking 
system.''); Raichle v. Federal Reserve Bank, 34 F.2d 910 (2d Cir. 1929) 
(``It would be an unthinkable burden upon any banking system if its 
open market sales and discount rates were to be subject to judicial 
review. . . . The remedy sought would make the courts, rather than the 
Federal Reserve Board, the supervisors of the Federal Reserve System, 
and would involve a cure worse than the malady.''). These cases do not 
involve actions taken by the Federal Reserve pursuant to Section 13(3), 
but their reasoning is arguably equally applicable.
    \299\ See Howard H. Hackley, Lending Functions of the Federal 
Reserve Banks: A History, at 130 (May 1973). According to the Bureau of 
Labor Statistic's CPI inflation calculator, $1.5 million in 1936 ``has 
the same buying power'' as $23.5 million in 2010. The largest single 
loan was for $300,000 (roughly the same buying power as $4.7 million in 
2010).
    \300\ See James A. Clouse, Recent Developments in Discount Window 
Policy, Federal Reserve Bulletin No. 975 (Nov. 1994). Section 13(3) was 
also modified in 1935 by changing the requirement that notes, drafts, 
and bills of exchange be ``indorsed and secured'' to ``indorsed or 
secured.'' In 2008, Congress added a requirement that the Federal 
Reserve Board must report to the House Committee on Financial Services 
and the Senate Committee on Banking, Housing, and Urban Affairs on its 
justifications for exercising its Section 13(3) authority, the specific 
terms of the actions taken, and periodic updates on the status of the 
loan. EESA Sec. 129(a)-(b). Copies of the reports must be sent to the 
Congressional Oversight Panel. EESA Sec. 129(e). The Federal Reserve 
has also made the reports public by releasing them on its website 
(www.federalreserve.gov).
    \301\ It should be noted that the Federal Reserve invoked Section 
13(3) to authorize the Federal Reserve banks to make loans to thrifts 
under certain terms and conditions from July 1, 1966 to March 1, 1967 
and again from December 24, 1969 to April 1, 1970, but no thrift 
institutions took advantage of the lending facility. See Board of 
Governors, 56th Annual Report, at 92-93 (1969); Board of Governors, 
53rd Annual Report, at 91-92 (1966). The Federal Reserve banks have 
also relied on Section 13(b), which was enacted in 1934 and repealed in 
1958, to provide up to $280 million in working capital to any 
established business with maturities up to five years and no loan 
limits. See David Fettig, Lender of More than Last Resort: Recalling 
Section 13(b) and the Years When the Federal Reserve Opened Its 
Discount Window to Businesses, Banking and Policy Issues Magazine, at 
45-46 (Dec. 2002) (online at www.minneapolisfed.org/pubs/region/02-12/
lender.pdf).
    \302\ See Federal Reserve Bank of St. Louis, Clarifying the Roles 
and the Spending: The Separate Functions of the Fed, Treasury and FDIC 
(Fall 2009) (online at www.stlouisfed.org/publications/cb/articles/
?id=1659) (providing information on recent Federal Reserve programs 
authorized under Section 13(3): collateralized funding provided to Bear 
Sterns, collateralized funding provided to AIG, Money Market Investment 
Funding Facility, Term Asset-Backed Securities Loan Facility, Term 
Securities Loan Facility, and Primary Dealer Credit Facility. For an 
analysis of the Federal Reserve's legal authority to provide these 
particular facilities, see Annex IV.
---------------------------------------------------------------------------
    In addition to the facilities ultimately authorized by the 
Federal Reserve and entered into by FRBNY, other options would 
have been allowed (or available to the Federal Reserve) under 
Section 13(3) to deal with AIG's liquidity problems.\303\ For 
example, in September 2008, the Federal Reserve could have 
authorized FRBNY to provide, under certain terms and 
conditions, short-term funding to give the parties more time to 
prepare a solution for AIG's liquidity problems, conditional 
lending that more equitably distributed the ``pain'' that would 
have resulted from an AIG failure, or a guarantee of a private 
loan or a portion of AIG's outstanding obligations.\304\
---------------------------------------------------------------------------
    \303\ Thus, although the Federal Reserve's decision was binary in 
the sense that it could have allowed AIG to enter bankruptcy in 
September 2008, or it could have provided assistance to prevent such a 
bankruptcy filing, the Federal Reserve's options of the types of 
assistance it could have provided under Section 13(3) included more 
than the full payment of all of AIG's creditors.
    \304\ For additional discussion and evaluation of these three 
alternatives, see Section F.
---------------------------------------------------------------------------
    The Federal Reserve could have agreed to provide a short-
term loan or bridge loan to AIG, secured by the same assets 
posted as collateral for the $85 billion RCF under Section 
13(3). It could have made clear to AIG and its subsidiaries, 
their creditors, their regulators, and the markets that this 
funding was being extended to allow the parties more time to 
negotiate a prepackaged bankruptcy, to prepare for a regular 
bankruptcy, or to otherwise restructure or reorganize AIG's 
businesses or contractual obligations going forward. It should 
be noted, however, that any such short-term arrangement would 
have produced its own complications. Because contractual and 
safe harbor provisions provided favorable treatment to certain 
of AIG's creditors,\305\ the Federal Reserve and FRBNY would 
have had to use their authority under Section 13(3) to impose 
restrictions on the use of the funds to prevent an unfair 
advantage for these creditors in the event of a later 
bankruptcy.\306\ For example, to the extent that AIG had the 
ability to use the funds to provide additional collateral to 
its CDS counterparties, those funds could not have been used in 
a way that would help AIG effectively reorganize or survive. 
Instead, the public funds would have simply increased the level 
of security of the counterparties, providing additional 
protection to these counterparties in the event of an AIG 
bankruptcy filing (as discussed above, the CDS counterparties 
would not be subject to the automatic stay, could keep 
previously posted collateral, and would not be subject to 
various avoidance actions).
---------------------------------------------------------------------------
    \305\ For example, CDS counterparties and parties to AIG repo 
funding would receive favorable treatment under the bankruptcy code, 
and securities lending counterparties would enjoy similar contractual 
protections, if the regulators did not seize the life insurance 
subsidiaries participating in the securities lending program.
    \306\ Section 13(3) specifically provides that the assistance 
provided by the Federal Reserve ``shall be subject to such limitations, 
restrictions, and regulations as the Board of Governors of the Federal 
Reserve System may prescribe.'' 12 U.S.C. Sec. 343.
---------------------------------------------------------------------------
    The Federal Reserve could also have imposed additional 
terms or conditions on its extension of credit so that the pain 
of an AIG rescue could be shared more equitably. For example, 
Martin Bienenstock, partner and chair of business solutions and 
government department, Dewey & LeBoeuf, testified before the 
Panel that ``all lenders are justified in requiring shared 
sacrifice'' and that FRBNY could have used its lender status 
``to demand concessions'' from the material creditors of AIG's 
business that were insolvent or not profitable.\307\
---------------------------------------------------------------------------
    \307\ Congressional Oversight Panel, Written Testimony of Martin 
Bienenstock, partner and chair of business solutions and government 
department, Dewey & LeBoeuf, COP Hearing on TARP and Other Assistance 
to AIG, at 1, 4 (May 26, 2010) (online at cop.senate.gov/documents/
testimony-052610-bienenstock.pdf) (hereinafter ``Written Testimony of 
Martin Bienenstock'').
---------------------------------------------------------------------------
    Finally, Section 13(3) is sufficiently broad that the 
Federal Reserve could have authorized FRBNY to provide a 
guarantee for a private loan to AIG or for a portion of AIG's 
outstanding obligations under certain terms and 
conditions.\308\ A guarantee is simply an obligation to provide 
funds if needed; this is little different than the credit 
facilities made available to AIG. FRBNY could lend up to a 
stated amount, under certain terms and conditions, as needed, 
to a corporation that was unable to otherwise obtain adequate 
credit; the facility guaranteed AIG creditors by making up to 
$85 billion available to AIG to satisfy claims on the company.
---------------------------------------------------------------------------
    \308\ Panel staff conversation with Federal Reserve Board staff 
(May 28, 2010). Without the proposed terms and conditions, it is 
difficult to say whether the Federal Reserve could authorize or FRBNY 
could provide a certain type of guarantee under Section 13(3). However, 
this paragraph will provide a general discussion of possibilities and 
limitations.
---------------------------------------------------------------------------
    In general, the Federal Reserve would be able to authorize 
a guarantee pursuant to Section 13(3) only if the guarantee 
were fully secured.\309\ Thus, the amount of the guarantee 
would be ``capped'' by the value of available or unencumbered 
assets that could be posted as collateral.\310\ The Federal 
Reserve System (and the taxpayers) would still have been liable 
(or at risk) for the full amount of the guaranteed private loan 
\311\ or the guaranteed AIG obligations,\312\ but it would not 
have had to provide funds to AIG initially and could have 
created a period in which markets could have stabilized, and 
the possibility of a private-sector solution could have 
increased.\313\ On the other hand, the Federal Reserve would 
not have been able to authorize an open-ended guarantee or 
blanket assurance to AIG's creditors that AIG or its insurance 
subsidiaries would continue to be viable or to operate as going 
concerns in the near or medium term because AIG would not have 
had sufficient collateral for such an open-ended 
guarantee.\314\ In addition, any Section 13(3) transaction must 
involve a ``discount'' or a fee structured as the economic 
equivalent of previously computed interest.\315\ A guarantee of 
a private loan would allow the creditors to rely on the full 
faith and credit of the United States, and there is no reason 
to think that the strength of such a credit would not reduce, 
or modify, the otherwise required interest rate, but that would 
have to be shown.\316\
---------------------------------------------------------------------------
    \309\ Section 13(3) requires that assistance provided must be 
``indorsed or otherwise secured to the satisfaction of the Federal 
Reserve bank.'' 12 U.S.C. Sec. 343.
    \310\ As part of a hybrid public-private solution, AIG may have 
pledged the same assets as collateral for both the private loan and the 
public guarantee. In that case, the private creditors would have had to 
agree to release collateral to FRBNY in the amount of any claims that 
they asserted in relation to the public guarantee. In the alternative, 
the private consortium or syndicate may not have required AIG to 
provide collateral for the loan because the protection offered by the 
Federal Reserve's guarantee provided sufficient security.
    \311\ Because the Federal Reserve would have been liable for the 
entire $85 billion under either the $85 billion Revolving Credit 
Facility or a guarantee of an $85 billion private loan, its risk 
profile would have been the same under either option. If FRBNY had 
issued a guarantee for such a loan, the transaction could be viewed as 
``for'' AIG, under the authorizing statute.
    \312\ If the Federal Reserve guaranteed a portion of AIG's 
obligations, AIG would still have been required to raise capital to 
address its liquidity needs from other sources.
    \313\ The Federal Reserve would have to provide funds only when AIG 
defaulted on its obligations.
    \314\ In an open-ended guarantee, the Federal Reserve would not be 
able to quantify the extent of its potential exposure, making it 
difficult for the Federal Reserve to obtain adequate collateral or 
security. The Federal Reserve could estimate liabilities on a certain 
date based on current business or market conditions. However, the 
numbers and assumptions underlying the estimate will change (e.g., as 
the company generates additional liabilities or market conditions 
change), resulting in a significant level of uncertainty or risk for a 
guarantor. It is questionable whether any company would have sufficient 
assets to secure such an open-ended guarantee or compensate a guarantor 
for taking on so much risk.
    \315\ As discussed in Annex IV, the term ``discount'' has been 
interpreted broadly to refer to any purchase of paper (or essentially 
any advance of funds in return for a note) with previously-computed 
interest. See Board of Governors of the Federal Reserve System, Federal 
Reserve Bulletin, at 269 (Mar. 1958).
    \316\ Another path to satisfaction of the ``discount'' condition 
would be to argue that the guarantee, like the loan, was ``for'' the 
benefit of AIG, although not made to AIG directly.
---------------------------------------------------------------------------

                    D. Subsequent Government Actions


1. Securities Borrowing Facility: October 2008

    By September 30, 2008, just 14 days after the Federal 
Reserve Board approved the $85 billion RCF, AIG had already 
drawn down approximately $61 billion of that money.\317\ It 
became apparent that the facility would be inadequate to meet 
all of AIG's obligations.\318\ The Federal Reserve Board and 
FRBNY worried about further ratings downgrades, which would--
among other adverse effects--trigger more collateral calls on 
AIGFP.\319\
---------------------------------------------------------------------------
    \317\ AIG used these funds for the following: $35.3 billion to 
cover loans to AIGFP for collateral postings, GIA, and other 
maturities; $13.3 billion in capital contributions for insurance 
subsidiaries; $3.1 billion to repay securities lending obligations; 
$2.7 billion for AIG funding commercial paper maturities; $1.5 billion 
for intercompany loan repayment; $1.0 billion each in contributions for 
AIG Consumer Finance Group's (AIGCFG) subsidiaries and debt repayments; 
and $2.7 billion in additional borrowing. Including paid in kind 
interest and fees on the amount borrowed, AIG's total balance 
outstanding on the facility was $62.96 billion at the end of September. 
AIG Form 10-Q for Third Quarter 2008, supra note 23, at 43; Board of 
Governors of the Federal Reserve System, Data Download Program (online 
at www.federalreserve.gov/datadownload/) (hereinafter ``Federal Reserve 
Data Download Program'') (accessed May 28, 2010).
    \318\ Securities Borrowing Facility for AIG, supra note 264, at 2.
    \319\ House Committee on Oversight and Government Reform, Written 
Testimony of Thomas C. Baxter, executive vice president and general 
counsel, Federal Reserve Bank of New York, The Federal Bailout of AIG, 
at 5-6 (Jan. 27, 2010) (online at oversight.house.gov/images/stories/
Hearings/Committee_on_Oversight/2010/012710_AIG_Bailout/TESTIMONY-
Baxter.pdf) (hereinafter ``Testimony of Thomas C. Baxter'').
---------------------------------------------------------------------------
    On October 6, 2008, the Federal Reserve Board approved an 
additional SBF to allow FRBNY to lend up to $37.8 billion to 
AIG.\320\ The lending would occur on an overnight basis, with 
FRBNY borrowing investment-grade fixed income securities from 
AIG's life insurance subsidiaries in return for cash 
collateral.\321\ The facility allowed AIG to replenish 
liquidity to its securities lending program--by extending its 
then-outstanding lending obligations where those obligations 
were not rolled over or replaced by transactions with other 
private market participants--while giving FRBNY possession and 
control of the securities.
---------------------------------------------------------------------------
    \320\ Financial Stability Oversight Board, Minutes of the Financial 
Stability Oversight Board Meeting, at 2 (Nov. 9, 2008) (online at 
www.financialstability.gov/docs/FSOB/FINSOB-Minutes-November-9-
2008.pdf). The Federal Reserve Board publicly announced the Securities 
Borrowing Facility on October 8, 2008, the day that FRBNY established 
it. See Board of Governors of the Federal Reserve System, Press Release 
(Oct. 8, 2008) (online at www.federalreserve.gov/newsevents/press/
other/20081008a.htm) (hereinafter ``Federal Reserve Press Release'').
    \321\ These securities were previously lent by AIG's insurance 
subsidiaries to third parties. The maximum amount of credit that FRBNY 
could extend at any one time was $37.8 billion. The Board made this 
authorization under Section 13(3) of the Federal Reserve Act.
---------------------------------------------------------------------------
    In its report to Congress shortly after establishing this 
facility, the Board wrote that the facility ``addresses 
liquidity strains placed on AIG due to the ongoing withdrawal 
of counterparties from securities borrowing transactions'' and 
``reduce[s] the pressure on AIG to liquidate immediately the 
portfolio of RMBS that were purchased with the proceeds of the 
securities lending transactions.'' \322\ Furthermore, the Board 
wrote, ``The size of the Secured Borrowing Facility will permit 
the Reserve Bank, if necessary, to replace all remaining 
securities borrowing counterparties of AIG.'' \323\
---------------------------------------------------------------------------
    \322\ Securities Borrowing Facility for AIG, supra note 264, at 2.
    \323\ Securities Borrowing Facility for AIG, supra note 264.
---------------------------------------------------------------------------
    During this period, AIG made extensive use of the 
Commercial Paper Funding Facility (CPFF), one of several 
liquidity programs that the Federal Reserve created during the 
financial crisis to deal with market stress. The CPFF purchased 
three-month unsecured and asset-backed commercial paper 
directly from qualified borrowers.\324\ Three AIG 
subsidiaries--AIG Funding, Curzon Funding, and Nightingale 
Finance--were authorized to sell commercial paper to this 
facility in maximum amounts of $6.9 billion, $7.2 billion and 
$1.1 billion, respectively, while a fourth, ILFC, lost its 
access to this facility in January 2009 after S&P downgraded 
its short term credit rating.\325\ Access to this Federal 
Reserve facility effectively supplemented the RCF and allowed 
AIG to maintain short-term borrowing on the same favorable 
terms that other major financial institutions were enjoying at 
the peak of the financial crisis.
---------------------------------------------------------------------------
    \324\ The CPFF incurred no losses, and earned approximately $5 
billion in earnings from credit enhancement fees, registration fees, 
and interest income. At its height in January 2009, it held $350 
billion in commercial paper. It ceased purchasing new commercial paper 
on February 1, 2010, and its balance of commercial paper holdings was 
zero as of April 26, 2010. Board of Governors of the Federal Reserve 
System, Credit and Liquidity Programs and the Balance Sheet, at 10 (May 
2010) (online at www.federalreserve.gov/monetarypolicy/files/
monthlyclbsreport201005.pdf) (hereinafter ``Credit and Liquidity 
Programs and the Balance Sheet''); Board of Governors of the Federal 
Reserve System, Data Download Program (Factors Affecting Reserve 
Balances (H.4.1)--Net portfolio holdings of Commercial Paper Funding 
Facility LLC: Wednesday level) (online at www.federalreserve.gov/
datadownload/) (accessed June 2, 2010).
    \325\ ``AIG Funding use[d] the proceeds to refinance AIG's 
outstanding commercial paper as it mature[d], meet other working 
capital needs and make prepayments under the Fed Facility while the two 
other programs use[d] the proceeds to refinance maturing commercial 
paper. On January 21, 2009, S&P downgraded ILFC's short-term credit 
rating and, as a result, ILFC [could] no longer participate in the 
CPFF.'' At the end of December 2009, AIG had $4.7 billion outstanding 
under CPFF. American International Group, Inc., What AIG Owes the U.S. 
Government (Mar. 31, 2010); AIG Form 10-K for FY09, supra note 50, at 
18.
---------------------------------------------------------------------------

2. The TARP Investment and First Restructuring: November 2008

    Throughout the fall of 2008, it became clear that the 
rating agencies took an increasingly dim view of AIG's 
underlying creditworthiness. This growing skepticism 
intensified throughout the Lehman weekend amidst mounting 
concerns connected to its CDS positions. AIG and its 
subsidiaries were placed on credit watch with negative 
implications by S&P. On Monday, September 15, S&P lowered AIG's 
rating to A- due to mounting derivatives losses and diminished 
capacity to meet collateral obligations.
    The only factor preventing AIG's creditworthiness from 
deteriorating immediately after September 16, 2008 was FRBNY's 
$85 billion RCF, said Rodney Clark, a managing director in 
S&P's rating services.\326\ On October 3, Moody's downgraded 
AIG's senior unsecured debt rating to A3 from A2, and 
maintained a continuing watch review for possible further 
downgrades potentially triggered by activities related to AIG's 
global divestiture plan.\327\ AIG was also expected to report 
an approximately $25 billion loss on November 10, 2008.
---------------------------------------------------------------------------
    \326\ Written Testimony of Rodney Clark, supra note 80, at 5.
    \327\ Moody's Investor Service, Global Research (Nov 10, 2008).
---------------------------------------------------------------------------
    The credit rating agencies advised AIG that the company's 
upcoming November 10 report of third quarter results would 
likely trigger a ratings downgrade in the absence of a 
``parallel announcement of solutions to its liquidity 
problems.'' \328\ AIG was having difficulty selling assets to 
pay down debt from the RCF and meet anticipated liquidity 
needs, particularly in light of continuing collateral calls 
under its CDS contracts.\329\ Consequently, in the days leading 
up to AIG's earnings announcement, the Federal Reserve and 
Treasury hurried to put together additional financial 
assistance from the federal government that would address AIG's 
growing debt burden.
---------------------------------------------------------------------------
    \328\ Testimony of Thomas C. Baxter, supra note 319, at 9.
    \329\ Board of Governors of the Federal Reserve System, Report 
Pursuant to Section 129 of the Emergency Economic Stabilization Act of 
2008: Restructuring of the Government's Financial Support to the 
American International Group, Inc. on November 10, 2008, at 4 (online 
at federalreserve.gov/monetarypolicy/files/129aigrestructure.pdf) 
(hereinafter ``Federal Reserve Report on Restructuring''); Testimony of 
Thomas C. Baxter, supra note 319, at 9.
---------------------------------------------------------------------------
    On November 10, 2008, FRBNY and Treasury announced a 
comprehensive multi-pronged plan to address AIG's liquidity 
issues, create a ``more durable capital structure,'' and 
provide AIG with more time and increased flexibility to sell 
assets and repay the government.\330\ This restructuring was 
intended to stabilize AIG's businesses and address rating 
agency concerns in order to allow an orderly 
restructuring.\331\ As Secretary Geithner later stated, 
``[a]voiding any downgrade of AIG's credit rating was 
absolutely essential to sustaining the firm's viability and 
protecting the taxpayers' investment.'' \332\
---------------------------------------------------------------------------
    \330\ Board of Governors of the Federal Reserve System, Federal 
Reserve Board and Treasury Department Announce Restructuring of 
Financial Support to AIG (Nov. 10, 2008) (online at 
www.federalreserve.gov/newsevents/press/other/20081110a.htm) 
(hereinafter ``Federal Reserve Press Release Announcing 
Restructuring'').
    \331\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
    \332\ Testimony of Sec. Geithner, supra note 11, at 8.
---------------------------------------------------------------------------
    As part of the November 10 restructuring announcement, 
Treasury said it planned to use $40 billion of TARP money to 
purchase newly issued AIG perpetual preferred shares and 
warrants to purchase AIG common stock;\333\ this initiative was 
known as the Systemically Significant Failing Institutions 
program (SSFI), and AIG was its only beneficiary. At the same 
time, FRBNY reduced AIG's line of credit under the RCF to $60 
billion. FRBNY also announced that it was restructuring the 
facility by extending the loan from two to five years and 
lowering the interest rate and fees charged.
---------------------------------------------------------------------------
    \333\ The perpetual preferred shares were later known as the Series 
D Preferred Stock Purchase Agreement. American International Group, 
Inc., U.S. Treasury, Federal Reserve and AIG Establish Comprehensive 
Solution for AIG, at 1 (Nov. 10, 2008) (online at media.corporate-
ir.net/media_files/irol/76/76115/reports/Restructuring10Nov08LTR.PDF).
---------------------------------------------------------------------------
    On November 10, AIG reported a third-quarter 2008 loss of 
$24.5 billion, of which $19 billion was due to the securities 
lending program and AIGFP's CDSs.\334\ Also on that day, 
Treasury and the Federal Reserve Board announced two major 
initiatives to increase and restructure federal assistance to 
AIG; FRBNY would be authorized to create two limited liability 
companies or SPVs--ML2 and ML3--to purchase troubled assets 
from AIG and its subsidiaries.
---------------------------------------------------------------------------
    \334\ Federal Reserve Report on Restructuring, supra note 329, at 
4.
---------------------------------------------------------------------------

3. Maiden Lane II

    Maiden Lane II (ML2) was set up by FRBNY to address the 
liquidity problems AIG was encountering in early November 2008 
in its securities lending program, which was the same objective 
for which FRBNY had established the SBF just a few weeks 
earlier. But the SBF was only intended as a temporary solution 
to the ongoing liquidity pressure on AIG stemming from the 
unwinding of AIG's securities lending program. On November 10, 
FRBNY, in close consultation with the Board, announced the 
creation of ML2, which would purchase RMBS assets from AIG's 
securities lending collateral portfolio. The motivating force 
was to get contingent liabilities off AIG's balance sheet.\335\ 
The Federal Reserve authorized FRBNY to lend up to $22.5 
billion to ML2; AIG also acquired a subordinated $1 billion 
interest in the facility, which would absorb the first $1 
billion of losses.\336\ On December 12, FRBNY extended a $19.5 
billion loan to ML2 to fund its RMBS purchases from AIG's life 
insurance subsidiaries (which had $39.3 billion face value) in 
connection with the termination of the outstanding $37.8 
billion of securities loans and related agreements with AIG.
---------------------------------------------------------------------------
    \335\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
    \336\ As a result of this transaction, AIG's remaining exposure to 
losses from its U.S. securities lending program were limited to 
declines in market value prior to closing and its $1 billion of 
funding.
---------------------------------------------------------------------------
    The differences between ML2 and ML3 must be emphasized. ML2 
purchased deeply discounted securities from AIG, which was then 
able to use the proceeds of those sales to close out related 
obligations. In contrast, in ML3, discussed in the following 
section, the SPV purchased securities from AIG's counterparties 
in transactions, the net effect of which was to give those 
counterparties the full notional value of their securities.
    AIG used the proceeds to repay all of its outstanding debt 
under the SBF, thereby terminating that short-lived 
arrangement, as well as ending the securities lending program 
under which AIG had acquired the RMBS.\337\ As discussed above, 
the SBF established in October 2008 was designed to be a 
temporary solution to the liquidity pressures facing AIG. AIG's 
counterparties in the securities lending program, whose claims 
were finally closed out by the ML2 transaction, are set out in 
the table below and discussed further in Section F below.\338\
---------------------------------------------------------------------------
    \337\ AIG Form 10-K for FY08, supra note 47, at 251 (``The life 
insurance companies applied the initial consideration from the RMBS 
sale, along with available cash and $5.1 billion provided by AIG in the 
form of capital contributions, to settle outstanding securities lending 
transactions under the U.S. Securities Lending Program, including those 
with the NY Fed, which totaled approximately $20.5 billion at December 
12, 2008, and the U.S. Securities Lending Program and the Securities 
Lending Agreement with the NY Fed have been terminated.'').
    \338\ See Section F.2 for further discussion of the Securities 
Borrowing Facility.

    FIGURE 15: PAYMENTS TO COUNTERPARTIES FOR U.S. SECURITIES LENDING
                          [Dollars in billions]
------------------------------------------------------------------------
                         Counterparty                            Amount
------------------------------------------------------------------------
Barclays.....................................................       $7.0
Deutsche Bank................................................        6.4
BNP Paribas..................................................        4.9
Goldman Sachs................................................        4.8
Bank of America..............................................        4.5
HSBC.........................................................        3.3
Citigroup....................................................        2.3
Dresdner Kleinwort...........................................        2.2
Merrill Lynch................................................        1.9
UBS..........................................................        1.7
ING..........................................................        1.5
Morgan Stanley...............................................        1.0
Societe Generale.............................................        0.9
AIG International Inc........................................        0.6
Credit Suisse................................................        0.4
Paloma Securities............................................        0.2
Citadel......................................................        0.2
                                                              ----------
    Total....................................................      $43.8
------------------------------------------------------------------------

    Cash flows generated by assets of ML2, i.e., principal and 
interest from amortization of mortgages and other loans 
underlying the securities, are now being used to pay down the 
loans to this SPV owned by FRBNY.\339\ As of March 31, 2010 
(see Figure 16), the principal balance of the FRBNY loan to ML2 
had decreased by 28 percent from its original level of $19.5 
billion to $15.3 billion. Since the inception of this SPV, 
FRBNY has earned $309 million in accrued and capitalized 
interest from its investments in ML2. Additionally, as of 
December 31, 2009, FRBNY received $55.3 million in proceeds 
from the sales of assets in ML2.\340\ The Federal Reserve 
estimates the market value of ML2 as of March 31, 2010 at $16.2 
billion, slightly above the outstanding FRBNY loan balance of 
$15.3 billion and slightly below the total outstanding 
principal balance, including the $1 billion AIG contribution to 
ML2, meaning that as of the date of the estimate, FRBNY 
anticipated payment in full on its loans, and payment in part 
on AIG's contribution. After repayment of the FRBNY loan, 
remaining funds from ML2 will be used to pay AIG's $1 billion 
subordinated interest and any residual value will be split 
five-sixths to FRBNY, one-sixth to AIG.\341\ The ability of AIG 
to retain some upside was apparently designed to satisfy rating 
agencies.
---------------------------------------------------------------------------
    \339\ Board of Governors of the Federal Reserve System, Federal 
Reserve System Monthly Report on Credit and Liquidity Programs and the 
Balance Sheet, at 17 (Oct. 2009) (online at www.federalreserve.gov/
monetarypolicy/files/monthlyclbsreport200910.pdf) (hereinafter 
``Federal Reserve System Monthly Report'').
    \340\ Maiden Lane II LLC, Financial Statement for the Year Ended 
December 31, 2009, and for the Period October 31, 2008 to December 31, 
2008, and Independent Auditors' Report (Apr. 21, 2010) (online at 
www.fednewyork.org/aboutthefed/annual/annual09/
MaidenLaneIIfinstmt2010.pdf ) (hereinafter ``ML II Financial Statement 
for Year End Dec. 31, 2009'').
    \341\ Federal Reserve Bank of New York, AIG RMBS LLC Facility: 
Terms and Conditions (Dec. 16, 2008) (online at www.newyorkfed.org/
markets/rmbs_terms.html).

 FIGURE 16: OUTSTANDING PRINCIPAL BALANCE OF MAIDEN LANE II AS OF MARCH
                             31, 2010 \342\
                          [Dollars in billions]
------------------------------------------------------------------------
                                 FRBNY Senior         AIG
                                     Loan         Contribution    Total
------------------------------------------------------------------------
Funding, December 12, 2008...            $19.5               $1    $20.5
Accrued and Capitalized                   .309             .044     .353
 Interest....................
Repayments...................            (4.5)               --    (4.5)
                              ------------------------------------------
    Total....................            $15.3               $1   $16.4
------------------------------------------------------------------------
\342\ Credit and Liquidity Programs and the Balance Sheet, supra note
  324; Board of Governors of the Federal Reserve System, Factors
  Affecting Reserve Balances (H.4.1) (Mar. 25, 2010) (online at
  www.federalreserve.gov/releases/h41/) (hereinafter ``Federal Reserve
  H.4.1 Statistical Release'').

4. Maiden Lane III

    Following the initial rescue of AIG via the government's 
extension of an $85 billion line of credit, FRBNY increasingly 
sought a resolution of AIGFP's sizable multisector CDO CDS 
exposure, which had grown to $72 billion as of September 30, 
2008.\343\ The terms of the CDSs required collateral to be 
posted on a decline in market value of the reference 
securities, the CDOs, and also in the event of an AIG ratings 
downgrade. Hence, the rating downgrade of September 15 and the 
ongoing drop in CDO values resulted in collateral calls that 
put severe strain on AIG's liquidity.\344\ At the end of 
September, AIG's management, financial advisors, and legal 
counsel presented certain options to FRBNY and its financial 
advisors ``for addressing the liquidity and mark-to-market 
losses.'' \345\ Also in late October, FRBNY took over from the 
Chief Financial Officer of AIGFP the ongoing negotiations with 
the CDS counterparties through which AIG and FRBNY sought to 
unwind the transactions and eliminate any further financial 
exposure to AIG from this business.\346\ In late October and 
early November, BlackRock Solutions developed three options to 
accomplish this objective.
---------------------------------------------------------------------------
    \343\ Written Testimony of Elias Habayeb, supra note 27, at 3.
    \344\ Collateral calls for AIGFP multi-sector CDOs totaled $16.1 
billion at the end of July. On August 6, 2008, AIGFP announced a 
further $16.5 billion in collateral posting. The S&P rating for AIG was 
downgraded to A- with a negative outlook on September 15, 2008. As a 
result of this downgrade, AIGFP estimated it needed $20 billion to meet 
collateral demands and transaction termination payments. AIGFP was 
subsequently required to fund approximately $32 billion fifteen days 
following this rating downgrade. AIG Form 10-K for FY08, supra note 47, 
at 3-4; Office of the Special Inspector General for the Troubled Asset 
Relief Program, Quarterly Report to Congress, at 140-141 (Oct. 21, 
2009) (online at www.sigtarp.gov/reports/congress/2009/
October2009_Quarterly_Report_to_Congress.pdf).
    \345\ Written Testimony of Elias Habayeb, supra note 27, at 7.
    \346\ Written Testimony of Elias Habayeb, supra note 27, at 8-9.
---------------------------------------------------------------------------
    The first option developed by BlackRock Solutions would 
have required AIGFP's counterparties to cancel their credit 
default swap contracts and retain some of the risk in the 
underlying CDOs. This would be accomplished by having the 
counterparties sell the underlying CDOs to an SPV funded 
jointly by FRBNY, AIG and the counterparties themselves, with 
counterparties' interest subordinate to that of FRBNY. The 
problems with this option were the intensive work required to 
negotiate the arrangements with each counterparty and the lack 
of incentive for the counterparties to retain long term 
exposure to the performance of the CDOs through the 
subordinated loan to the SPV.
    The second option entailed creation of an SPV to assume 
AIG's position in the CDS contracts with performance by the SPV 
guaranteed by FRBNY. The counterparties would agree to give up 
the right to make further collateral calls in return for 
FRBNY's assurance against further loss in value of the CDOs. 
This option would have conferred no benefit to AIG's 
counterparties other than strengthening the credit quality of 
their CDSs. However, the result of the enhanced credit quality 
of the CDS would have required counterparties to return part of 
the collateral to the SPV which was replacing AIG. FRBNY chose 
not to pursue this option because of concerns about the open-
ended taxpayer exposure through the FRBNY guarantee and legal 
impediments to the Federal Reserve's ability to provide the 
broad guarantee contemplated in this arrangement.\347\ It 
appears that there was some discussion of using the TARP to 
provide a guarantee; in the end, the TARP was not used for this 
purpose.
---------------------------------------------------------------------------
    \347\ Written Testimony of Elias Habayeb, supra note 27, at 3, 7. 
For a description of other options considered, see Testimony of Thomas 
C. Baxter, supra note 319, at 7-11. See also Office of the Special 
Inspector General for the Troubled Asset Relief Program, Factors 
Affecting Efforts to Limit Payments to AIG Counterparties, at 13-14 
(Nov. 17, 2009) (online at sigtarp.gov/reports/audit/2009/
Factors_Affecting_Efforts_to_Limit_Payments_to_AIG_Counterparties.pdf).
---------------------------------------------------------------------------
    Ultimately, FRBNY recommended, and the Federal Reserve and 
Treasury agreed, that the best option would be to have FRBNY, 
through an SPV, purchase the CDOs underlying the credit swap 
contracts from the counterparties and thereby extinguish those 
contracts. The selection of this option led to the 
counterparties permanently keeping $35 billion in cash 
collateral and in effect receiving the entire notional amount 
of the CDOs at a time when the market value for those CDOs was 
less than one half of that amount. Although taxpayers were 
exposed to downside risk in this arrangement, they also 
retained rights to the upside; the government however, as 
approximately 80 percent owner of AIG, participated in the 
losses which the $35 billion in collateral represented. At the 
same time, this arrangement terminated the CDS contracts and 
the ongoing liquidity pressure on AIG they were generating.
    Hence, on November 10, 2008, the Federal Reserve authorized 
FRBNY to lend up to $30 billion to Maiden Lane III (ML3), a 
newly created SPV, to purchase the relevant CDOs.\348\ In 
total, FRBNY loaned ML3 $24.3 billion, and AIG made a $5 
billion equity investment in ML3. ML3 then purchased the CDOs 
from 16 of AIG's counterparties at a market value of about 
$27.2 billion.\349\ The counterparties kept the $35 billion 
cash collateral they had already received from AIG in earlier 
collateral calls, and agreed to terminate AIG's CDS contracts. 
The combination of market value payments and cash collateral 
approximated the par value of the CDS contracts, or $62 
billion.
---------------------------------------------------------------------------
    \348\ Written Testimony of Elias Habayeb, supra note 27, at 8-10. 
For instance, on November 25, 2008, FRBNY made a senior loan to ML3 of 
$15 billion, and AIG made a $5 billion equity investment in ML3. See 
Board of Governors of the Federal Reserve System, Factors Affecting 
Reserve Balances (H.4.1) (Nov. 28, 2008) (online at 
www.federalreserve.gov/Releases/H41/20081128/). Actual transactions 
subsequently occurred on November 25, December 18, and December 22, 
2008.
    \349\ ML II Financial Statement for Year End Dec. 31, 2009, supra 
note 340, at 4.
---------------------------------------------------------------------------
    All CDOs owned by ML3 were based on cash assets; no 
synthetic CDOs were accepted for inclusion in this SPV. 
Further, ML3 did not acquire all the CDSs of AIGFP. Regulatory 
filings reveal that, on December, 31 2008, AIG was left with 
roughly $12.5 billion of potentially risky multi-sector CDOs 
that were excluded from a larger $62.1 billion purchase by ML3. 
The multi-sector CDOs that remained on AIG's books were either 
largely or entirely synthetics. In the fourth quarter of 2008, 
AIGFP's synthetic multi-sector CDOs had a net notional value of 
$9.8 billion, according to documents subpoenaed from the 
Federal Reserve and later shared with the Panel.\350\
---------------------------------------------------------------------------
    \350\ In the fourth quarter of 2008, CDS written on synthetic 
positions required the insurer to post approximately $3.0 billion of 
collateral on the aforementioned notional amount of $9.8 billion of 
synthetics. The larger figure ($12.5 billion) reported in AIG's SEC 
filings decreased to $12.0 billion net notional amount in the first 
quarter of 2009, and decreased further in the first quarter of 2010 to 
$7.6 billion. Spreadsheet provided to the Panel by FRBNY showing AIGFP 
multi-sector CDS as of Nov. 5, 2008 (FRBNY-TOWNS-R1-171934); AIG Form 
10-K for FY08, supra note 47, at 41
---------------------------------------------------------------------------
    As reflected in the $35 billion in payments noted above, 
both prior to receiving the federal bailout on September 16 and 
during the interim period when government assistance was 
limited to the RCF, AIG had made cash collateral payments to 
the counterparties. For example, as seen in Figure 17, the 
largest purchaser of credit protection on its CDO exposure, 
Societe Generale, received a total of $16.5 billion in full 
satisfaction of its contracts. These payments consisted of $5.5 
billion received in the months prior to any government 
assistance being provided to AIG; $4.1 billion received between 
September 16 and November 10; and $6.9 billion from ML3, which 
was announced on November 10 and whose first closing occurred 
on December 3.
    This example serves to illustrate the point that through 
the combination of collateral payments and the purchase of CDOs 
by ML3, FRBNY assured that counterparties in these cases 
received 100 percent of the notional value of their CDSs.\351\ 
Although one counterparty, UBS, agreed to a 2 percent 
concession if the other counterparties took this haircut, FRBNY 
was not able to negotiate a concession with the other 
counterparties.\352\ The report of SIGTARP notes there were a 
number of policy considerations that limited FRBNY's ability to 
secure concessions from AIG's CDS counterparties. The report 
states that FRBNY was unwilling to use its role as a regulator 
to compel haircuts from the institutions it oversaw. FRBNY also 
decided against any attempts to interfere with the sanctity of 
the contracts AIG had executed with its counterparties as well 
as refusing to threaten a possible bankruptcy of AIG since it 
never intended to allow the firm to collapse. Finally, FRBNY 
was concerned that imposed concessions by the counterparties 
would be negatively viewed by the rating agencies. Mr. Barofsky 
concludes that while these concerns were valid, these decisions 
greatly hampered any possibility of concessions from the 
counterparties.\353\
---------------------------------------------------------------------------
    \351\ Amounts actually paid were in excess of par to compensate for 
``the economic costs borne by the counterparties'', i.e., the charges 
paid ``to break financing arrangement to deliver the bonds'' and 
``forgone income'' related to the lower interest that could be earned 
by reinvesting the cash collateral relative to the interest rates paid 
on that collateral to AIGFP.
    \352\ House Committee on Oversight and Government Reform, Written 
Testimony of Neil Barofsky, special inspector general for the Troubled 
Asset Relief Program, The Federal Bailout of AIG, at 5 (Jan. 27, 2010) 
(online at oversight.house.gov/images/stories/Hearings/
Committee_on_Oversight/2010/012710_AIG_Bailout/
Testimony_Jan_27_2010_House_Committee_on_Oversight_and_Government_Reform
.pdf). For further discussion, please reference section below.
    \353\ SIGTARP Report on AIG Counterparties, supra note 246, at 29.
---------------------------------------------------------------------------
    Indeed, in the course of settlement of the ML3 purchases, 
the SPV returned $2.5 billion in collateral overpayments to 
AIGFP. In the table below, ``pre-govt'' refers to counterparty 
payments made before September 16, 2008.

                    FIGURE 17: MAIDEN LANE III RELATED PAYMENTS TO AIGFP COUNTERPARTIES \354\
                                              [Dollars in billions]
----------------------------------------------------------------------------------------------------------------
                                                               Collateral
                  Counterparty                  ---------------------------------------     ML3         Total
                                                   Pre-Govt     Post-RCF       Net
----------------------------------------------------------------------------------------------------------------
Societe Generale...............................         $5.5         $4.1         $9.6         $6.9        $16.5
Goldman Sachs..................................          5.9          2.5          8.4          5.6         14.0
Deutsche Bank..................................          3.1          2.6          5.7          2.8          8.5
Merrill Lynch..................................          1.3          1.8          3.1          3.1          6.2
Calyon.........................................          2.0          1.1          3.1          1.2          4.3
UBS............................................          0.5          0.8          1.3          2.5          3.8
DZ Bank........................................          0.1          0.7          0.8          1.0          1.8
Barclays.......................................          0.0          0.9          0.9          0.6          1.5
Bank of Montreal...............................          0.3          0.2          0.5          0.9          1.4
Royal Bank of Scotland.........................          0.4          0.2          0.6          0.5          1.1
Wachovia.......................................        (0.5)          0.7          0.2          0.8          1.0
Bank of America................................          0.1          0.2          0.3          0.5          0.8
Rabobank.......................................        (0.2)          0.5          0.3          0.3          0.6
Dresdner Bank..................................          0.0          0.0          0.0          0.4          0.4
HSBC Bank......................................          0.0          0.2          0.2          0.0          0.2
LBW............................................          0.0          0.0          0.0          0.1          0.1
                                                ----------------------------------------------------------------
    Total......................................        $18.5        $16.5        $35.0        $27.2       $62.2
----------------------------------------------------------------------------------------------------------------
\354\ ``Pre-Govt'' refers to counterparty payments made prior to September 16, 2008. ``Post-RCF'' refers to
  payments made during the period from September 16 through November 9, 2008. The Post-RCF total excludes
  payments of $5.9 billion made on September 16 and thereafter to counterparties other than those that received
  payments from Maiden Lane III and listed in this table.

    As in the case of ML2, cash flows generated by ML3 are now 
being used to pay down FRBNY's loans to the SPV.\355\ As of 
March 31, 2010 (see Figure 18), the principal amount 
outstanding under the FRBNY loan to ML3 had decreased to $17.3 
billion from its original level of $24.3 billion, a 40 percent 
reduction. Since the inception of this SPV, FRBNY has earned 
$390 million in accrued and capitalized interest from its 
investments in ML3. As of December 31, 2009, FRBNY had received 
$1.8 million in proceeds from the sales of assets in ML3.\356\ 
The Federal Reserve estimates the market value of ML3 as of 
March 31, 2010 at $23.7 billion, well above the outstanding 
FRBNY loan balance of $17.3 billion and in excess of the total 
principal balance, including the $5.2 billion AIG equity 
contribution to ML3. After repayment of the loan to FRBNY, 
remaining funds from ML3 will be paid 2/3 to FRBNY and 1/3 to 
AIG.\357\
---------------------------------------------------------------------------
    \355\ Federal Reserve System Monthly Report, supra note 339, at 17.
    \356\ Federal Reserve Bank of New York, Maiden Lane III LLC 
Financial Statements for the Year Ended December 31, 2009, and for the 
Period October 31, 2008 to December 31, 2008, and Independent Auditor's 
Report, at 7 (Apr. 21, 2010) (online at www.newyorkfed.org/aboutthefed/
annual/annual09/MaidenLaneIIIfinstmt2010.pdf).
    \357\ Federal Reserve Bank of New York, AIG CDO LLC Facility: Terms 
and Conditions (Dec. 3, 2008) (online at www.newyorkfed.org/markets/
aclf_terms.html).

 FIGURE 18: OUTSTANDING PRINCIPAL BALANCE OF MAIDEN LANE III AS OF MARCH
                             31, 2010 \358\
                          [Dollars in billions]
------------------------------------------------------------------------
                                 FRBNY Senior         AIG
                                     Loan         Contribution    Total
------------------------------------------------------------------------
Funding, November 25, 2008...            $15.1               $5   $20,.1
Funding, December 18, 2009...              9.2               --      9.2
                              ------------------------------------------
    Funding subtotal.........             24.3                5     29.3
Accrued and capitalized                   .390             .231     .621
 interest....................
Repayments...................            (7.4)               --    (7.4)
                              ------------------------------------------
        Principal Balance....            $17.3             $5.2   $22.5
------------------------------------------------------------------------
\358\ Credit and Liquidity Programs and the Balance Sheet, supra note
  324; Federal Reserve H.4.1 Statistical Release, supra note 342.

5. Additional Assistance and Reorganization of Terms of Original 
        Assistance: March and April 2009

    Although ML2, ML3, and Treasury's TARP initial capital 
infusion helped relieve AIG's financial pressures, asset 
valuations continued to decline, and AIG's losses increased 
through the end of 2008. The company reported a net loss of 
$61.7 billion for the fourth quarter of 2008 on March 2, 2009, 
capping off a year in which AIG incurred approximately $99 
billion in total net losses. A substantial contributor to AIG's 
loss was the significant loss on investment holdings of AIG's 
insurance subsidiaries in the fourth quarter of 2008, which 
totaled $18.6 billion pre-tax. AIGFP suffered continuing losses 
of $16.2 billion as well during that quarter.
    These losses raised the prospect of another round of rating 
agency downgrades and collateral calls that would require 
further cash postings from AIG. In response, the Federal 
Reserve and Treasury announced on March 2, 2009, that they 
would again restructure their existing aid to AIG and provide 
additional assistance. As with the November 2008 restructuring, 
this decision was driven by the recognition that AIG faced 
increasing pressure on its liquidity following a downgrade in 
its credit ratings and the real risk of further 
downgrades.\359\ FRBNY and Treasury have stated that 
restructuring was also necessary to stabilize AIG and to 
protect financial markets and the existing investment.\360\
---------------------------------------------------------------------------
    \359\ Testimony of Sec. Geithner, supra note 11, at 8.
    \360\ See U.S. Department of the Treasury, U.S. Treasury and 
Federal Reserve Board Announce Participation in AIG Restructuring Plan 
(Mar. 2, 2009) (online at www.financialstability.gov/latest/tg44.html) 
(hereinafter ``Participation in AIG Restructuring Plan''). See also 
House Committee on Financial Services, Written Testimony of William C. 
Dudley, president and chief executive officer, Federal Reserve Bank of 
New York, Oversight of the Federal Government's Intervention at 
American International Group, at 5 (Mar. 24, 2009) (online at 
www.house.gov/apps/list/hearing/financialsvcs_dem/hr03240923.shtml).
---------------------------------------------------------------------------
    Under the March restructuring, Treasury substantially 
increased its involvement in AIG, with the goal of improving 
AIG's financial leverage. First, Treasury announced a new five-
year standby $29.8 billion TARP preferred stock facility, which 
would allow AIG to make draw-downs as needed.\361\ As AIG draws 
on this facility, the aggregate liquidation preference for 
Treasury's preferred stock is adjusted upward. Treasury also 
exchanged its November 2008 cumulative preferred stock interest 
for noncumulative preferred stock, which more closely resembles 
common stock and is, therefore, more favorably looked upon by 
the credit rating agencies.\362\ By relaxing the dividend 
requirement on its preferred shares with no offsetting increase 
in principal owed, the exchange effected a concession to AIG 
and served to improve its financial leverage.
---------------------------------------------------------------------------
    \361\ See Participation in AIG Restructuring Plan, supra note 360; 
U.S. Department of the Treasury, Troubled Asset Relief Program 
Transaction Report for Period Ending June 2, 2010, at 20 (June 6, 2010) 
(online at www.financialstability.gov/docs/transaction-reports/6-4-
10%20Transactions%20Report%20as%20of%206-2-10.pdf) (creating a $30 
billion facility; this facility was reduced by $165 million, 
representing bonuses paid to AIG Financial Products employees).
    \362\ Noncumulative preferred stock is more like common stock 
largely because its dividends are non-cumulative, which means that when 
the company fails to make dividend payments, the payments do not 
accumulate for later payment. Participation in AIG Restructuring Plan, 
supra note 360.
---------------------------------------------------------------------------
    FRBNY also took several actions at this time with respect 
to the terms and structure of the RCF. First, it announced the 
creation of SPVs for American International Assurance Company, 
Limited (AIA) and American Life Insurance Company (ALICO), two 
of AIG's foreign insurance company subsidiaries, through which 
AIG would contribute the equity of AIA and ALICO in exchange 
for preferred and common interests in the SPVs. AIG would then 
transfer the preferred interests in the SPVs to FRBNY in 
exchange for a $25 billion reduction in the outstanding balance 
of the RCF, to $35 billion. In doing so, FRBNY essentially 
provided another bailout to AIG by purchasing these two 
subsidiaries and thereby improving its balance sheet. Second, 
FRBNY further relaxed the interest rate terms on amounts 
borrowed under the RCF.\363\ The combined effect of these 
changes was to save AIG $1 billion in interest costs per year. 
While FRBNY will receive less compensation for its risk 
exposure, FRBNY concluded that restructuring the terms was in 
the government's long-term interest, especially in light of 
AIG's continued reliance on the RCF to pay its continuing 
obligations.\364\
---------------------------------------------------------------------------
    \363\ As noted in Figure 1, the previous terms implemented in 
November 2008 called for an interest rate of LIBOR plus 3 percent, with 
a floor of 3.5 percent. In April 2009 the floor was eliminated.
    \364\ See Participation in AIG Restructuring Plan, supra note 360.
---------------------------------------------------------------------------
    While Treasury and FRBNY negotiated the formal terms of the 
restructuring throughout March, employee retention payments at 
AIGFP attracted congressional scrutiny and public 
animosity.\365\ At the same time, Treasury and the Federal 
Reserve Board worked with outside counsel to consider a Chapter 
11 filing, as one of several options.\366\
---------------------------------------------------------------------------
    \365\ See Section J, infra, for a discussion of Executive 
Compensation.
    \366\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
---------------------------------------------------------------------------
    On April 17, 2009, AIG and Treasury executed the 
restructuring and additional equity purchase announced in 
March.\367\ Although the $40 billion in preferred equity was 
converted into non-cumulative preferred stock, this investment 
cannot be fully redeemed until AIG repays the $1.6 billion in 
missed dividends associated with the preferred stock that 
Treasury acquired in November 2008.\368\ Under the April 2009 
purchase agreement, Treasury committed to invest up to $29.835 
billion in AIG preferred stock with warrants,\369\ of which 
$7.5 billion had been drawn down as of February 17, 2010.\370\
---------------------------------------------------------------------------
    \367\ Specifically, the parties entered into the Series E Exchange 
Agreement (to exchange Series D Cumulative Preferred Stock for Series E 
Non-Cumulative Preferred Stock) and the Series F Purchase Agreement. 
American International Group, Inc., Form 10-Q for the Quarterly Period 
Ended March 31, 2009, at 11 (May 7, 2009) (online at www.sec.gov/
Archives/edgar/data/5272/000095012309008272/y76976e10vq.htm) 
(hereinafter ``AIG Form 10-Q for the First Quarter 2009'').
    \368\ U.S. Department of the Treasury, Troubled Asset Relief 
Program Transactions Report for Period Ending April 14, 2010, at 18 
(Apr. 16, 2010) (online at www.financialstability.gov/docs/transaction-
reports/4-16-10%20Transactions%20Report%20as%20of%204-14-10.pdf) 
(hereinafter ``Treasury Transactions Report'').
    \369\ On April 17, 2009, Treasury provided additional assistance to 
AIG and restructured its original investment. In consideration for its 
investment through the Series D preferred shares Treasury received 2 
percent of the issued and outstanding common stock on the original 
investment date of November 25, 2008. Following AIG's stock split on 
June 30, 2009, this represented 2,689,938.3 shares and has a strike 
price of $50. As part of its purchase of Series F preferred stock, 
Treasury received 150 common stock warrants, representing 3,000 common 
shares, with an exercise price of $0.00002. Office of the Special 
Inspector General for the Troubled Asset Relief Program, Quarterly 
Report to Congress, at 46 (Apr. 20, 2010) (online at www.sigtarp.gov/
reports/congress/2010/April2010_Quarterly_Report_to_Congress.pdf) 
(hereinafter ``SIGTARP Quarterly Report to Congress''); Treasury 
conversations with Panel staff (June 2, 2010).
    \370\ This represents Treasury's commitment of $30 billion, less 
$165 million ``representing retention payments AIG Financial Products 
made to its employees in March 2009.'' Treasury Transactions Report, 
supra note 368, at 18.
---------------------------------------------------------------------------
    A summary of the Treasury's holding of preferred stock is 
shown in the following table.

                                  FIGURE 19: TREASURY'S PREFERRED SHARES IN AIG
----------------------------------------------------------------------------------------------------------------
                                                        Par Value as of
              Type                   Date Acquired       June 7, 2010        Dividend Rate      Comment/Status
----------------------------------------------------------------------------------------------------------------
Series C Preferred..............  September 16, 2008  $23.8 billion.....  None..............  Fully tethered to
                                                                                               AIG stock price
Series D Preferred..............  November 25, 2008.  $0 ($1.6 billion    10 percent          No longer in
                                                       is outstanding      quarterly,          existence;
                                                       from unpaid         cumulative.         exchanged for
                                                       dividends).                             Series E
                                                                                               Preferred
Series E Preferred..............  April 17, 2009....  $40.0 billion.....  10 percent          Replaced Series D
                                                                           quarterly, non-     Preferred
                                                                           cumulative.
Series F Preferred..............  April 17, 2009....  $7.5 billion......  10 percent          Par value will
                                                                           quarterly, non-     increase as AIG
                                                                           cumulative.         draws down more
                                                                                               funds
----------------------------------------------------------------------------------------------------------------

6. Government's Ongoing Involvement in AIG

            a. Status of Further Assistance
    Since the restructuring of federal assistance in March and 
April 2009, there have been no further significant changes in 
the government's financial support for AIG. As previously 
announced in March 2009, on December 1, 2009 AIG entered into 
an agreement with FRBNY to reduce the debt AIG owed FRBNY, 
which on that date stood at $45.1 billion, by $25 billion.\371\ 
In exchange, FRBNY received $25 billion of preferred equity 
interests in two SPVs that in turn held the equity of two 
foreign AIG subsidiaries, AIA and ALICO. FRBNY received 
preferred interests of $16 billion in the AIA SPV and $9 
billion in the ALICO SPV. Dividends for these investments 
accrue as a percentage of FRBNY's preferred positions and are 
capitalized and added to FRBNY's preferred interests.\372\ As 
of May 27, 2010, the book value of FRBNY's preferred 
investments, including accrued dividends, in the AIA SPV and 
the ALICO SPV are $16.4 billion and $9.2 billion, 
respectively.\373\ AIG has announced that it intends to 
continue positioning AIA and ALICO for either an initial public 
offering or a third-party sale.\374\
---------------------------------------------------------------------------
    \371\ The data for the level of the RCF at the time of the 
restructuring is as of November 25, 2009. This is the last reporting 
date prior to the restructuring. American International Group, Inc., 
AIG Closes Two Transactions That Reduce Debt AIG Owes Federal Reserve 
Bank of New York by $25 Billion (Dec. 1, 2009) (online at 
phx.corporateir.net/
External.File?item=UGFyZW50SUQ9MjE4ODl8Q2hpbGRJRD0tMXxUeXBlPTM=&t=1) 
(hereinafter ``AIG Closes Two Transactions''); Federal Reserve H.4.1 
Statistical Release, supra note 342.
    \372\ Federal Reserve H.4.1 Statistical Release, supra note 2. 
(``Dividends accrue as a percentage of the FRBNY's preferred interests 
in AIA Aurora LLC and ALICO Holdings LLC. On a quarterly basis, the 
accrued dividends are capitalized and added to the FRBNY's preferred 
interests in AIA Aurora LLC and ALICO Holdings LLC'').
    \373\ Federal Reserve H.4.1 Statistical Release, supra note 2.
    \374\ AIG Closes Two Transactions, supra note 371 (``These 
transactions advance AIG's goal of positioning two of the company's 
leading international life insurance franchises, American International 
Assurance Company, Limited (AIA) and American Life Insurance Company 
(ALICO), for initial public offerings or third party sale, depending on 
market conditions and subject to customary regulatory approvals'').
---------------------------------------------------------------------------
    As of May 27, 2010, the total amount of funds invested in 
AIG by the United States government, through both FRBNY and the 
TARP, was approximately $132.4 billion. There was $83.3 billion 
provided by FRBNY outstanding as of that date across four 
different initiatives. $26.1 billion was outstanding under the 
RCF as of May 27, 2010, a 64 percent decrease from the 
$72.3billion outstanding under the facility on October 22, 
2008. ML2 and ML3 owe FRBNY $14.9 billion and $16.6 billion, 
respectively. FRBNY also owns a total of $25.6 billion of 
preferred interests and accrued dividends on in the AIA SPV and 
the ALICO SPV. Finally, the TARP currently owns $49.1 billion 
in AIG preferred stock as a result of the initial $40 billion 
investment, $1.6 billion in unpaid dividends associated with 
this investment, and $7.54 billion of draw-downs from the $30 
billion facility provided to AIG on April 17, 2009. The value 
of these holdings, and the cashflow generated by them, is 
discussed in more detail in Section H below.

  FIGURE 20: BREAKDOWN OF U.S. GOVERNMENT INVESTMENT IN AIG OVER TIME 
                                 \375\

      
---------------------------------------------------------------------------
    \375\ Federal Reserve H.4.1 Statistical Release, supra note 342; 
U.S. Department of the Treasury, TARP Transaction Reports (Dec. 31, 
2008_May 27, 2010) (online at www.financialstability.gov/latest/
reportsanddocs.html); AIG Form 10-K for FY09, supra note 50, at 45. 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


            b. AIG Trust
    As discussed earlier in this section, FRBNY received a 77.9 
percent equity interest in AIG ``for Treasury'' \376\ in return 
for providing the company with access to an $85 billion credit 
facility. On January 16, 2009, FRBNY announced the formation of 
a trust--called the AIG Credit Facility Trust (AIG Trust)--to 
oversee this equity interest ``in the best interests of the 
U.S. Treasury.'' According to the trust agreement, the trustees 
must aim to dispose of this interest ``in a value maximizing 
manner'' and may not dispose of the stock without receiving 
approval from FRBNY, which may not grant its approval without 
first consulting with Treasury.\377\
---------------------------------------------------------------------------
    \376\ See discussion in Annex IV.
    \377\ Federal Reserve Bank of New York, AIG Credit Facility Trust 
Agreement, at 8 (Jan. 22, 2009) (online at www.newyorkfed.org/
newsevents/news/markets/2009/AIGCFTAgreement.pdf) (hereinafter ``AIG 
Credit Facility Trust Agreement'').
---------------------------------------------------------------------------
    FRBNY initially named three individuals to serve as 
trustees: Jill M. Considine, former chairman of the Depository 
Trust & Clearing Corporation; Chester B. Feldberg, former 
chairman of Barclays Americas; and Douglas L. Foshee, president 
and chief executive officer of El Paso Corporation. These 
trustees would be able to exercise control over the shares, but 
they would neither occupy a seat on the company's board nor 
supervise day-to-day management of the company. In announcing 
the formation of the trust, FRBNY emphasized that in order to 
avoid conflicts of interest that could result from its 
regulatory responsibilities, it would have no ``discretion or 
control over the voting and consent rights associated with the 
equity interest in AIG.'' \378\ On February 26, 2010, FRBNY 
announced that Peter A. Langerman, chairman, president, and 
chief executive officer of the Mutual Series fund group of 
Franklin Templeton Investments, would replace Mr. Foshee.\379\
---------------------------------------------------------------------------
    \378\ Federal Reserve Bank of New York, Statement Regarding 
Establishment of the AIG Credit Facility Trust (Jan. 16, 2009) (online 
at www.newyorkfed.org/newsevents/news/markets/2009/an090116.html). See 
also AIG Credit Facility Trust Agreement, supra note 377, at 2.
    \379\ See Federal Reserve Bank of New York, Statement Regarding 
Appointment of New Trustee to AIG Credit Facility Trust (Feb. 26, 2010) 
(online at www.newyorkfed.org/newsevents/news/markets/2010/
an100226.html).
---------------------------------------------------------------------------
    AIG continues to operate with a CEO and corporate board 
and, as delineated in AIG's corporate governance guidelines, 
AIG management submits regular reports to its board that detail 
the company's performance, as well as ``significant events, 
issues and risks'' that may affect performance.\380\ The 
company's Corporate Governance Guidelines also specify that the 
number of seats on the board may fluctuate between eight and 
12, but it permits exceptions when a larger or smaller size is 
``necessary or advisable in periods of transition or other 
particular circumstances.'' The board currently has 13 
directors. At least two-thirds of the directors must be 
independent, and these independent directors select the 
chairman.\381\
---------------------------------------------------------------------------
    \380\ See American International Group, Inc., Corporate Governance 
Guidelines (Apr. 7, 2010) (online at www.aigcorporate.com/
corpgovernance/CorporateGovernanceGuidelines.pdf) (hereinafter ``AIG 
Corporate Governance Guidelines'') (``The Board, the Finance and Risk 
Management Committee and the Audit Committee receive reports on AIG's 
significant risk exposures and how these exposures are managed. AIG's 
Chief Risk Officer provides reports to the Compensation and Management 
Resources Committee with respect to the risks posed to AIG by its 
employee compensation plans'').
    \381\ Id.
---------------------------------------------------------------------------
    When AIG failed to pay dividends for four consecutive 
quarters on preferred stock held by Treasury, Treasury received 
the right to appoint two directors to the Board. It exercised 
this right on April 1, 2010, appointing Donald H. Layton, 
former Chairman and CEO of E*Trade and Ronald A. Rittenmeyer, 
former Chairman, President, and CEO of Electronic Data 
Systems.\382\
---------------------------------------------------------------------------
    \382\ See U.S. Department of the Treasury, Treasury Names Two 
Appointees to AIG'S Board of Directors (Apr. 1, 2010) (online at 
www.ustreas.gov/press/releases/tg623.htm).
---------------------------------------------------------------------------

           E. The Impact of the Rescue: Where the Money Went

    The decision to force a failing institution into bankruptcy 
triggers a number of rules and processes, many of which are 
automatic.\383\ The claims of some creditors are stayed,\384\ 
and established rules let the creditors decide whether to seek 
to liquidate the failing business and distribute its assets, or 
to continue it as a going concern.\385\ The creditors agree to 
a plan of reorganization, which is then presented to a 
bankruptcy court for approval.\386\ Shareholders are wiped out, 
secured creditors look to their collateral, and unsecured 
creditors may suffer significant losses. The person running the 
business, who may be a trustee but is more likely to be the 
DIP, may seek financing from a DIP lender, whose lending has 
preference over other claims.\387\ The DIP lender has 
significant leverage over the business and will generally be in 
a position to decide which commercial contracts will be 
continued and which terminated. As discussed above and in more 
detail in Annex VIII, the process is complicated for non-
depository financial institutions by the fact that certain 
kinds of financial contracts are not subject to an automatic 
stay, which makes bankruptcy a less complete solution for such 
companies. The result of the bankruptcy process in general, 
however, is that unsecured creditors are unlikely to receive 
the full amount of their claims, and they will not all be 
treated the same: some will do better in the process than 
others.
---------------------------------------------------------------------------
    \383\ The bank resolution process triggers a similar set of rules 
and processes.
    \384\ Parties to various ``financial contracts'' are exempt from 
the automatic stay and receive certain protections including their 
ability to close their contracts, exercise contractual rights such as 
the ability to collect previously posted collateral, offset or net out 
other obligations, and assert deficiency claims, if any. See, e.g., 11 
U.S.C. Sec. Sec. 101, 362(b)(6)-(7), 362(b)(17), 362(b)(27), 362(o), 
546(e)-(g), 546(j), 553, 555, 556, 559, 560, 561.
    \385\ Creditors can literally force a debtor into an involuntary 
bankruptcy under certain conditions. See 11 U.S.C. Sec. 303 (explaining 
the process for involuntary bankruptcies). Mounting creditor claims and 
collateral calls may also cause the debtor to voluntarily file for 
bankruptcy and choose whether to reorganize or liquidate under Chapter 
11 or whether to liquidate under Chapter 7.
    \386\ See 11 U.S.C. 1129 (providing plan confirmation 
requirements). It should be noted that Chapter 11 includes a ``cram 
down'' provision that allows the bankruptcy court to confirm a 
bankruptcy plan over the objection of some creditors in certain 
circumstances (e.g., as long as one class of impaired creditors has 
accepted the plan, and the plan ``does not discriminate unfairly, and 
is fair and equitable'' to each class of impaired, dissenting 
creditors). See 11 U.S.C. Sec. 1129(b).
    \387\ Generally, if the debtor seeks, or the creditors force the 
debtor into Chapter 11 bankruptcy proceedings, a trustee can be 
appointed or the debtor can remain in possession of the company during 
the reorganization or liquidation process. See 11 U.S.C. Sec. 1105 
(providing that the court can terminate the trustee and restore the 
debtor to possession); 11 U.S.C. Sec. 1107 (explaining rights, powers, 
and duties of a DIP). Cf. 11 U.S.C. Sec. Sec. 701-704, 721 (explaining 
that only a trustee can operate the business in Chapter 7). A DIP 
usually seeks financing (a ``DIP loan'') at the outset to provide cash 
or working capital during the bankruptcy proceedings and to provide 
some confidence to those necessary for a successful reorganization such 
as vendors, customers, and employees. The DIP lender receives a lien 
that has priority over pre-bankruptcy secured creditors (upon their 
consent), administrative expenses incurred during bankruptcy, and all 
other claims. See 11 U.S.C. Sec. 364(c) (providing priority over 
administrative expenses, which have priority over other unsecured 
claims); 11 U.S.C. Sec. 364(d) (allowing a priming lien or priority 
over existing liens).
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    The government's decision to rescue AIG in full rather than 
consider any alternatives is discussed in more detail 
below.\388\ If AIG had sought bankruptcy protection and the 
government had become the DIP lender, as was the case in the 
bankruptcies of the automotive companies, it would have been in 
a powerful position to reorganize AIG's business and 
obligations and terminate commercial contracts.\389\ It did not 
do so, however, and that choice had significant consequences in 
two respects.
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    \388\ For additional discussion of the government's decision to 
intervene, see Section C.2.
    \389\ See Congressional Oversight Panel, September Oversight 
Report: The Use of TARP Funds in the Support and Reorganization of the 
Domestic Automotive Industry, at 44-45, 49, 111-12 (Sept. 9, 2009) 
(online at cop.senate.gov/documents/cop-090909-report.pdf) (hereinafter 
``September Oversight Report'').
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    First, the choice made by the government meant that it 
could no longer condition financial assistance on the 
willingness of AIG's creditors to accept discounts or other 
losses in performing under or closing out their contracts with 
AIG.\390\ Bankruptcy law is designed to force creditors to take 
discounts or other losses under extant contracts. That being 
the case, the threat of bankruptcy--negotiating in the shadow 
of bankruptcy--also carries enormous power. As discussed in 
more detail below, the government did not use that power, with 
the result that all creditors were paid in full. This issue has 
received the most attention insofar as it relates to the CDS 
counterparties whose holdings were purchased by ML3. Those 
counterparties, however, only received $27.1 billion of the 
monies that AIG and related entities received from the 
government. The counterparties to other instruments and 
obligations have received larger sums, in total, as a result of 
the government's assistance to AIG.
---------------------------------------------------------------------------
    \390\ Only in bankruptcy or equivalent proceedings can parties to a 
contract be made to accept less than they are owed under a contract. If 
a party does not voluntarily accept less than it is owed, then a 
default under the contract exists, and the aggrieved party may sue 
under the law of the jurisdiction governing the contract. Cross-default 
provisions may be triggered by the default. It should be noted that at 
the time of the AIG rescue, AIG was attempting to negotiate with its 
creditors to reduce its obligations. These negotiations apparently 
ended once creditors realized that the government was going to rescue 
AIG.
---------------------------------------------------------------------------
    AIG had run out of money, and it was able to make payments 
under all these claims only due to the intervention of the 
government. Paying less than the full amount owed would have 
amounted to contractual defaults that would likely have 
triggered the bankruptcy that the government was trying to 
avoid.\391\ The only way to avoid this consequence would have 
been for every single creditor that had a contract big enough 
to trigger cross-default provisions with AIG and that the 
government wished to accept concessions to agree voluntarily to 
accept less than it was owed. Once the government made clear 
that it was committed to the wholesale rescue of AIG, however, 
as discussed in more detail in Section F, it lost the 
significant leverage it might have had over the thousands of 
AIG creditors. This course of action particularly benefitted 
those parties that would have fared worse in a bankruptcy--
small unsecured creditors--as opposed to the ML3 
counterparties, whose claims would have enjoyed a privileged 
position in bankruptcy.\392\ The ML3 counterparties were not 
the only, or even the largest, counterparties to AIG credit 
instruments to be paid off in full.
---------------------------------------------------------------------------
    \391\ A cross-default is a common provision in loan and other 
credit agreements that provides that the obligor will default under the 
contract in question, despite otherwise being in compliance with its 
terms, if it defaults under one or more other agreements. The purpose 
of the cross-default is to permit a creditor to ``accelerate'' its 
claim (declare the whole amount of the loan or obligation to be due) 
when the debtor starts to show signs of distress by defaulting on 
another contract, so that the creditor can get in line with other 
creditors and pursue its claims, rather than having to wait till 
amounts on its own contracts become payable and are defaulted on. The 
dollar amount at which a default will cause a cross-default is usually 
set so that a cross-default will not occur inadvertently or by reason 
of a non-material default.
    \392\ Bankruptcy law is premised on an automatic stay to protect 
the assets of the business and to hold them while negotiations take 
place with creditors. This protects the failing business from the kind 
of bank run that would end its life in moments and it often forces 
creditors to negotiate for a substantial discount in what they are 
owed. But amendments to the Bankruptcy Code in 2005 (and following some 
earlier amendments as well) excerpted ``financial contracts'' from the 
automatic stay. See 11 U.S.C. Sec. Sec. 362(b)(6), (b)(7), (b)(17), 
(b)(27), (o) (exempting various financial participants or holders of 
commodities contracts, forward contracts, securities contracts, 
repurchase agreements, swap agreements, and master netting agreements 
from the automatic stay). For additional discussion of the safe harbor 
provisions and how they would have applied to AIG's various financial 
instruments, see below as well as Section E.2 and Annex IV.
---------------------------------------------------------------------------
    For example, the counterparties to AIG's securities lending 
program \393\ received a much larger aggregate cash settlement 
(in exchange for the return of securities borrowed from AIG) 
upon closing out their positions--$43.7 billion--than the $27.1 
billion that went to the ML3 counterparties; in addition, the 
largest securities lending counterparty, Barclays, received 
more than the largest ML3 counterparty, Societe Generale.\394\ 
Even when the $16.5 billion in collateral posted to the ML3 
counterparties after government assistance began is included, 
the amounts paid out to the two sets of counterparties are 
comparable, and much less attention has been paid to payouts to 
securities lending counterparties.\395\
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    \393\ See Section B.3 for additional information on AIG's 
securities lending program and Annex V for general background 
information on securities lending.
    \394\ American International Group, Inc., AIG Discloses 
Counterparties to CDS, GIA and Securities Lending Transactions (Mar. 
15, 2009) (online at media.corporate-ir.net/media_files/irol/76/76115/
releases/031509.pdf) (hereinafter ``AIG Discloses Counterparties to 
CDS, GIA and Securities Lending Transactions'').
    \395\ This is possibly due to the nature of the collateral 
arrangements; the securities counterparties were highly collateralized 
and some of them were overcollateralized, as discussed in Section B.3.b 
above. At the time their securities lending arrangements were closed 
out, those parties thus delivered securities with a market value higher 
than the cash collateral returned to them.
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    The second consequence of avoiding bankruptcy was that the 
government was not immediately able to reorganize any aspect of 
AIG's business. Although the government is now the controlling 
shareholder of AIG and has the ability to direct its operations 
(subject to the operating principles subscribed to by the 
Administration for companies in which the government holds a 
controlling stake),\396\ the instant rearrangement of 
commercial contracts that is possible in bankruptcy was not 
possible here. Thus, AIG's normal course of business, such as 
putting up cash collateral for new or existing contracts 
(including both CDSs that would be eventually placed into ML3 
and CDSs that AIG still covers), continued, so that 
counterparties to those contracts benefitted from the 
government cash. For example, $22.4 billion was provided to 
AIGFP to use as collateral; \397\ presumably insurance 
subsidiaries were also putting up collateral, so some part of 
the $20.9 billion that went to insurance subsidiaries would 
have ended up as cash collateral.\398\
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    \396\ The major principles guiding Treasury's role as a shareholder 
with regard to corporate governance issues are the following: (1) as a 
reluctant shareholder, Treasury intends to exit its positions as soon 
as practicable; (2) Treasury does not intend to be involved in the day-
to-day management of any company; (3) Treasury reserves the right to 
set conditions on the receipt of public funds to ensure that 
``assistance is deployed in a manner that promotes economic growth and 
financial stability and protects taxpayer value''; and (4) Treasury 
will exercise its rights as a shareholder in a commercial manner, 
voting only on core shareholder matters. House Oversight and Government 
Reform Committee, Subcommittee on Domestic Policy, Written Testimony of 
Herbert M. Allison, Jr., assistant secretary for financial stability, 
U.S. Department of the Treasury The Government As Dominant Shareholder: 
How Should the Taxpayers' Ownership Rights Be Exercised? (Dec. 17, 
2009) (online at oversight.house.gov/images/stories/
Allison_Testimony_for_Dec-17-09_FINAL_2.pdf) (hereinafter ``Written 
Testimony of Herb Allison'').
    \397\ AIG Discloses Counterparties to CDS, GIA and Securities 
Lending Transactions, supra note 394.
    \398\ See American International Group, Inc., Supplemental Earnings 
Information 4Q 2008, at 2 (online at media.corporate-ir.net/
media_files/irol/76/76115/Supplemental_Earnings_Information_Q408.pdf).
---------------------------------------------------------------------------
    AIG's business is international, with a third of its 
revenues derived from East Asia.\399\ In its normal (pre-
rescue) business operations, to the extent that any part of 
AIG's non-U.S. business could not be funded locally, they 
received operating funds from the United States. As a result of 
the structure of the rescue, of the $21 billion of the 
government's cash that became capital contributions to AIG's 
insurance companies, $4.4 billion went to non-U.S. life 
insurance companies, primarily in Taiwan, Hong Kong, and Japan. 
One consequence of the nature of AIG's business is that some of 
the government cash ended up in the hands of counterparties 
that the American public might not have supported 
assisting.\400\
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    \399\ For additional information on AIG's business and corporate 
structure, see Section B.2, supra.
    \400\ J. Michael Sharman, Did AIG Give $70 billion of its Bailout 
Money to China?, The Star Exponent (May 19, 2009) (online at 
starexponent.com/cse/news/opinion/columnists/article/
did_aig_give_70_billion_of_its_bailout_money_to_china/35929/).
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    In normal circumstances, the fact that money is fungible 
means that it is difficult to trace the beneficiaries of a cash 
infusion to a specific company. AIG in 2008 and 2009 presents 
an easier case. On a consolidated basis, the company generated 
so little cash from its operating activities \401\ that nearly 
all the cash that flowed out of the company can be attributed 
to government intervention. AIG has published some useful 
detail on the ``use of funds,'' \402\ which, combined with the 
company's financial statements, the Panel has used to follow 
the money to determine the ultimate recipients of government 
cash. While the Panel has been able to unearth the end 
recipient of government funds in some cases, the limitations of 
data and contract availability have prevented the determination 
of end recipients in others. The results of this exercise 
appear in Annex I.
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    \401\ AIG's reported cash flows from operating activities was a 
mere $755 million for the year ended December 31, 2008, compared to 
$35.2 billion for the prior year. The 2008 operating cash flows were 
actually adjusted in the 2009 financial statements to reflect a 
negative cash flows of $(122) million. AIG Form 10-K for FY08, supra 
note 47, at 197; AIG Form 10-K for FY09, supra note 50, at 199.
    \402\ AIG Discloses Counterparties to CDS, GIA and Securities 
Lending Transactions, supra note 394.
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1. The Beneficiaries of the Rescue

    The beneficiaries of the AIG rescue were both direct and 
indirect. Some received cash that they would not otherwise have 
received, and others avoided exposure to liabilities that might 
otherwise have arisen.
    It is impossible to itemize the benefits received by every 
single AIG creditor and counterparty, but the impact of the 
rescue can be gauged by dividing the beneficiaries into broad 
categories. Some individual beneficiaries appear in several 
different categories. Some of the beneficiaries, as noted 
below, were separately recipients of TARP funds. Some 
beneficiaries might have been viewed as innocent victims of the 
financial crisis had AIG failed and defaulted on its 
obligations to them. Others might have been viewed as 
themselves contributing to the conditions that produced the 
crisis. Many are non-U.S. entities. Regardless of their nature, 
they all benefitted from the rescue.
     AIG Insurance Company Subsidiaries: An aggregate 
$20.9 billion went as capital contributions to AIG's insurance 
company subsidiaries in 2008:
          --$4.4 billion in total went to non-U.S. life 
        insurance companies, with $1.8 billion to Nan Shan in 
        Taiwan and the remaining amount flowing to insurance 
        companies in Hong Kong and Japan.\403\
---------------------------------------------------------------------------
    \403\ The Panel did not have access to foreign subsidiaries' 
statutory filings and therefore does not know of any capital 
contributions in 2009.
---------------------------------------------------------------------------
          --$16.5 billion went to U.S. life insurance 
        companies.
    These entities were direct beneficiaries of the government 
rescue. By receiving capital contributions from the government, 
the foreign and domestic life insurance subsidiaries were able 
to meet their obligations under the securities lending program 
and avoid liquidity or solvency concerns and potential ratings 
downgrades.\404\
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    \404\ For example, the insurance subsidiaries benefited from 
downstream payments from the parent company to provide liquidity to the 
securities lending program (AIG borrowed $11.5 billion from FRBNY by 
September 30, 2008 to provide liquidity to the securities lending 
program) as well as from the purchase of ML2 of their interest in the 
RMBS held in connection with the securities lending program. See AIG 
Form 10-K for FY08, supra note 47, at 166-67, 250-51. See additional 
discussion of securities lending program below. AIG's domestic 
property/casualty insurance subsidiaries did not receive capital 
contribution or government funds to meet obligations under the 
securities lending program (they had minimal participation in the 
program). Some believe, however, that the insurance subsidiaries were 
sufficiently well capitalized that they would have been able to remain 
operating throughout a bankruptcy, and would have been able to resolve 
the securities lending issues on their own. Panel staff conversation 
with New York Insurance Department (June 3, 2010). The regulators have 
also asserted that, had there not been a ``run'' by securities lending 
counterparties caused by the liquidity crunch at AIGFP, the 
subsidiaries would have been able to slowly wind down the program on 
their own, and would not have experienced the immediate liquidity need. 
The regulators have also stated that the subsidiaries had a plan in 
place to manage an immediate securities lending liquidity crunch on 
their own, without the infusion of government funds. Panel staff 
conversation with Texas Department of Insurance (May 24, 2010).
---------------------------------------------------------------------------
    In 2009 AIG's life insurance subsidiaries received $1,145.2 
million in capital contributions from AIG. These contributions 
were made to strengthen the subsidiaries' capital position and 
risk-based capital ratios. American Home Assurance Company was 
the only property and casualty insurance subsidiary to receive 
capital contributions in 2009, receiving $234 million from AIG 
related to the sale of shares in Transatlantic Holdings, 
Inc.\405\
---------------------------------------------------------------------------
    \405\ American Home Assurance Company, PNC Annual Statement for the 
Year Ended December 31, 2009 (Feb. 25, 2010) AGC Life Insurance 
Company, Annual Statement for the Year Ended December 31, 2009 (Feb. 
2010); American General Life and Accident Insurance Company, Annual 
Statement for the Year Ended December 31, 2009 (Feb. 13, 2010); 
American General Life Insurance Company of Delaware, Annual Statement 
for the Year Ended December 31, 2009 (Feb. 2010); American General Life 
Insurance Company of New York, Annual Statement for the Year Ended 
December 31, 2009 (Feb. 2010); American General Life Insurance Company, 
Annual Statement for the Year Ended December 31, 2009 (Feb. 2010); 
Delaware American Life Insurance Company, Annual Statement for the Year 
Ended December 31, 2009 (2010); SunAmerica Annuity and Life Assurance 
Company, Annual Statement for the Year Ended December 31, 2009 (Feb. 
17, 2010); SunAmerica Life Insurance Company, Annual Statement for the 
Year Ended December 31, 2009 (Feb. 17, 2010); Variable Annuity Life 
Insurance Company, Annual Statement for the Year Ended December 31, 
2009 (Feb. 24, 2010); Western National Life Insurance Company, Annual 
Statement for the Year Ended December 31, 2009 (Feb. 24, 2010).
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    AIG's insurance subsidiaries suffered reputational harm, to 
the extent that people knew that the insurance company was 
related to AIG,\406\ as a result of the government intervention 
and other subsequent unfavorable press (such as controversial 
bonus payments). The insurance regulators have provided that 
for several months, the insurance subsidiaries experienced 
heightened surrender activity and declining numbers of new 
customers with each release of information unfavorable to 
AIG.\407\ However, the insurance subsidiaries may have avoided 
a higher level of reputational harm that could have resulted 
from a bankruptcy filing of the AIG parent company. As a result 
of avoiding the potentially more severe reputational effects of 
a parent bankruptcy, the insurance subsidiaries were able to 
avoid being seized by their regulators.\408\ The subsidiaries 
thus had a greater ability to retain existing insurance 
customers, attract new insurance customers, and satisfy 
liabilities as they came due. Their customers benefited from 
the payment of their claims in full, without potentially 
protracted delay and without going through the process of 
obtaining new insurance coverage (cancelling existing policies 
and finding suitable replacement policies), if they felt such a 
change would have been necessary.
---------------------------------------------------------------------------
    \406\ Some of AIG's insurance subsidiaries were insulated from 
reputational harm because they operated under different brand names. 
This may have prevented some existing customers from making a 
connection between their insurer and AIG.
    \407\ Panel staff conversation with NAIC (Apr. 27, 2010).
    \408\ See Eric Dinallo, What I Learned at the AIG Meltdown: State 
Insurance Regulation Wasn't the Problem, Wall Street Journal (Feb. 2, 
2010) (online at online.wsj.com/article/
SB10001424052748704022804575041283535717548.html) (hereinafter ``State 
Insurance Regulation Wasn't the Problem'') (``If AIG had gone bankrupt, 
state regulators would have seized the individual insurance companies. 
The reserves of those insurance companies would have been set aside to 
pay policyholders and thereby protected from AIG's creditors. However, 
. . . AIG's insurance companies were intertwined with each other and 
the parent company. Policyholders would have been paid, but only after 
a potentially protracted delay. It would have taken time to allocate 
the companies's [sic] assets''). But see, Panel staff conversation with 
Texas Department of Insurance (May 24, 2010) (the regulators would not 
necessarily have seized the subsidiaries, but would probably have 
monitored them closely); Panel staff conversation with New York 
Insurance Department (June 3, 2010) (the regulators would not have 
seized the subsidiaries, because they were well capitalized).
---------------------------------------------------------------------------
     State Insurance Guarantee Funds and Non-AIG 
Insurance Companies: The state insurance guarantee funds were 
potentially indirect beneficiaries of the rescue. If the parent 
had filed bankruptcy, the insurance regulators might have 
seized the insurance subsidiaries either to protect them from 
the bankruptcy or because of undercapitalization. To pay off 
policy holders it is likely that the receivers would have 
needed to access state insurance guarantee funds. These state 
funds are funded by assessments to other, solvent, insurance 
companies. The assessments required to cover the large numbers 
of policyholders would have likely been a significant burden on 
the state guarantee funds and other insurance companies.
     Holders of AIG Commercial Paper: \409\ Commercial 
paper issued or guaranteed by AIG and some of its subsidiaries 
\410\ appears to have been rolled over, and thus, no direct 
payout was made to the holders of this commercial paper. 
However, the commercial paper could not have been rolled 
without government support to AIG.\411\ The commercial paper 
holders received a substantial indirect benefit from the 
government's intervention to the extent that they continued 
rolling over the paper they held or were repaid at 
maturity.\412\ AIG had $15.1 billion and $5.6 billion of 
commercial paper and extendible commercial notes outstanding, 
on a consolidated basis, at June 30, 2008 \413\ and September 
30, 2008,\414\ respectively.
---------------------------------------------------------------------------
    \409\ Commercial paper is a short-term, unsecured promissory note 
issued by a corporation. See Thomas K. Kahn, Commercial Paper, Economic 
Quarterly, Vol. 79, No. 2, at 45-8 (Spring 2003) (online at 
www.richmondfed.org/publications/research/economic_quarterly/1993/
spring/pdf/hahn.pdf).
    \410\ AIG Funding, Inc. issued commercial paper guaranteed by AIG 
to provide short-term funding to AIG and its subsidiaries. Some of 
AIG's other subsidiaries--such as International Lease Finance 
Corporation (ILFC), American General Finance (AGF), and AIG Consumer 
Finance Group (AIGCFG)--also issued commercial paper, but it was not 
guaranteed by AIG. See AIG Form 10-Q for the Second Quarter 2008, supra 
note 177, at 97-100. ILFC, AGF, and AIG maintained committed, unsecured 
revolving credit facilities to support the commercial paper programs, 
but ILFC and AGF had drawn the full amount of credit available in 
September 2008. See AIG Form 10-Q for Third Quarter 2008, supra note 
23, at 50, 58, 133.
    \411\ AIG, like other issuers of commercial paper, also benefitted 
from the Federal Reserve's Commercial Paper Funding Facility (CPFF), 
which was designed to backstop the commercial paper market by 
purchasing three-month unsecured commercial paper directly from 
eligible issuers. For additional discussion of the CPFF, see Section 
D.1. See also Congressional Oversight Panel, November Oversight Report: 
Guarantees and Contingent Payments in TARP and Related Programs, at 30 
(Nov. 6, 2009) (online at cop.senate.gov/documents/cop-110609-
report.pdf) (hereinafter ``November Oversight Report'').
    \412\ The amount of relief would have depended on whether ILFC, 
AGF, and AIG Consumer Finance Group (AIGCFG) also filed for bankruptcy. 
Presumably, they would have because if they had not, they would likely 
have been unable to roll over their commercial paper and would have 
remained liable for their commercial paper obligations as they came 
due. If all AIG subsidiaries that issued commercial paper had filed for 
bankruptcy, then all of their commercial paper debt holders would have 
been treated as unsecured creditors. If ILFC and AGF had not filed, it 
is not clear that their commercial paper holders would have fared 
better even though they would not have been subject to the discount 
negotiated for unsecured creditors, at least not without direct or 
indirect government assistance. ILFC and AGF would likely not have been 
able to meet their commercial paper obligations as they came due 
considering that they had drawn the full amount of available credit in 
the committed, unsecured revolving credit facilities to meet previous 
obligations. AIG's guarantee of commercial paper issued by AGF is an 
executory contract that would have been rejected during the bankruptcy 
and would have provided no recourse to the commercial paper holders. 
See 11 U.S.C. 365.
    \413\ AIG Form 10-Q for the Second Quarter 2008, supra note 177, at 
2, 96. Of the total $15.1 billion outstanding at June 30, 2008, AIG 
Funding had $5.8 billion, ILFC had $4.6 billion, AGF had $3.9 billion, 
AIGCFG had $0.3 billion, and AIG Finance Taiwan Limited had $0.003 
billion outstanding. Id. at 96.
    \414\ See AIG Form 10-Q for Third Quarter 2008, supra note 23, at 
2, 129. Of the total $5.6 billion outstanding at September 30, 2008, 
AIG Funding had $1.944 billion, ILFC had $1.562 billion, AGF had $1.918 
billion, AIGCFG had $0.168 billion, and AIG Finance Taiwan Limited had 
$0.008 billion outstanding. Id. at 129.
---------------------------------------------------------------------------
     Holders of Other AIG Debt: $2.1 billion was 
received in principal and interest by holders of other AIG 
debt, who became direct beneficiaries of the government rescue. 
Total borrowings issued or guaranteed by AIG at June 30, 2008 
amounted to $110 billion, with an additional $67 billion not 
guaranteed. AIG's debt includes notes, bonds, junior 
subordinated debt, loans, and mortgages payable. AIG guarantees 
debt issued by AIGFP, AIG Funding, Inc's commercial paper, 
AIGLH notes and bonds payable, and liabilities connected with 
the trust preferred stock. The non-guaranteed debt includes 
that issued by ILFC, American General Finance (AGF), AIGCFG, 
and other subsidiaries. AIG borrowed $500 million in unsecured 
funds in October 2007 from a third party bank, and this amount 
was outstanding as of June 30, 2008 and scheduled to mature in 
October 2008. AIG, ILFC, and AGF also maintain committed, 
unsecured syndicate revolving credit facilities to support 
their commercial paper programs and other general corporate 
purposes.\415\
---------------------------------------------------------------------------
    \415\ AIG Form 10-Q for the Second Quarter 2008, supra note 177, at 
96-102.
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     Repo Counterparties: AIG's outstanding repurchase 
agreements were approximately $9.7 billion and $8.4 billion as 
of June 30, 2008 and September 30, 2008, respectively.\416\ 
AIG's repurchase agreement transactions were concentrated at 
AIGFP and were utilized as a method to support the company's 
liquidity, although the market significantly contracted during 
2008. AIG refused to provide the identity of the counterparties 
to the repurchase agreements.\417\
---------------------------------------------------------------------------
    \416\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 2; 
AIG Form 10-Q for the Second Quarter 2008, supra note 177, at 2. 
Repurchase, or repo, agreements are a form of short-term borrowing and 
are treated as collateralized financing transactions in most instances. 
Repo agreements involve the sale of securities to investors with the 
agreement to buy them back at a higher price after a set time period, 
which is often overnight. The buy back exchange often involves 
securities considered equivalent to the original securities sold, with 
the specific characteristics necessary to be considered ``equivalent'' 
defined within the terms of each repo agreement (e.g., part of the same 
issue, identical in type and nominal value). Reverse Repurchase 
agreements are the purchases of securities with the agreement to sell 
them at a higher price at a specified future date.
    \417\ Panel staff conversation with AIG (June 3, 2010).
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     Holders of AIGFP Debt: Holders of AIGFP debt were 
direct beneficiaries of the government rescue, receiving cash 
for interest and principal. $12.5 billion was paid to holders 
of AIGFP debt.\418\ Total AIGFP borrowings, all guaranteed by 
AIG, at June 30, 2008 equaled $54 billion. AIGFP's debt 
included GIAs, notes, bonds, loans, mortgages payable, and 
hybrid financial instrument liabilities.\419\
---------------------------------------------------------------------------
    \418\ This amount includes what AIG classified as payments on 
``maturing debt & other.'' AIG Discloses Counterparties to CDS, GIA and 
Securities Lending Transactions, supra note 394.
    \419\ AIG Form 10-Q for the Second Quarter 2008, supra note 177, at 
96.
---------------------------------------------------------------------------
     Securities Lending Counterparties: Securities 
lending counterparties were direct beneficiaries of the rescue, 
as AIG returned the cash collateral they had delivered against 
the securities they borrowed. $43.7 billion was paid to 
securities lending counterparties, which were a variety of U.S. 
and international (primarily European) banks. The largest 
beneficiaries in this category were Barclays ($7.0 billion), 
Deutsche Bank ($6.4 billion), BNP Paribas ($4.9 billion), 
Goldman Sachs ($4.8 billion) \420\ and Bank of America ($4.5 
billion).\421\ In return, the securities lending counterparties 
delivered the borrowed securities. As discussed above, in many 
cases AIG was undercollateralized in relation to the securities 
lending counterparties, who thus returned securities with a 
greater market value than the collateral that was returned to 
them.\422\
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    \420\ Goldman Sachs received $10 billion through the TARP Capital 
Purchase Program.
    \421\ Bank of America received $25 billion, with $15 billion 
related to Merrill Lynch included due to the merger between the two 
entities, through the TARP Capital Purchase Program, and received $20 
billion through the TARP TIP. The only other TARP recipients among the 
securities lending counterparties were Merrill Lynch ($1.9 billion; 
recipient of $15 billion of TARP funds included in Bank of America 
total), Citigroup ($2.3 billion; total TARP assistance of $20 billion 
from TIP and $25 billion from CPP) and Morgan Stanley ($1.0 billion; 
recipient of $10 billion of TARP funds).
    \422\ See additional discussion of securities lending 
counterparties at Section E.2.
---------------------------------------------------------------------------
     ML3 Counterparties: The ML3 counterparties were 
direct beneficiaries of the government rescue. They received 
government cash from two separate channels. As discussed above, 
$27.1 billion was paid to the ML3 counterparties for the CDOs 
that were placed into ML3. This money was channeled from the 
government through ML3. In addition, prior to the ML3 
transaction, the counterparties received $22.5 billion in 
collateral directly from AIG as a direct result of government 
intervention.\423\ The CDS counterparties were also benefited 
by the continuation of the CDS contracts, which would have been 
extraordinarily expensive to replace in light of the collapse 
of the CDO market.
---------------------------------------------------------------------------
    \423\ SIGTARP Report on AIG Counterparties, supra note 246, at 15.
---------------------------------------------------------------------------
          --Some of those counterparties (Goldman, for example) 
        were acting as market intermediaries with respect to 
        the underlying CDOs or reference securities for the CDS 
        contracts.\424\ The actual benefit those second-level 
        counterparties received from closing out their CDS 
        contracts as part of the ML3 transaction would depend 
        upon their view of the future direction of any 
        reference securities that they held and the extent to 
        which the first-level counterparties were able to make 
        good on the second-level CDSs if AIG had failed to 
        deliver on the first-level CDSs. Within the limitations 
        of the fungibility of money, government cash flowed to 
        these second-level counterparties upon closing out 
        their CDSs. It should be noted that the details of the 
        transactions with the second-level counterparties have 
        not been made available to the Panel. The terms upon 
        which the first-level counterparties closed out their 
        contracts with the second-level counterparties could 
        very well have differed from the terms upon which the 
        first-level counterparties closed out their contracts 
        with AIG, and the first-level counterparties may have 
        been able to make a profit on that transaction. The 
        mechanics for closing out these transactions is set out 
        in more detail in Annex III.
---------------------------------------------------------------------------
    \424\ The counterparties that the Panel has spoken to who were 
acting as intermediaries have not identified their own counterparties. 
See discussion of Goldman's position in more detail in Section F.5.
---------------------------------------------------------------------------
          --Looking at the ML3 transactions as a whole over 
        time, the net effect of letting the counterparties keep 
        the collateral already posted and then be paid ``market 
        value'' (roughly speaking, the notional value of the 
        CDOs minus the collateral posted) is that AIG and its 
        controlling shareholder, the U.S. government, together 
        paid a total of par, the principal amount of those 
        CDOs, for them at a time when by definition they were 
        worth only the market value paid upon closeout of the 
        CDS contracts.
          --Some of the counterparties had taken out additional 
        protection against an AIG failure in the form of CDSs 
        and other hedges on AIG itself. These counterparties 
        included Goldman.\425\ At least some of these CDSs on 
        AIG (including those held by Goldman) required the 
        posting of collateral. Upon closing out the ML3 CDSs, 
        the counterparties would be able to close out their AIG 
        protection and return any collateral to the providers 
        of such protection, who would thus no longer be exposed 
        to the risk of AIG's failure, and were thus indirect 
        beneficiaries of the government rescue. Goldman 
        declined to provide the Panel with the names of 
        entities writing this protection.
---------------------------------------------------------------------------
    \425\ See discussion of Goldman's position in more detail in 
Section F.5.
---------------------------------------------------------------------------
     Other CDS Counterparties:
          --Regulatory Capital Swap Counterparties: As 
        discussed in Section B3, supra, numerous European banks 
        entered into CDSs with a France-based subsidiary of 
        AIGFP in order to decrease the amount of regulatory 
        capital they were required to hold. Unlike the CDSs on 
        CDOs, these swaps were not terminated as part of the 
        government rescue. As a result, the benefits that the 
        counterparties received came not in the form of cash 
        but rather in the continuation of contracts that led to 
        more favorable regulatory treatment in the 
        counterparties' home countries. In other words, the 
        banks avoided having to raise additional capital or 
        sell assets, as they might have had to do if AIG had 
        filed for bankruptcy.
    AIG has declined to release the full list of counterparties 
to these trades, citing confidentiality laws, but the Panel has 
obtained a copy of a list as of October 1, 2008 from FRBNY. 
This document lists the top seven counterparties on these 
trades as Dutch bank ABN AMRO ($56.2 billion notional 
exposure),\426\ Danish bank Danske ($32.2 billion notional 
exposure), German bank KFW ($30 billion notional exposure), and 
French banks Credit Logement ($29.3 billion notional exposure), 
Calyon ($24.3 billion notional exposure), BNP Paribas ($23.3 
billion notional exposure) and Societe Generale ($15.6 billion 
notional exposure).\427\
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    \426\ In 2007, a consortium of Royal Bank of Scotland (RBS), Banco 
Santander, and Fortis purchased ABN AMRO, which was split into pieces. 
Then on October 3, 2008, less than three weeks after the U.S. 
government's bailout of AIG, the Dutch government nationalized Fortis' 
share of ABN AMRO. Fortis, Fortis Statement on Transaction with the 
Government of the Netherlands (Oct. 3, 2008) (online at 
www.holding.fortis.com/Documents/UK_PR_Fortis_03102008.pdf); Ageas, 
Ageas and ABN AMRO (online at www.holding.fortis.com/en/Pages/
fortis_and_abn_amro.aspx) (accessed June 8, 2010). The documents 
reviewed by the Panel do not shed light on specifically how an AIG 
default on its regulatory capital swaps would have impacted RBS, Banco 
Santander, and Fortis, though in early 2009, AIG did identify RBS and 
Banco Santander as banks with exposure to its regulatory capital swaps 
book. AIG Presentation on Systemic Risk, supra note 92, at 18.
    \427\ Reg Capital Arb, E-mail from Paul Whynott, Federal Reserve 
Bank of New York, to Alejandro LaTorre, vice president, Federal Reserve 
Bank of New York (Nov. 4, 2008) (FRBNY-TOWNS-R1-188408).
---------------------------------------------------------------------------
    Based on the capital rules under which these banks were 
operating in 2008, the loss of credit protection for ABN AMRO 
would have resulted in an estimated impact on its regulatory 
capital in the amount of $3.6 billion; \428\ this means that 
had AIG filed for bankruptcy, ABN AMRO would have needed to 
raise an additional $3.6 billion in order to maintain its 
current regulatory capital ratios. For Danske and KFW, the 
estimated impact would have been around $2.1 billion each. For 
Credit Logement, it would have been about $1.9 billion.\429\ 
Altogether, as of October 1, 2008, the banks that entered into 
these trades with AIGFP obtained an estimated $16 billion in 
capital relief, as shown in Figure 21.
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    \428\ Under Basel I, banks were required to hold 8 percent capital 
against assets such as corporate loans that were assigned a 100 percent 
risk weighting. But when AIGFP's regulated bank provided credit 
protection, the risk weighting fell to 20 percent, and the banks were 
only required to hold 8 percent capital against the 20 percent weighted 
value of the loans, which equaled 1.6 percent of the assets. The 
difference between these two regulatory treatments, 6.4 percent of the 
assets, was the amount that the banks did not have to hold as capital 
as a result of the AIGFP swaps. The regulatory capital relief would be 
less for assets that would otherwise receive a risk weighting of less 
than 100 percent under Basel I.
    \429\ It is impossible to calculate the exact capital charges 
avoided by these banks without knowing the risk weighting of each 
underlying asset that received credit protection from AIGFP. The 
calculations here reflect the methodology that AIG and FRBNY used to 
calculate the exposure that the counterparties would have had in a 
bankruptcy. Whether losing this cushion would have resulted in 
inadequate regulatory capital (and thus a need to raise capital or sell 
assets in a volatile market) depends on the extent to which each bank 
was over-capitalized, and the extent to which their other assets lost 
value.

 FIGURE 21: LARGEST COUNTERPARTIES FOR AIGFP REGULATORY CAPITAL SWAPS AS
                        OF  OCTOBER 1, 2008 \430\
                          [Dollars in billions]
------------------------------------------------------------------------
                                                       Estimated Capital
           Counterparty              Notional Amount         Relief
------------------------------------------------------------------------
ABN AMRO (Netherlands)............              $56.0               $3.5
Danske (Denmark) \431\............               32.2                2.1
KFW Bank (Germany)................               30.0                1.9
Credit Logement (France)..........               29.3                1.9
Calyon (France)...................               24.3                1.6
BNP Paribas (France)..............               23.3                1.5
Societe Generale (France).........               15.6                1.0
Other counterparties..............               38.9                2.4
                                   -------------------------------------
    Total.........................             $249.9             $16.0
------------------------------------------------------------------------
\430\ Reg Capital Arb, E-mail from Paul Whynott, Federal Reserve Bank of
  New York, to Alejandro LaTorre, vice president, Federal Reserve Bank
  of New York (Nov. 4, 2008) (FRBNY-TOWNS-R1-188408).
\431\ The Panel attempted to quantify the impact that the loss of this
  credit protection would have had on capitalization of seven
  counterparties listed in Figure 21. Infra note 428. For most of the
  banks listed there, third-quarter 2008 data on tier 1 capital were not
  available, but for Danske they were available. Danske had a tier 1
  capital ratio of 10.0 percent in the third quarter of 2008, based on
  tier 1 capital of $17.8 billion and risk-weighted assets of $176.9
  billion. If Danske had lost its credit protection from AIGFP, its risk-
  weighted assets would have risen by $25.8 billion, and its tier 1
  capital ratio would have fallen to 8.8 percent. These calculations
  rely on the same assumptions the Federal Reserve used in calculating
  the capital relief for each of the seven banks in Figure 21 See infra
  429, for more about these assumptions. Data provided by Danske Bank to
  the Panel (May 21, 2010).

    It is impossible to know, however, how the bank regulators 
in various European countries would have responded to this 
problem in September 2008. Given the extreme market unrest, and 
the difficulties banks would have had raising capital at that 
time, it seems possible that some countries would have granted 
forbearance to their banks. FRBNY officials say they did not 
consult European regulators about the consequences of a 
bankruptcy prior to the Federal Reserve's decision to rescue 
AIG,\432\ and the Federal Reserve's reluctance to discuss with 
European regulators the impact of an AIG bankruptcy on European 
banks continued until at least late October 2008.\433\ But a 
memo circulated within FRBNY over the weekend of September 14-
15 noted that forbearance by the European regulators could 
address the problem.\434\ On the other hand, it is certainly 
possible that the European regulators would have taken a tough 
stance, in which case their options included seizure, which 
would have amounted to bailouts by European governments;\435\ 
it is also possible that the various banking regulators in 
different countries would have had different reactions.
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    \432\ FRBNY conversation with the Panel (May 11, 2010). FRBNY 
apparently remained reluctant to discuss AIG's regulatory capital swap 
portfolio even after establishing the $85 billion line of credit. See 
Federal Reserve Bank of New York draft memo, Systemic Risks of AIG 
(Oct. 24, 2008) (FRBNY-TOWNS-R1-122617) (``To avoid shouting ``Fire!'' 
in a crowded theater, we have not approached the European regulators to 
quantify the capital relief more precisely'').
    \433\ See Federal Reserve Bank of New York draft memo, Systemic 
Risks of AIG (Oct. 24, 2008) (FRBNY-TOWNS-R1-122617) (``To avoid 
shouting ``Fire!'' in a crowded theater, we have not approached the 
European regulators to quantify the capital relief more precisely.'').
    \434\ Pros and Cons on AIG Lending, E-mail and attachments from 
Alejandro LaTorre, assistant vice president, Federal Reserve Bank of 
New York (Sept. 14, 2008) (FRBNYAIG00496-505).
    \435\ KFW Bank is a government-owned bank, 80 percent owned by the 
German government and 20 percent owned by federal states in Germany, so 
the German taxpayers are responsible for its losses in any case. See 
KfW Bankengruppe, Our Group (online at www.kfw.de/EN_Home/
KfW_Bankengruppe/Our_Group/index.jsp).
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     GIA Counterparties: $12.1 billion of the 
government's money ended up in the hands of municipalities and 
state agencies that had GIAs with AIGFP.\436\ Municipalities 
raising funds through bond and note issuances for public works 
projects do not need access to all of the funds immediately. 
They would thus lend the money to AIGFP under GIAs. AIGFP used 
the proceeds from GIA issuances to invest in a diversified 
portfolio of securities, including trading, available-for-sale, 
those purchased under agreement to resell, and derivative 
transactions. The proceeds from the disposal of these 
securities were then used to fund maturing GIAs, other AIGFP 
debt obligations, or new investments.\437\ GIAs are generally 
not collateralized, but many of AIGFP's GIAs required the 
posting of collateral or allowed the obligations to be called 
at various times prior to maturity at the option of the 
counterparties (for example, because of a rating downgrade). 
AIG guaranteed the obligations of AIGFP under GIA 
borrowings.\438\ Recipients of payments under AIGFP's GIAs, who 
benefitted directly from the government rescue, included 
California ($1.02 billion), Virginia ($1.01 billion) and Hawaii 
($0.77 billion). Indirect beneficiaries of the government funds 
include the projects that the GIA counterparties fund, 
including affordable housing grants and complexes, college 
tuition savings plans and student loans, fire stations, and 
military housing.\439\
---------------------------------------------------------------------------
    \436\ For AIGFP, a guaranteed investment agreement (GIA) is the 
same as a guaranteed investment contract (GIC) (the terms are used 
interchangeably). Panel staff conversation with AIG (May 27, 2010).
    \437\ See AIG Form 10-K for FY08, supra note 47, at 158.
    \438\ See AIG Form 10-K for FY08, supra note 47, at 51, 59, 277; 
AIG Form 10-Q for Third Quarter 2008, supra note 23, at 132, 134; AIG 
Form 10-Q for the Second Quarter 2008, supra note 177, at 40, 98, 101.
    \439\ See, e.g., Colorado Housing and Finance Authority, What Is 
CHFA? (online at chfainfo.com) (accessed June 8, 2010).
---------------------------------------------------------------------------
     Holders of Stable Wrap Contracts: Trustees and 
investment managers of defined contribution plans held 
approximately $38 billion of stable value wrap contracts. 
Stable value funds, a type of highly liquid investment only 
offered in defined contribution and tuition assistance plans, 
are designed to provide a high quality, fixed income portfolio 
with a wrap contract to allow for the stability of a money 
market but greater potential return. Wrap contracts for stable 
value funds allow for the maintenance of principal and benefit 
payments and participant investment transfers at book or 
contract value by guaranteeing the participant's fund liquidity 
at book, or initial investment, value. Gains and losses on the 
fund assets are smoothed through amortized adjustments to 
future benefit credits by the insurance company of financial 
institution providing the wrap contract. When market value 
falls below book value, the wrap contract requires the wrap 
provider to make up the difference in the case of participant 
withdrawal; when the reverse occurs, the insurance provider 
maintains the excess for potential future losses.\440\ These 
contracts allow workers to withdraw their pension funds at book 
value as opposed to market value in times of market 
dislocation, thus avoiding any loss of book value due to market 
deterioration. While only a small amount of government funds 
was used to make payments under these wrap contracts, the 
pension plans holding the wrap contracts benefitted 
significantly from not losing this insurance.\441\
---------------------------------------------------------------------------
    \440\ If there is a difference between the book and market values 
of a stable value fund due to external circumstances, such as a rapid 
decline in interest rate benchmarks, the wrap investment contract will 
typically close the difference between the book and market values. 
These investments are not mutual funds. See Stable Value Investment 
Association, Employee Benefits Plans Stable Value Concurrent Sessions, 
at 13 (May 11, 2010).
    \441\ During the time leading up to the rescue, the government 
considered providing government backing to these contracts if AIG had 
not been rescued wholesale. Proposal to Insulate Retail Impact of AIGFP 
Failure, supra note 251.
---------------------------------------------------------------------------
     Employees and Contractors: To the extent that cash 
flowed into the company through operations and government 
funds, employees, suppliers, and contractors were paid in the 
normal course of business.
    As noted throughout this section, some of the beneficiaries 
of the AIG rescue were also recipients of TARP funds 
themselves. Goldman Sachs, Bank of America, and Merrill Lynch 
received an aggregate of $12.9 billion, $5.2 billion, and $6.8 
billion, respectively, in government funds as AIGFP CDS 
counterparties, recipients of ML3 payments, and securities 
lending counterparties. Effectively Bank of America received 
$12.0 billion when factoring in its merger with Merrill Lynch. 
Citigroup received $2.3 billion solely as a result of its being 
a securities lending counterparty. Wachovia received a total of 
$1.5 billion as a CDS counterparty and recipient of ML3 
payment, and Morgan Stanley received $1.2 billion as a CDS and 
securities lending counterparty. JP Morgan is the TARP-
recipient bank to obtain the least amount of government funds 
from AIG, receiving $0.4 billion as a CDS counterparty. The top 
ten AIG counterparties were the recipients of $72.2 billion of 
the government funds received by the company. The following are 
the top ten recipients: Goldman Sachs ($12.9 billion), Societe 
Generale ($11.9 billion), Deutsche Bank ($11.8 billion), 
Barclays ($7.9 billion), Merrill Lynch ($6.8 billion),\442\ 
Bank of America ($5.2 billion), UBS ($5.0 billion), BNP Paribas 
($4.9 billion), HSBC ($3.5 billion), and Calyon ($2.4 billion). 
Though these ten counterparties account for over half of the 
government funds received by AIG, there were countless other 
recipients through GIAs, debt obligations, and the remaining 
CDS and securities lending counterparties.
---------------------------------------------------------------------------
    \442\ As noted earlier, when accounting for the merger between 
Merrill Lynch and Bank of America, the funds received from AIG amount 
to $12.0 billion, the second highest amount received.
---------------------------------------------------------------------------

2. How the Beneficiaries Would Have Fared in Bankruptcy

    In order to assess the consequences of the decision to 
rescue AIG, the Panel considered what might have happened, in 
general terms, to these various constituencies if AIG had filed 
for bankruptcy.
     AIG Insurance Company Subsidiaries: As indicated 
above, insurance companies are not allowed to file for 
bankruptcy,\443\ and the impact on the insurance subsidiaries 
from a parent company bankruptcy would depend on a variety of 
factors and how these factors influenced the actions of their 
insurance regulators.\444\ Whether the insurance regulators 
took informal action (such as heightened supervision) or more 
formal action (some form of seizure or receivership) would have 
depended on the bankruptcy's impact on the insurance 
subsidiaries' books of business (for example, whether current 
policyholders took their business elsewhere), the subsidiaries' 
ability to attract new policyholders, and the ability of the 
state insurance funds to satisfy liabilities after the 
insurance subsidiaries' assets had been exhausted, if 
necessary. It would also depend on the existence of 
intercompany lending arrangements or guarantees and the impact 
of the securities lending program on the solvency or financial 
health of the subsidiaries.\445\ The ultimate question is 
whether AIG would be able to preserve the value of the 
insurance subsidiaries and whether the insurance subsidiaries 
continued to maintain sufficient assets to pay their 
policyholders.\446\ Around the time of the rescue, the 
insurance regulators stated that the insurance subsidiaries 
were solvent.\447\ They have since explained that, because the 
subsidiaries were well-capitalized, they would not necessarily 
have seized them in the event of a parent bankruptcy and that 
they would have taken into consideration the factors described 
above when determining whether they needed to take regulatory 
action to protect the subsidiaries and their 
policyholders.\448\
---------------------------------------------------------------------------
    \443\ 11 U.S.C. 109(b)(2).
    \444\ The shares of an insurance company are in the estate of the 
bankrupt holding company and can be sold if the relevant regulator 
consents. In AIG's case of course, the shares were pledged as 
collateral for the Revolving Credit Facility and are being sold in any 
event to repay the government.
    \445\ See, e.g., AIG Form 10-Q for Third Quarter 2008, supra note 
23, at 126-27 (``AIG's Domestic Life Insurance and Retirement Services 
companies have three primary liquidity needs: the funding of 
surrenders; returning cash collateral under the securities lending 
program; and obtaining capital to offset other-than-temporary 
impairment charges''). AIG believed that the insurance subsidiaries had 
sufficient resources to fund surrenders, but significant capital 
contributions were made in the first nine months of 2008 to provide 
liquidity to the securities lending pool to fund securities lending 
payables and to the insurance subsidiaries to offset reductions in 
capital due to significant other-than-temporary impairment charges. Id. 
The need for capital infusions suggests that securities lending 
obligations could have resulted in liquidity or solvency concerns for 
some of AIG's insurance subsidiaries.
    \446\ For additional discussion of the potential impact on AIG's 
insurance subsidiaries from a parent company bankruptcy and of the 
various options available to the insurance regulators, see Annex VIII.
    \447\ Written Testimony of Eric Dinallo, supra note 289.
    \448\ Panel staff call with National Association of Insurance 
Commissioners (Apr. 27, 2010). The NY insurance regulators have 
provided Executive Life of New York as an example of seizure not being 
automatic for solvent insurance subsidiaries upon the bankruptcy filing 
of the holding company but later becoming necessary; the NY insurance 
regulators seized Executive Life of New York insurance subsidiaries 
several months after the parent company bankruptcy filing because a run 
on the insurance subsidiaries had developed. Panel staff conversation 
with New York State Insurance Department (June 3, 2010).
---------------------------------------------------------------------------
     State Insurance Funds and Non-AIG Insurance 
Companies: Since insurance subsidiaries cannot seek bankruptcy 
protection, state insurance regulators would have had to 
address any insolvent or illiquid insurance subsidiaries 
through their resolution tools and use state insurance funds to 
satisfy liabilities to policyholders in excess of the value of 
their assets. To the extent that an insurance subsidiary was 
undercapitalized,\449\ state insurance regulators--and state 
insurance guarantee funds--would have had to step in. If that 
turned out to be the case, an AIG bankruptcy could have 
affected all of the non-AIG insurance companies that would have 
been assessed to replenish or expand state insurance 
funds.\450\
---------------------------------------------------------------------------
    \449\ See discussion of state insurance company oversight in 
Section B.2 above.
    \450\ It should be noted that state insurance guarantee funds carry 
statutory caps on the amounts that can be assessed annually from 
solvent insurers. See, e.g., Tex. Insur. Code 463.153(c). Because of 
AIG's size, it is likely that guarantee fund assessments would have 
reached these caps. Panel staff conversation with Debra Hall, expert in 
insurance receivership (May 14, 2010); Panel staff conversation with 
David Merkel, insurance actuary (May 18, 2010).
---------------------------------------------------------------------------
     Holders of AIG Commercial Paper: If AIG had filed 
for bankruptcy, its commercial paper would not have been rolled 
over, that is, the parent company and subsidiaries would have 
been unable to access the commercial paper market for short-
term funding absent government support. Because AIG's 
commercial paper debt was unsecured, the holders would have 
been subject to the substantial discount negotiated for 
unsecured creditors in a bankruptcy plan and might have 
received next to nothing for their unsecured claims. Thus, the 
commercial paper debt holders received a substantial indirect 
benefit by AIG's avoidance of bankruptcy.\451\
---------------------------------------------------------------------------
    \451\ The amount of the benefit would have depended on whether 
ILFC, AGF, and AIGCFG also filed for bankruptcy. Presumably, they would 
have because if they did not, they would likely have been unable to 
roll over their commercial paper and would remain liable for their 
commercial paper obligations as they came due (without the guarantee of 
the parent company, which would have been rejected during the 
bankruptcy).
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     Parties to AIG Repo Funding: If AIG had filed for 
bankruptcy, the parties to AIG's repurchase (``repo'') 
agreements would have benefited from safe harbor provisions in 
the bankruptcy code giving them additional protection or 
favorable treatment.\452\ Counterparties ``to any repurchase 
agreement'' are exempted from the automatic stay that prevents 
creditors from taking action to collect on their debts after 
the bankruptcy filing.\453\ The repo participants are 
specifically allowed to exercise any contractual right to cause 
the liquidation, termination, or acceleration of their 
repurchase agreements based on the bankruptcy filing.\454\ If 
the repo participants liquidate one or more repurchase 
agreements and have agreed to deliver the assets subject to the 
repurchase agreements to the debtor, they will be able to keep 
the market prices received to the extent of the stated 
repurchase prices; any excess as well as the liquidation 
expenses will be considered property of the estate subject to 
the normal rights of setoff.\455\ Thus, the effect of an AIG 
bankruptcy filing on parties to AIG's repurchase agreements 
would have been minimal. Because of the nature of repurchase 
agreements, the counterparties would have been fully secured or 
collateralized.\456\
---------------------------------------------------------------------------
    \452\ This discussion also applies to a bankruptcy filing by AIGFP; 
AIGFP obtained funding for its operations, in part, through repurchase 
agreements. See AIG Form 10-K for FY08, supra note 47, at 51.
    \453\ See 11 U.S.C. 362(b)(7) (providing that a bankruptcy filing 
does not operate as stay ``of the exercise by a repo participant or 
financial participant of any contractual right . . . under any security 
agreement or arrangement or other credit enhancement forming a part of 
or related to any repurchase agreement, or of any contractual right . . 
. to offset or net out any termination value, payment amount, or other 
transfer obligation arising under or in connection with 1 or more such 
agreements, including any master agreement for such agreements''). The 
term ``repo participant'' is defined broadly to include any entity that 
had an outstanding repurchase agreement with the debtor. 11 U.S.C. 
101(46). The term ``repurchase agreement'' is also broadly defined to 
include agreements ``for the transfer of one or more certificates of 
deposit, mortgage related securities . . ., mortgage loans, interests 
in mortgage related securities or mortgage loans, eligible bankers' 
acceptances, qualified foreign government securities . . ., or 
securities that are direct obligations of, or that are fully guaranteed 
by, the United States or any agency of the United States against the 
transfer of funds by the transferee of such certificates of deposit, 
eligible bankers' acceptances, securities, mortgage loans, or 
interests, with a simultaneous agreement by such transferee to transfer 
to the transferor thereof certificates of deposit, eligible bankers' 
acceptance, securities, mortgage loans, or interests of the kind 
described in this clause, at a date certain not later than 1 year after 
such transfer or on demand, against the transfer of funds'' (as well as 
reverse repurchase agreements). 11 U.S.C. 101(47). See also 11 U.S.C. 
362(b)(27) (providing the same protection to parties to repurchase 
agreements under master netting agreements).
    \454\ See 11 U.S.C. 362(b)(7); 11 U.S.C. 559 (``The exercise of a 
contractual right of a repo participant or financial participant to 
cause the liquidation, termination, or acceleration of a repurchase 
agreement because of a condition of the kind specified in section 
365(e)(1) of this title [including a bankruptcy filing] shall not be 
stayed, avoided, or otherwise limited by operation of any provision of 
this title . . .''). See also 11 U.S.C. 362(b)(27); 11 U.S.C. 561 
(providing the same protection to parties with various repurchase 
agreements under a master netting agreement). For the purposes of this 
section. the term ``contractual right'' is specifically defined to 
include ``a right set forth in a rule or bylaw of a derivatives 
clearing organization . . ., a multilateral clearing organization . . 
., a national securities exchange, a national securities association, a 
securities clearing agency, a contract market designated under the 
Commodity Exchange Act, a derivatives transaction execution facility 
registered under the Commodity Exchange Act, or a board of trade . . . 
or in a resolution of the governing board thereof and a right, whether 
or not evidenced in writing, arising under common law, under law 
merchant or by reason of normal business practice.'' 11 U.S.C. 559.
    \455\ See 11 U.S.C. 559 (``In the event that a repo participant or 
financial participant liquidates one or more repurchase agreements with 
a debtor and under the terms of one or more such agreements has agreed 
to deliver assets subject to repurchase agreements to the debtor, any 
excess of the market prices received on liquidation of such assets (or 
if any such assets are not disposed of on the date of liquidation of 
such repurchase agreements, at the prices available at the time of 
liquidation of such repurchase agreements from a generally recognized 
source or the most recent closing bid quotation from such a source) 
over the sum of the stated repurchase prices and all expenses in 
connection with the liquidation of such repurchase agreements shall be 
deemed property of the estate, subject to the available rights of 
setoff'').
    \456\ For additional explanation of repurchase agreements, see 
Section E.1 above.
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     Holders of Other AIG or AIGFP Debt: \457\ If AIG 
and AIGFP had filed for bankruptcy, their creditors would have 
been protected to the extent that their claims were 
secured.\458\ To the extent that the creditors were unsecured 
or undersecured, they would have been subject to the 
substantial discount negotiated in the bankruptcy plan and, as 
a result, would have incurred substantial losses. Thus, 
unsecured (and undersecured) creditors received a significant 
indirect benefit from the government's decision to rescue 
AIG.\459\
---------------------------------------------------------------------------
    \457\ For additional information on the holders of AIG and AIGFP 
debt, see Section E.1 above.
    \458\ See 11 U.S.C. 362(b)(3), 546(b), 547(c)(3). 547(c)(5), 
547(e)(2)(A) (regarding perfection of security interests), 
1129(b)(2)(A) (providing that secured creditors retain their interest 
in property or receive the value of their secured claims or interest 
for plan confirmation).
    \459\ See 11 U.S.C. 507 (priority of bankruptcy claims); 1129 
(requirements for plan confirmation).
---------------------------------------------------------------------------
     Securities Lending Counterparties: If AIG had 
filed for bankruptcy, it is unclear what would have happened to 
capital contributions from the parent company to the insurance 
subsidiaries, past or future, related to the securities lending 
program.\460\ Capital contributions made to the insurance 
subsidiaries within 90 days of the bankruptcy filing could 
technically have been challenged as preferential 
transfers,\461\ but such challenges would have practical 
limitations. Because AIG's stock in its insurance subsidiaries 
was its most valuable asset, it is unlikely that creditors 
would have wanted to diminish the value of the insurance 
subsidiaries by taking action to weaken their financial 
strength. Subsequent collateral transfers might even have been 
allowed in order to preserve their value, although this might 
have been less likely.\462\ In addition, the insurance 
regulators might have seized the insurance subsidiaries, making 
it difficult or impossible for the creditors to undo previous 
capital contributions.\463\
---------------------------------------------------------------------------
    \460\ For example, AIG made capital contributions to offset 
realized losses from the sale of securities in the pool ($5 billion), 
to maintain capital and surplus levels after unrealized losses from the 
decline in market value of the securities in the pool, and 
contributions to make up the shortfall when securities lending 
transactions had collateral levels less than 100 percent ($434 
million). The contributions to offset realized losses (make whole 
agreements) and to make up the difference in collateral levels (between 
agreed upon level and 100 percent) were part of guarantees provided by 
AIG to the insurance subsidiaries. Panel call with Texas Department of 
Insurance (May 24, 2010).
    \461\ 11 U.S.C. 547(b).
    \462\ The guarantee could have been rejected under 11 U.S.C. 365. 
Transfers between the parent and the insurance subsidiaries would have 
been greatly constrained and would have depended on the decisions of 
the interested parties on how best to maximize the value of AIG's 
assets.
    \463\ Panel call with Texas Department of Insurance (May 24, 2010).
---------------------------------------------------------------------------
    As discussed above, the insurance subsidiaries would not 
have been able to file for bankruptcy and would have remained 
liable for all outstanding securities lending obligations, and 
their ultimate ability to survive or reorganize would have 
depended on the impact of the bankruptcy filing on their 
business and customers and the actions taken by their insurance 
regulators through state regulatory procedures.\464\ It is 
unclear whether all of the insurance subsidiaries had 
sufficient capital or resources to meet these obligations. The 
securities lending collateral pools were already experiencing 
liquidity strains, and AIG was providing significant capital to 
fund collateral calls or returns of cash collateral and to 
offset losses recognized by the insurance subsidiaries. The 
securities lending counterparties had the contractual right to 
terminate the loans at any time or because of an event of 
default (such as failing to pay or repay cash collateral to 
either mark collateral to market or on termination of the loan, 
an act of insolvency, or certain regulatory actions).\465\ They 
would have been able to accelerate performance, set off against 
any other obligations, and withhold delivery or sell borrowed 
securities to satisfy any unpaid obligations.\466\ Thus, they 
would have been protected to the extent that they were 
collateralized and would have been able to assert a claim for 
any shortfall as well as for reasonable costs and expenses 
incurred.\467\
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    \464\ Because the insurance subsidiaries would not have been able 
to file for bankruptcy, the bankruptcy safe harbor provisions would not 
have applied to these contracts.
    \465\ Events of default include failing to pay or repay cash 
collateral to either mark collateral to market or on termination of the 
loan, an act of insolvency, or certain regulatory actions. See 
International Securities Lending Association, Global Master Securities 
Lending Agreement, at 16-19 (July 2009).
    \466\ See id. Generally, neither party is required to make delivery 
to the other unless that party is satisfied that the other party will 
make the necessary delivery in return. See id., at 17. These rights 
were the contractual equivalent of the bankruptcy safe harbor 
provisions for various financial contracts.
    \467\ Securities lending counterparties have the right to mark the 
securities lending collateral to market so that the ``posted 
collateral'' (or cash collateral provided to the AIG securities lending 
program) equals the aggregate of the ``required collateral values'' (or 
market value of securities equivalent to the loaned securities and the 
applicable margin). See id. If at any time on any business day, the 
aggregate market value of posted collateral (cash) exceeds the 
aggregate of the required collateral values, the Borrower (securities 
lending counterparty) may demand the Lender (AIG insurance 
subsidiaries) to repay or deliver equivalent collateral (cash) to 
eliminate the excess. Id. The parties also have the right to set off 
other obligations under the collateral agreement. Id., at 12-13. If the 
collateral had been marked to market, the counterparties would not have 
been exposed to early termination because the value of lent securities 
held by the counterparties would have matched the amount of cash 
collateral that had not yet been repaid. The counterparties would also 
have been able to demand reasonable costs and expenses incurred as a 
result of failure to deliver equivalent collateral. See id., at 18, 21, 
23.
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    The impact of a bankruptcy on the securities lending 
counterparties would depend on whether they were 
overcollateralized or undercollateralized.
    --If the securities lending counterparties were 
overcollateralized (or AIG's securities lending agreements were 
undercollateralized), the value of the securities loaned by AIG 
to the counterparties would have exceeded the value of the cash 
collateral provided to AIG by some margin.\468\ As a result, 
these counterparties would have been fully secured if the 
insurance subsidiaries defaulted on their obligations or had 
been unable to return the cash collateral. The counterparties 
would have been able to sell the lent securities to satisfy any 
unpaid obligations of the AIG insurance subsidiaries.
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    \468\ According to regulators at the Texas Department of Insurance, 
by July 31, 2008, roughly 1/4 to 1/3 of AIG's securities lending 
counterparties were asking for collateral requirements of less than 100 
percent (or were asking AIG to loan securities in return for cash 
collateral below the value of the lent securities), some as low as 90 
percent. AIG made up the difference between the collateral required and 
100 percent, contributing $434 million as of July 31, 2008. Panel call 
with Texas Department of Insurance (May 24, 2010).
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    --If the securities lending counterparties were 
undercollateralized (or AIG's securities lending agreements 
were overcollateralized), the value of the securities loaned by 
AIG to the counterparties would have been less than the value 
of the cash collateral provided to AIG by some margin.\469\ 
Thus, in the event of default, the securities lending 
counterparties would not have been able to satisfy any unpaid 
obligations of the AIG insurance subsidiaries by selling the 
lent securities. Without help from the AIG parent, the funds 
for these obligations would have needed to come from the assets 
of the insurance subsidiaries. Further, the termination or 
payout process may have been complicated or prolonged in the 
event of intervention by the insurance regulators. If the 
regulators had placed the insurance subsidiaries into 
receivership, the securities lending counterparties would have 
been treated as general creditors for any deficiency claims 
asserted, would likely not have received anything from the 
regulators for these deficiency claims, and would have had to 
wait several years for the determination of whether and to what 
extent they would have been paid. They would, for example, have 
had to wait for priority claims--such as the claims of 
policyholders--to be paid in full. The counterparties thus 
benefited by receiving their cash collateral, in full, on 
demand, and by avoiding the need to sell securities in a 
depressed or distressed market (and the accompanying costs and 
expenses) to cover their positions, assert and seek payments 
for any deficiency, and deal with insurance regulators (if, for 
example, the regulators had seized the insurance subsidiaries).
---------------------------------------------------------------------------
    \469\ See AIG Form 10-Q for Third Quarter 2008, supra note 23, at 
49 (``Historically, AIG had received cash collateral from borrowers of 
100-102 percent of the value of the loaned securities).
---------------------------------------------------------------------------
    The charts in Annex VIII also compare the impact of 
bankruptcy or rescue on both undercollateralized and 
overcollateralized counterparties.
     CDS Counterparties: If AIG had filed for 
bankruptcy, the counterparties to AIG's various CDS contracts 
would have benefited from safe harbor provisions giving them 
additional protection or favorable treatment. Counterparties 
``to any swap agreement'' are exempted from the automatic stay 
that prevents creditors from taking action to collect on their 
debts after the bankruptcy filing.\470\ The counterparties are 
specifically allowed to terminate their CDS contracts based on 
the bankruptcy filing and exercise their contractual rights, if 
any, to seize previously posted collateral or to offset or net 
out any other obligations.\471\ If the counterparties were 
undersecured, however, they would have had to assert any 
deficiency claims as general unsecured creditors. Thus, the 
benefit to the CDS counterparties of government assistance such 
as ML3 or AIG's avoidance of bankruptcy depends on the extent 
that the creditors were undersecured or non-collateralized and 
the extent to which the counterparties would have been subject 
to the substantial discount negotiated in a bankruptcy plan. 
The counterparties' level of security would change as market 
conditions or fair values of outstanding affected transactions 
(or the values of underlying reference securities, such as CDOs 
and CLOs) fluctuated and depending on AIG's ability to post 
additional collateral, among other things. On an aggregate 
basis, the CDS counterparties that participated in ML3 were 
overcollateralized; they returned $2.5 billion to AIG as part 
of the ML3 closeout.\472\ For second-level CDS counterparties, 
the benefit of the government assistance depends on the 
soundness of the first-level counterparties or their ability to 
make good on the second-level CDSs if AIG fails to perform on 
the first-level CDSs.
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    \470\ See 11 U.S.C. 362(b)(17) (providing that a bankruptcy filing 
does not operate as stay ``of the exercise by a swap participant or 
financial participant of any contractual right . . . under any security 
agreement or arrangement or other credit enhancement forming a part of 
or related to any swap agreement, or of any contractual right . . . to 
offset or net out any termination value, payment amount, or other 
transfer obligation arising under or in connection with 1 or more such 
agreements, including any master agreement for such agreements''). The 
term ``swap participant'' is defined broadly to include any entity that 
had an outstanding swap agreement with the debtor. 11 U.S.C. 101(53C). 
The term ``swap agreement'' is also broadly defined to include a 
variety of instruments including interest rate, currency, equity index, 
equity, debt index, debt, total return, credit spread, credit, 
commodity index, commodity, weather, emissions, and inflation swaps. 11 
U.S.C. 101(53B). See also 11 U.S.C. 362(b)(27) (providing the same 
protection to counterparties with various derivative contracts under 
master netting agreements).
    \471\ See 11 U.S.C. 362(b)(17); 11 U.S.C. 560 (``The exercise of 
any contractual right of any swap participant or financial participant 
to cause the liquidation, termination, or acceleration of one or more 
swap agreements because of a condition of the kind specified in section 
365(e)(1) of this title [including a bankruptcy filing] or to offset or 
net out any termination values or payment amounts arising under or in 
connection with the termination, liquidation, or acceleration of one or 
more swap agreements shall not be stayed, avoided, or otherwise limited 
by operation of any provision of this title . . . ''). See also 11 
U.S.C. 362(b)(27); 11 U.S.C. 561 (providing the same protection to 
counterparties with various derivative contracts under a master netting 
agreement).
    \472\ For additional information on ML3, see Section D.4. It should 
be noted that if AIG or AIGFP had filed for bankruptcy, many of the CDS 
counterparties would have been undercollateralized because collateral 
calls were calculated at mid-mark. Thus, they would have had to assert 
an unsecured claim for any deficiency that would have been subject to 
the bankruptcy discount. Whether the counterparties would have been 
better off in a bankruptcy would depend on whether or how long they 
continued to hold (or intermediate on behalf of clients who held) the 
underlying reference securities or CDOs. The insurance on the CDOs 
would have disappeared, and the counterparties would have had ``naked 
exposure'' to changes in the value of the CDOs. If the counterparties 
attempted to sell the CDOs immediately or at a price below the 
difference in value of the CDS contract and the collateral posted on 
the bankruptcy date, the counterparties would have been worse off. If 
the counterparties held the CDOs or sold the CDOs after the value 
rebounded beyond the value of the difference in value of the CDS 
contract and the collateral posted on the bankruptcy date, then they 
would have been better off. Thus, it is likely that some of the 
counterparties would have been better off in bankruptcy if they 
continued to hold the CDOs in light of the increase in the valuation of 
the ML3 securities.
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    The charts in Annex VIII also compare the impact of rescue 
or bankruptcy on differently-placed counterparties.
     Other CDS Counterparties:
          --Other CDO Swap Counterparties: Like the CDS 
        counterparties discussed above, if AIG filed for 
        bankruptcy, its other CDO swap counterparties would be 
        able to terminate their CDS contracts, seize previously 
        posted collateral, and offset or net out any other 
        obligations. To the extent that the other CDO swap 
        counterparties were unsecured or undersecured, they 
        would be subject to the substantial discount negotiated 
        for unsecured creditors as part of the bankruptcy plan. 
        These counterparties benefited from AIG's avoidance of 
        bankruptcy by receiving additional collateral as a 
        result of the government rescue (a direct benefit) and 
        from continuing their CDS contracts and avoiding forced 
        losses as a result of an AIG bankruptcy (indirect 
        benefits).
          --Regulatory Capital Swap Counterparties: The 
        regulatory capital CDS counterparties also would have 
        benefited from the safe harbor provisions in the 
        bankruptcy code, but only to the extent of the limited 
        collateral that they held. The protection issued by 
        AIGFP to Banque AIG would end, and Banque AIG is not 
        likely to have been able to continue providing such 
        protection after the failure of its parent. As 
        described in Section E1, it seems likely that the 
        impact of a bankruptcy on the counterparties that held 
        these swaps would have hinged on the performance of the 
        banks' other assets held as regulatory capital and 
        whether or not the banking regulators in their 
        countries provided forbearance.
    Based on the capital rules under which these banks were 
operating in 2008, the loss of credit protection for ABN AMRO 
would have resulted in an estimated impact on its regulatory 
capital in the amount of $3.6 billion;\473\ this means that had 
AIG filed for bankruptcy, ABN AMRO would have needed to raise 
an additional $3.6 billion in order to maintain its current 
regulatory capital ratios. For Danske and KFW, the estimated 
impact would have been around $2.1 billion each. For Credit 
Logement, it would have been about $1.9 billion.\474\
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    \473\ Under Basel I, banks were required to hold 8 percent capital 
against assets such as corporate loans that were assigned a 100 percent 
risk weighting. But when AIGFP's regulated bank provided credit 
protection, the risk weighting fell to 20 percent, and the banks were 
only required to hold 8 percent capital against the 20-percent weighted 
value of the loans, which equaled 1.6 percent of the assets. The 
difference between these two regulatory treatments, 6.4 percent of the 
assets, was the amount that the banks did not have to hold as capital 
as a result of the AIGFP swaps. The regulatory capital relief would be 
less for assets that would otherwise receive a risk weighting of less 
than 100 percent under Basel I.
    \474\ It is impossible to calculate the exact capital charges 
avoided by these banks without knowing the risk weighting of each 
underlying asset that received credit protection from AIGFP. The 
calculations here reflect the methodology that AIG and FRBNY used to 
calculate the exposure that the counterparties would have had in a 
bankruptcy. Whether losing this cushion this would have resulted in 
inadequate regulatory capital (and thus a need to raise capital or sell 
assets in a volatile market) depends on the extent to which each bank 
was over-capitalized, and the extent to which their other assets lost 
value.
---------------------------------------------------------------------------
     Municipalities and State Agencies with Guaranteed 
Investment Agreements: GIAs are similar to traditional loans 
that would not benefit from the safe harbor provisions. If AIG 
and AIGFP filed for bankruptcy, municipalities with GIAs would 
have been subject to the automatic stay, would not have been 
able to close out their contracts immediately, and would have 
been subject to the normal rights of setoff.\475\ To the extent 
that they were secured or collateralized, they could request 
relief from the stay.\476\ However, the trustee or DIP could 
challenge the level of security and potentially void some of 
the transfers made to the municipalities (e.g., if the security 
interests of the municipalities were not properly perfected or 
the transfer would constitute preferential transfers).\477\ The 
municipalities would assert general unsecured claims for any 
deficiency that would be subject to the substantial bankruptcy 
discount.\478\ By avoiding bankruptcy, these municipalities 
benefited to the extent that the payments they received as a 
result of government assistance exceeded the value of posted 
collateral that could not be recovered through various 
avoidance actions.\479\ They also benefited by avoiding delays 
in payment, legal fees incurred to protect and maximize 
collection on their claims, and potential ratings downgrades or 
disruptions in the municipal bond market.
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    \475\ 11 U.S.C. 362 (providing no exemption for municipalities from 
the automatic stay); 365(e)(1)(A)-(B) (providing that creditors cannot 
terminate or modify an executory contract on account of the financial 
condition of the debtor or the filing of a bankruptcy petition); 553 
(providing setoff rights).
    \476\ 11 U.S.C. 362(d)(2)(A)-(B) (providing relief ``if the debtor 
does not have an equity in such property; and such property is not 
necessary to an effective reorganization''). See also 11 U.S.C. 506 
(explaining the determination of secured status). As of September 2008, 
AIG had outstanding GIA obligations of $13.6 billion. AIG had posted 
$8.5 billion of collateral for these GIAs, leaving $5.1 billion of the 
GIAs uncollateralized. Panel staff conversation with AIG (May 25, 
2010).
    \477\ See, e.g., 11 U.S.C. 547(b) (providing that a transfer to a 
creditor may be avoided if it was made for the benefit of the creditor, 
on account of an antecedent debt, while the debtor was insolvent, 
within 90 days of the bankruptcy filing, and would enable the creditor 
to receive more than the creditor would have received in bankruptcy if 
the transfer had not been made); 11 U.S.C. 547(c)(3), 547(c)(5), 
547(e)(1) (relating to the perfection of security interests). The 
trustee or DIP has the burden of proving avoidability. 11 U.S.C. 
547(g).
    \478\ AIG's guarantees of AIGFP's GIA obligations were executory 
contracts that would have been rejected during the bankruptcy and would 
have provided no recourse to the municipalities with GIAs. See 11 
U.S.C. 365.
    \479\ According to the 2007 and 2008 AIG annual reports, AIG had 
outstanding GIA obligations of $19.9 billion at December 31, 2007 and 
$13.9 billion at December 31, 2008, and the fair value of securities 
pledged as collateral were $14.5 billion and $8.4 billion (or roughly 
72.9 percent and 60.4 percent of the outstanding amounts), 
respectively. See AIG Form 10-K for FY08, supra note 47, at 53, 277; 
AIG Form 10-K for FY07, supra note 41, at 89, 171.
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     Pension Plans with Wrap Contracts: An AIG or AIGFP 
bankruptcy would have terminated pension funds' wrap coverage 
and, in turn, would have resulted in instability and additional 
risk in stable value funds.\480\ Pension funds holding the 
stable value wrap contracts would not have lost the entire $38 
billion of their stable value funds in the event of bankruptcy, 
but they would have lost the insurance \481\ in a market where 
replacement insurance of this type was becoming increasingly 
unavailable.\482\ Pension funds would have had to write down 
their assets from book to market value, resulting in 
significant losses to workers' portfolios in the markets of 
late 2008,\483\ although the precise amount of these losses 
cannot be ascertained. Workers or retail investors may have 
been encouraged to withdraw funds, and confidence in the 
stability of pension plans would have been damaged. The extent 
of the potential impact on pension investors is unclear.
---------------------------------------------------------------------------
    \480\ See Testimony of Thomas C. Baxter, supra note 319, at 4. It 
should be noted that in the event of an AIG or AIGFP bankruptcy, the 
wrap contracts would likely have been rejected under 11 U.S.C. 365.
    \481\ See Testimony of Thomas C. Baxter, supra note 319, at 4 
(``AIG also had approximately $38 billion of what are called stable 
value wrap contracts . . . . Workers whose 401(k) plans had purchased 
these contracts from AIG to insure against the risk that their stable 
value funds would decline in value could have seen that insurance 
disappear in the event of an AIG bankruptcy''); House Committee on 
Financial Services, Written Testimony of Ben S. Bernanke, chairman, 
Board of Governors of the Federal Reserve System, Oversight of the 
Federal Government's Intervention at American International Group, at 2 
(Mar. 24, 2009) (online at www.house.gov/apps/list/hearing/
financialsvcs_dem/statement_-_bernanke032409.pdf) (hereinafter 
``Written Testimony of Ben Bernanke'') (``Workers whose 401(k) plans 
had purchased $40 billion of insurance from AIG against the risk that 
their stable value funds would decline in value would have seen that 
insurance disappear''). See also AIG Presentation on Systemic Risk, 
supra note 92, at 18 (``Failure to provide a wrap on $38 billion of 
stable value funds could result in millions of lost value . . . ''); 
Stable Value Investment Association, FAQ: Your Questions Answered About 
Stable Value (Mar. 23, 2009) (online at stablevalue.org/help-desk/faq/) 
(``If an issuer of a contract that wraps or covers a fixed income 
portfolio (synthetic GIC) became insolvent, it is important to remember 
that the bulk of the assets--the portfolio of fixed income securities 
that support the stable value fund--are already owned by the 401(k) 
plan and its participants. In the event of any ultimate claim against 
the issuer for failure to meet any financial obligation under the 
contract, such claim would be settled during the normal bankruptcy 
process'').
    \482\ See Eleanor Laise, ``Stable'' Funds in Your 401(k) May Not 
Be, Wall Street Journal (Mar. 26, 2009) (online at www.wsj.com/article/
SB123802645178842781.html#articleTabs%3Darticle) (``[M]any banks and 
insurance companies are growing reluctant to provide the `wrap 
contracts' that help smooth the funds' returns, leaving some stable-
value managers scrambling to find alternatives. . . . Even stable-value 
funds with strong market-to-book rations are finding wrap providers 
less than welcoming. . . . [M]ost wrap providers aren't taking in any 
new money''). Vanguard Group principal Sue Graef further explained that 
AIG wrapped about 10 percent of the fund's assets, and it had been a 
slow process to replace them. Id.
    \483\ See Financial Accounting Standards Board ASC 715-30-35 
(requiring pension plan assets to be marked to market). See also 
Testimony of Thomas C. Baxter, supra note 319, at 4 (``Pension plans 
would have been forced to write down their assets from book to market 
value, resulting in significant losses in participants' portfolios'').
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     Employees: Employees of the AIG companies filing 
for bankruptcy would have received wages, salaries, and 
commissions for services rendered during the bankruptcy, and 
with some limitations, they would have received wages, 
salaries, and commissions that were earned within six months of 
the bankruptcy filing but not yet paid, if any.\484\ However, 
avoiding bankruptcy likely saved many employees of the AIG 
parent company and various subsidiaries--both filing and non-
filing--from losing their jobs. In addition, AIG employees were 
able to avoid limitations or prohibitions related to bonuses, 
retention bonuses, severance payments, and other payments 
outside of the ordinary course of business.\485\
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    \484\ Employees receive administrative expense priority for wages, 
salaries, and commissions earned during the bankruptcy proceedings and, 
unless they agree otherwise, must be paid in full before the plan can 
be confirmed. See 11 U.S.C. 503(b)(1), 507(a)(2) (providing 
administrative expense priority); 11 U.S.C. 1129(a)(9)(A) (requirement 
payment for plan confirmation). They also receive administrative 
expense priority for up to $10,000 of wages, salaries, and commissions 
(including vacation, severance, and sick leave) that were earned within 
180 days of the bankruptcy filing but not yet paid. See 11 U.S.C. 
507(a)(4) (providing administrative expense priority); 11 U.S.C. 
1129(a)(9)(B) (requiring payment for plan confirmation).
    \485\ See 11 U.S.C. 503(c)(1) (providing that the debtor cannot 
make a transfer to induce an insider to stay unless the court finds 
that it is essential for retention, the employee is essential to the 
survival of the business, and the transfer is not greater than 10 times 
the mean amount paid to nonmanagement or not greater than 25 percent of 
previous amounts paid to the insider); 11 U.S.C. 503(c)(2) (providing 
that the debtor cannot make severance payments unless they are part of 
a plan offered to all full-time employees and the amount is not greater 
than 10 times the mean amount paid to nonmanagement); 11 U.S.C. 
503(c)(3) (prohibiting payments outside the ordinary course of business 
and not justified by the facts and circumstances of the case, including 
payments to officers, managers, or consultants hired after the 
bankruptcy filing).
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     Suppliers and Contractors: Contractors are 
generally unsecured creditors subject to the substantial 
discount negotiated in the bankruptcy plan. The treatment of 
suppliers is more complicated and depends on when the goods 
were received and whether the suppliers were secured (or had a 
perfected security interest). Suppliers would have been 
protected to the extent that they were secured and would have 
had an unsecured claim for any deficiency.\486\ They would have 
had the right to reclaim goods provided, but not yet paid for, 
around the time of the bankruptcy filing.\487\ They would also 
have received administrative expense priority for the value of 
goods provided during the bankruptcy.\488\
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    \486\ See 11 U.S.C. 362(b)(3), 546(b), 547(c)(3). 547(c)(5), 
547(e)(2)(A) (regarding perfection of security interests), 
1129(b)(2)(A) (providing that secured creditors retain their interest 
in property or receive the value of their secured claims or interest 
for plan confirmation).
    \487\ See 11 U.S.C. 546(c)(1)(A)-(B) (providing supplier with the 
right of reclamation for goods sold in the ordinary course of business, 
if the debtor was insolvent, and within 45 days before the bankruptcy 
filing and requiring the supplier to demand the goods in writing within 
45 days of receipt or 20 days after the bankruptcy filing); 11 U.S.C. 
503(b)(9), 546(c)(2) (providing administrative expense priority for 
such goods if the supplier does not demand reclamation in writing).
    \488\ See 11 U.S.C. 503(b)(9), 507(a)(2) (providing administrative 
expense priority for goods received within 20 days before the 
bankruptcy filing and in the ordinary course of business); 11 U.S.C. 
1129(a)(9)(A) (requiring payment for plan confirmation).
---------------------------------------------------------------------------
    The Panel is not questioning whether it was appropriate for 
AIG to fulfill its obligations to any specific category of 
beneficiary. The Panel notes, however, that in cases where the 
government intervenes on a more discriminating basis--such as 
when the Federal Deposit Insurance Corporation (FDIC) seizes a 
bank or in bankruptcy, as was the case in the support to 
General Motors and Chrysler--the government has the ability to 
select among the relationships and obligations that it believes 
it most needs to continue in order to best extract value from 
the failing business and protect the taxpayers. Like any post-
crisis financer, the government would have the ability to 
condition the extension of new credit on an assurance that the 
business would be using the money in ways that would cause the 
business to survive, not just to pay off old debt. Thus, if 
some form of resolution authority had existed for AIG, the 
government might have chosen to make capital contributions to 
AIG's insurance subsidiaries so they could continue as 
adequately funded businesses, generating cash flow for their 
parent. \489\ It might have chosen to sell off some parts of 
AIG's business in Section 363-type sales.\490\ Some bondholders 
\491\ might have been forced to take their place in line in 
liquidation, while other creditors might have fared better.
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    \489\ See Congressional Oversight Panel, Testimony of Timothy F. 
Geithner, secretary, U.S. Department of the Treasury, COP Hearing with 
Treasury Secretary Timothy Geithner (Sept. 10, 2009) (online at 
cop.senate.gov/hearings/library/hearing-121009-geithner.cfm) (``This is 
the tragic failure about the regime we came in with because we did not 
have the legal capacity to manage the orderly unwinding of a large, 
complex financial institution. We do have the capacity to unwind small 
banks and thrifts, but did not have it for an entity like AIG. And that 
forced us to do things that we would not ever want to do.'')
    \490\ Section 363 of the Bankruptcy Code allows the debtor to 
propose to sell property of the estate outside of the ordinary course 
of business as part of the reorganization effort. 11 U.S.C. 363(b). The 
proceeds of the sale can be used to fund the debtor's operations or to 
raise capital to pay creditors. Section 363 sales provide substantial 
advantages: buyers have clear title to the purchased assets and the 
estate can maximize the value of the assets sold, ultimately benefiting 
the creditors. 11 U.S.C. 363(f) (``The trustee may sell property . . . 
free and clear of any interest in such property of an entity other than 
the estate, only if (1) applicable nonbankruptcy law permits sale of 
such property free and clear of such interest; (2) such entity 
consents; (3) such interest is a lien and the price at which such 
property is to be sold is greater than the aggregate value of all liens 
on such property; (4) such interest is in bona fide dispute; or (5) 
such entity could be compelled, in a legal or equitable proceeding, to 
accept a money satisfaction of such interest.'') Distributions to 
creditors will be made in accordance with priority rules. See 11 U.S.C. 
507. There are no restrictions on how the purchaser subsequently uses 
the purchased assets. See September Oversight Report, supra note 389, 
at 44-45, 49, 111-12. However, state insurance regulators would have to 
approve the sale of insurance subsidiaries domiciled within their state 
under state insurance laws, and as discussed in the next section, it 
would be difficult to get value if there had been a ``run'' on the 
insurance subsidiaries as a result of the bankruptcy filing of the AIG 
parent company and other domestic, non-regulated subsidiaries.
    \491\ Bondholders are included in the discussion of other holders 
of AIG and AIGFP debt in Section E.1. These bondholders would be 
treated as unsecured creditors; see explanation of treatment of AIG and 
AIGFP unsecured debt holders above.
---------------------------------------------------------------------------
    As a result of the government's decision to rescue AIG, 
pre-bailout shareholders were diluted, but not completely wiped 
out, as they would have been in bankruptcy, and as occurred in 
the bankruptcies of the automotive companies several months 
later. However, pre-bailout shareholders of AIG were much more 
significantly diluted than shareholders were in the subsequent 
rescues of Citigroup and Bank of America.
    This means that even though the taxpayers may lose some 
portion of the government's investment in AIG--which could be 
in the billions of dollars--pre-bailout shareholders still have 
the potential to profit from AIG's future recovery.\492\
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    \492\ See Congressional Oversight Panel, March Oversight Report: 
The Unique Treatment of GMAC under TARP, at 88 (Mar. 10, 2010) (online 
at cop.senate.gov/documents/cop-031110-report.pdf) (hereinafter ``March 
Oversight Report'') (discussing a similar issue with pre-bailout 
shareholders of GMAC).
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               F. Analysis of the Government's Decisions


1. Initial Crisis: September 2008

            a. The Government's Justification for the Rescue
    The following section sets forth the justifications offered 
by the Federal Reserve and Treasury with respect to their 
rescue of AIG; the Panel's analysis of those justifications 
follows.
    Officials at FRBNY, Treasury, and the Federal Reserve say 
they became fully aware of the fact (if not the full extent) of 
the severe liquidity problems facing AIG on September 12.\493\ 
The Panel notes, however, that FRBNY had earlier awareness of 
at least some of the looming issues facing AIG. Mr. Willumstad, 
then-AIG CEO, had a conversation with FRBNY President Geithner 
in late July 2008 regarding possible access to the Federal 
Reserve's discount window. In addition, on September 9, 2008, 
Mr. Willumstad spoke to President Geithner about the potential 
for AIG to become a primary dealer in order to gain access to 
the Federal Reserve's discount window, and again made no 
progress. Mr. Willumstad clarified, however, that during these 
conversations, he did not state that ``AIG was facing serious 
issues.'' \494\
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    \493\ Testimony of Thomas C. Baxter, supra note 215; Congressional 
Oversight Panel, Testimony of Sarah Dahlgren, executive vice president 
of special investments management and AIG monitoring, Federal Reserve 
Bank of New York, COP Hearing on TARP and Other Assistance to AIG (May 
26, 2010) (stating that FRBNY understood the threat AIG posed to the 
economy on September 12, and acknowledging that ``AIG was not one of 
the top 10 exposures'' for the institutions that it supervised at that 
time); e-mail from Hayley Boesky, vice president, Federal Reserve Bank 
of New York, to William Dudley, executive vice president, Federal 
Reserve Bank of New York, and other Federal Reserve Bank of New York 
officials (Sept., 12, 2008) (FRBNYAIG00511) (stating ``Now focus is on 
AIG. I am hearing worse than LEH [Lehman]. Every bank and dealer has 
exposure to them. People I heard from worry they can't roll over their 
funding . . . Estimate I hear is 2 trillion balance sheet''); E-mail 
from Alejandro LaTorre, vice president, Federal Reserve Bank of New 
York, to Timothy F. Geithner, president and chief executive officer, 
Federal Reserve Bank of New York, and other Federal Reserve Bank of New 
York officials (Sept. 12, 2008) (FRBNYAIG00509) (providing an update on 
the AIG situation (``[t]he key takeaway is that they are potentially 
facing a severe run on their liquidity over the course of the next 
several (approx. 10) days if they are downgraded by Moody's and S&P 
early next week'') and noting that FRBNY and Board of Governors of the 
Federal Reserve Board officials met with senior executives at AIG to 
discuss their liquidity and risk exposure).
    \494\ Testimony of Robert Willumstad, supra note 179.
---------------------------------------------------------------------------
    While the Federal Reserve had no role in supervising or 
regulating AIG and was also not lending to the company,\495\ 
the Federal Reserve was the only governmental entity at the 
time with the legal authority to provide liquidity to the 
financial system in emergency and exigent circumstances.\496\ 
Through internal discussions and a dialogue with AIG and its 
state insurance regulators, the Board and FRBNY ultimately 
chose to provide AIG with assistance after identifying the 
systemic risks associated with the company and contemplating 
the consequences of an AIG bankruptcy or partial rescue.\497\ 
As discussed above, on September 16, the Board, with the full 
support of Treasury,\498\ authorized FRBNY under section 13(3) 
of the Federal Reserve Act to lend up to $85 billion to AIG in 
order to assist the company in meeting its obligations as they 
came due. The Board determined that, in the then-existing 
environment, ``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.'' \499\ According 
to Mr. Liddy, who became AIG's CEO the following day, ``[t]his 
facility was the company's best alternative.'' \500\ Later that 
day, the AIG Board of Directors voted to approve the 
transaction.\501\
---------------------------------------------------------------------------
    \495\ Given this role, FRBNY emphasized that it had three main 
tasks with respect to helping facilitate an AIG resolution: (1) a 
``need to understand the exposures of our firms (banks and IBs);'' (2) 
a ``need to stay in the information loop, but `low key' our 
interactions with NYS-Insurance and the UK-FSA. We will have some light 
interface with other supervisors (OTS, etc.);'' and (3) ``[t]hrough 
Legal, we want to understand how the bankruptcy process will play 
out.'' E-mail from Brian Peters, senior vice president, risk management 
function, Federal Reserve Bank of New York, to Federal Reserve Bank of 
New York officials (Sept. 15, 2008) (FRBNYAIG00491).
    \496\ For further discussion of the legal options available to AIG 
in September 2008, see Section B3, infra. The Federal Reserve's ability 
to act was dependent upon the Board's authorization to invoke Section 
13(3) of the Federal Reserve Act, which was provided on September 16, 
2008.
    \497\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
    \498\ At the time FRBNY provided AIG with the $85 billion revolving 
credit facility, Treasury only provided a very short statement, with 
then-Secretary Paulson noting that ``[t]hese are challenging times for 
our financial markets. We are working closely with the Federal Reserve, 
the SEC and other 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 the taxpayers.'' U.S. Department of the Treasury, 
Statement by Secretary Henry M. Paulson, Jr., on Federal Reserve 
Actions Surrounding AIG (Sept. 16, 2008) (online at www.treas.gov/
press/releases/hp1143.htm). In a subsequent letter to Timothy F. 
Geithner, then-president and CEO of the Federal Reserve Bank of New 
York, Secretary Paulson stressed that ``the situation at AIG presented 
a substantial and systemic threat'' to our financial markets, and that 
the government's decision to assist AIG ``was necessary to prevent the 
substantial disruption to financial markets and the economy that could 
well have occurred from a disorderly wind-down of AIG.'' Letter from 
Henry M. Paulson, Jr., secretary, U.S. Department of the Treasury, to 
Timothy F. Geithner, president and chief executive officer, Federal 
Reserve Bank of New York (Oct. 8, 2008) (online at 
www.federalreserve.gov/monetarypolicy/files/letter_aig.pdf).
    \499\ Federal Reserve Press Release, supra note 266. In its review 
of FRBNY documents and e-mails from this time, the Panel verified that 
FRBNY officials analyzed the systemic impact of an AIG bankruptcy, and 
concluded that AIG could be more systemic in nature than Lehman due to 
the retail dimension of its business. E-mail from Alejandro LaTorre to 
Timothy Geithner and other FRBNY personnel (Sept. 16, 2008) (FRBNY 
AIG00483-486); E-mail from Alejandro LaTorre, vice president, Federal 
Reserve Bank of New York, to Timothy F. Geithner, president and chief 
executive officer, Federal Reserve Bank of New York, and other Federal 
Reserve Bank of New York officials (Sept. 14, 2008) (FRBNYAIG00496-
499); E-mail from Hayley Boesky, vice president, Federal Reserve Bank 
of New York, to William Dudley, executive vice president, Federal 
Reserve Bank of New York, and other Federal Reserve Bank of New York 
officials (Sept., 12, 2008) (FRBNYAIG00511).
    \500\ American International Group, Inc., AIG Signs Definitive 
Agreement with Federal Reserve Bank of New York for $85 Billion Credit 
Facility (Sept. 23, 2008) (online at media.corporate-ir.net/
media_files/irol/76/76115/releases/092408.pdf).
    \501\ American International Group, Inc., AIG Statement on 
Announcement by Federal Reserve Board of $85 Billion Secured Revolving 
Credit Facility (Sept. 16, 2008) (online at www.aigcorporate.com/
newsroom/index.html) (hereinafter ``AIG Statement on $85 Billion 
Secured Revolving Credit Facility'').
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    Secretary Geithner has stated that ``[t]he decision to 
rescue AIG was exceptionally difficult and enormously 
consequential.'' \502\ Chairman Bernanke has said the Federal 
Reserve's decision-making was driven by the ``prevailing market 
conditions and the size and composition of AIG's obligations,'' 
\503\ as well as ``AIG's central role in a number of markets 
other firms use to manage risks, and the size and composition 
of AIG's balance sheet.'' \504\ The Federal Reserve's actions 
were also informed by its judgment that an AIG collapse would 
have been much more severe than that of Lehman Brothers because 
of its global operations, substantial and varied retail and 
institutional customer base, and the various types of financial 
services it provided.\505\
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    \502\ Testimony of Sec. Geithner, supra note 11, at 1.
    \503\ Senate Committee on Banking, Housing, and Urban Affairs, 
Written Testimony of Ben S. Bernanke, chairman, Board of Governors of 
the Federal Reserve System, Turmoil in US Credit Markets: Recent 
Actions Regarding Government Sponsored Entities, Investment Banks and 
Other Financial Institutions, at 2 (Sept. 23, 2008) (online at 
banking.senate.gov/public/
index.cfm?FuseAction=Files.View&FileStore_id=bbba8289-b8fa-46a2-a542-
b65065b623a1). See also E-mail from Alejandro LaTorre, assistant vice 
president, Federal Reserve Bank of New York, to Timothy Geithner (and 
other FRBNY personnel), president and chief executive officer, Federal 
Reserve Bank of New York (Sept. 16, 2008) (FRBNYAIG00483-486); E-mail 
from Alejandro LaTorre, vice president, Federal Reserve Bank of New 
York, to Timothy F. Geithner, president and chief executive officer, 
Federal Reserve Bank of New York, and other Federal Reserve Bank of New 
York officials (Sept. 14, 2008) (FRBNYAIG00496-499); E-mail from Hayley 
Boesky, vice president, Federal Reserve Bank of New York, to William 
Dudley, executive vice president, Federal Reserve Bank of New York, and 
other Federal Reserve Bank of New York officials (Sept., 12, 2008) 
(FRBNYAIG00511).
    \504\ Ben S. Bernanke, chairman, Board of Governors of the Federal 
Reserve System, Current Economic and Financial Conditions, Remarks at 
the National Association for Business Economics, 50th Annual Meeting, 
Washington, DC (Oct. 7, 2008) (online at www.federalreserve.gov/
newsevents/speech/bernanke20081007a.htm) (hereinafter ``Remarks by Ben 
Bernanke''). See also E-mail from Alejandro LaTorre, assistant vice 
president, Federal Reserve Bank of New York, to Timothy Geithner (and 
other FRBNY personnel), president and chief executive officer, Federal 
Reserve Bank of New York (Sept. 16, 2008) (FRBNYAIG00483-486); E-mail 
from Alejandro LaTorre, vice president, Federal Reserve Bank of New 
York, to Timothy F. Geithner, president and chief executive officer, 
Federal Reserve Bank of New York, and other Federal Reserve Bank of New 
York officials (Sept. 14, 2008) (FRBNYAIG00496-499); E-mail from Hayley 
Boesky, vice president, Federal Reserve Bank of New York, to William 
Dudley, executive vice president, Federal Reserve Bank of New York, and 
other Federal Reserve Bank of New York officials (Sept., 12, 2008) 
(FRBNYAIG00511).
    \505\ See Ben S. Bernanke, chairman, Board of Governors of the 
Federal Reserve System, Four Questions About the Financial Crisis, 
Speech at the Morehouse College, Atlanta, GA (Apr. 14, 2009) (online at 
www.federalreserve.gov/newsevents/speech/bernanke20090414a.htm); 
Remarks by Ben Bernanke, supra note 504; E-mail from Alejandro LaTorre, 
assistant vice president, Federal Reserve Bank of New York, to Timothy 
Geithner (and other FRBNY personnel), president and chief executive 
officer, Federal Reserve Bank of New York (Sept. 16, 2008) (FRBNY 
AIG00483-486); E-mail from Alejandro LaTorre, vice president, Federal 
Reserve Bank of New York, to Timothy F. Geithner, president and chief 
executive officer, Federal Reserve Bank of New York, and other Federal 
Reserve Bank of New York officials (Sept. 14, 2008) (FRBNYAIG00496-
499).
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            i. Systemic Risks
                a. Systemic Risks Articulated in September 2008
    At the time of the initial decision to assist AIG, the 
Federal Reserve and Treasury publicly identified three primary 
ways in which an AIG failure posed systemic risk.
    First, the Federal Reserve and Treasury assert that they 
concluded that, given AIG's role as a large seller of CDSs on 
CDOs, an AIG failure could have exposed its counterparties to 
large losses and disrupted the operation of the payments and 
settlements system.\506\ According to Secretary Geithner, if 
the AIG parent holding company had filed for bankruptcy, 
defaults on over $100 billion of debt and on trillions of 
dollars of derivatives would have resulted.\507\ The Federal 
Reserve and Treasury argue that this would have adversely 
impacted numerous financial institutions and the financial 
system as a whole. The primary fear of the Federal Reserve and 
Treasury was that defaults directly related to AIG would have 
spread throughout the financial system, affecting transactions 
between other counterparties, negatively affecting investor 
confidence, and further destabilizing the economy. Furthermore, 
the Federal Reserve and Treasury contend that banks and other 
counterparties that used the AIGFP CDSs as credit protection in 
the event of loss on the underlying securities would likely 
have suddenly seen their positions become unhedged and 
uncollateralized \508\ as market conditions worsened and the 
underlying assets further declined in value, resulting in 
reduced capital levels.\509\
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    \506\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010); E-mail from Dianne Dobbeck, assistant vice president, 
financial sector policy and analysis, Federal Reserve Bank of New York, 
to Federal Reserve Bank of New York officials (Sept. 15, 2008); E-mail 
from Hayley Boesky, vice president, Federal Reserve Bank of New York, 
to William Dudley, executive vice president, Federal Reserve Bank of 
New York, and other Federal Reserve Bank of New York officials (Sept., 
12, 2008) (FRBNYAIG00511). For further analysis of the impact of an AIG 
failure on the entire derivatives market, see Section F.1(b), infra.
    \507\ Testimony of Sec. Geithner, supra note 11, at 6. See also 
Testimony of Jim Millstein, supra note 44, at 2 (stating that without 
government assistance, ``AIG would have then defaulted on more than $2 
trillion notional of derivative obligations and on over $100 billion of 
debt to institutions'').
    \508\ The Panel notes, however, that some of AIGFP's CDS 
counterparties have stated that they were not exposed to credit risk 
from AIG's default. For further discussion of AIGFP CDS counterparties 
and the creation of Maiden Lane III, see Section F.5, infra. The Panel 
notes that in a bankruptcy filing, virtually all of the multi-sector 
CDO CDS counterparties would have terminated as of the petition date 
and would have been entitled to retain all previously posted cash 
collateral (which essentially means their unsecured claim would become 
secured to the extent of that collateral), hold onto the referenced 
CDOs (for those that were not holding naked positions), or continue the 
contract.
    \509\ E-mail from Alejandro LaTorre, assistant vice president, 
Federal Reserve Bank of New York, to Timothy Geithner, president and 
chief executive officer, Federal Reserve Bank of New York, and other 
FRBNY personnel (Sept. 16, 2008) (FRBNY AIG00483-486); E-mail from 
Alejandro LaTorre, vice president, Federal Reserve Bank of New York, to 
Timothy F. Geithner, president and chief executive officer, Federal 
Reserve Bank of New York, and other Federal Reserve Bank of New York 
officials (Sept. 14, 2008) (FRBNYAIG00496-499); E-mail from Hayley 
Boesky, vice president, Federal Reserve Bank of New York, to William 
Dudley, executive vice president, Federal Reserve Bank of New York, and 
other Federal Reserve Bank of New York officials (Sept. 12, 2008) 
(FRBNYAIG00511).
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    Second, the Federal Reserve and Treasury attribute some of 
their actions to a stated belief that an AIG default could have 
triggered severe disruptions to an already distressed 
commercial paper market.\510\ The Federal Reserve and Treasury 
concluded that an AIG default on its commercial paper could 
have adversely impacted money market mutual funds since AIG had 
issued $20 billion in commercial paper to money market mutual 
funds, approximately four times as much as Lehman 
Brothers.\511\ In the government's view, this could have 
substantially disrupted the commercial paper market by reducing 
credit availability for borrowers even on a short-term basis 
and causing higher lending rates. This concern escalated after 
the money market disruptions that occurred in the wake of the 
Lehman Brothers bankruptcy filing, including the ``breaking of 
the buck'' seen at the Reserve Primary Fund.\512\
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    \510\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010); E-mail from Alejandro LaTorre, assistant vice president, 
Federal Reserve Bank of New York, to Timothy Geithner (and other FRBNY 
personnel), president and chief executive officer, Federal Reserve Bank 
of New York (Sept. 16, 2008) (FRBNY AIG00483-486) (attaching a memo 
referencing how a bankruptcy of AIG commercial paper ``has significant 
contagion potential'' and that if its commercial paper could not be 
rolled over, ``issuers draw down on bank lines,'' causing credit 
extension to dry up, bank capitalization to further deteriorate, and 
ratings downgrades to take place). For further analysis of the impact 
of an AIG failure on the commercial paper market, see Section F.1(b), 
infra.
    \511\ E-mail from Alejandro LaTorre, assistant vice president, 
Federal Reserve Bank of New York, to Timothy Geithner (and other FRBNY 
personnel president and chief executive officer, Federal Reserve Bank 
of New York (Sept. 16, 2008) (FRBNY AIG00483-486).
    \512\ As the Panel noted in its November 2009 oversight report, the 
Lehman Brothers bankruptcy ``quickly triggered a broad-based run of 
investor redemptions in prime funds and the reinvestment of capital 
into government funds.'' November Oversight Report, supra note 411, at 
29. In response, on September 19, 2008, two weeks before EESA was 
signed into law, Treasury announced the Temporary Guarantee Program for 
Money Market Funds, a voluntary program that allowed all publicly 
offered money market funds meeting certain criteria to participate in 
exchange for signing a guarantee agreement and paying fees.
    Although no other money market mutual funds ``broke the buck,'' 
investors liquidated $169 billion from prime funds and reinvested $89 
billion into government funds. International Banking and Financial 
Developments, supra note 187, at 72.
---------------------------------------------------------------------------
    Third, the Federal Reserve and Treasury assert that they 
feared that an AIG failure could have undermined an already 
fragile economy by weakening business and investor 
confidence.\513\ After the placement of Fannie Mae and Freddie 
Mac into government conservatorship on September 7 and the 
Lehman Brothers bankruptcy filing on September 15, financial 
markets destabilized considerably. AIG maintained financial 
relationships with a large number of banks, insurance 
companies, and other market participants across the globe. A 
failure of AIG in this environment, according to the Federal 
Reserve and Treasury, could have further shaken investor 
confidence and contributed to increased borrowing costs and 
additional economic deterioration. In this context, the Federal 
Reserve and Treasury officials state that they believed that 
the unfolding crisis and the increasingly fragile state of the 
economy necessitated swift action to prevent a total collapse 
of the financial system.\514\
---------------------------------------------------------------------------
    \513\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010); E-mail from Alejandro LaTorre, assistant vice president, 
Federal Reserve Bank of New York, to Timothy Geithner, president and 
chief executive officer, Federal Reserve Bank of New York, and other 
FRBNY personnel (Sept. 16, 2008) (FRBNY AIG00483-486) (attaching a memo 
analyzing the systemic impact of an AIG bankruptcy on market liquidity 
and related spillover effects).
    \514\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010).
---------------------------------------------------------------------------
                b. Evolution of Systemic Risk Justifications
    The focus of the government's systemic risk justification 
changed over time. The Panel notes that, at the time of their 
initial intervention, the Federal Reserve and Treasury seem to 
have been cautious in their public statements about the 
systemic risks associated with AIG for fear that they might 
further destabilize the economy and weaken investor confidence 
if they itemized all of the potential consequences associated 
with a company as large and interconnected as AIG. Nonetheless, 
rather than staying committed to the idea that a rescue of AIG 
was necessary given the environment in September 2008 and in 
order to stem the rapid loss of confidence in our financial 
system that was occurring, the Federal Reserve and Treasury 
have changed the emphasis of the rationales underlying their 
intervention in the months since then.\515\
---------------------------------------------------------------------------
    \515\ The Panel notes that the rationales supporting the AIG 
intervention appear well-coordinated between the Federal Reserve and 
Treasury, with Chairman Bernanke and Secretary Geithner's speeches and 
testimonies (as well as those given by their colleagues) in the months 
subsequent to the initial intervention adhering to a consistent story 
line, even as the story has evolved.
---------------------------------------------------------------------------
    In September 2008, neither the Federal Reserve nor Treasury 
publicly expressed specific concern about the effect of an AIG 
bankruptcy on existing insurance policyholders.\516\ As 
discussed above, AIG's insurance operations were viewed as 
generally sound (excluding the liquidity issues stemming from 
AIG's securities lending program on the life insurance side), 
and its insurance subsidiaries had significant value as going 
concerns at the time the government intervened.\517\ Toward the 
end of 2008 and into early 2009, however, the Federal Reserve 
and Treasury began to voice concerns about the desire to 
preserve value at the insurance company subsidiary level and 
the consequences of the unraveling of AIG's insurance 
subsidiaries on households and businesses.\518\ According to 
the Federal Reserve and Treasury, letting AIG's business units 
start to fail would have resulted in catastrophe.\519\ In his 
January 2010 testimony before the House Oversight and 
Government Reform Committee, Secretary Geithner stated:
---------------------------------------------------------------------------
    \516\ The Panel recognizes, however, that internal FRBNY e-mails 
and memos circulated at this time indicate that while the impact of an 
AIG bankruptcy on the insurance subsidiaries did not appear to be a 
main focus of concern, there was at least some thought given to the 
impact of an AIG bankruptcy on regulated insurance subsidiaries. E-mail 
from Alejandro LaTorre, vice president, Federal Reserve Bank of New 
York, to Timothy F. Geithner, president and chief executive officer, 
Federal Reserve Bank of New York, and other Federal Reserve Bank of New 
York officials (Sept. 14, 2008) (FRBNY AIG00496-499) (attaching a memo 
with six reasons for support to AIG focused on AIG's institutional 
trading partners in capital markets operations); E-mail from Alejandro 
LaTorre, vice president, Federal Reserve Bank of New York, to Timothy 
Geithner, president and chief executive officer, Federal Reserve Bank 
of New York, and other FRBNY personnel (Sept. 16, 2008) (FRBNY 
AIG00483-486) (attaching a memo with analysis of an AIG bankruptcy on 
the insurance subsidiaries (both if financially healthy and not 
financially healthy); E-mail from Dianne Dobbeck, assistant vice 
president, financial sector policy and analysis, Federal Reserve Bank 
of New York, to Federal Reserve Bank of New York officials (Sept. 15, 
2008); E-mail from Hayley Boesky, vice president, Federal Reserve Bank 
of New York, to William Dudley, executive vice president, Federal 
Reserve Bank of New York, and other Federal Reserve Bank of New York 
officials (Sept, 12, 2008) (FRBNY AIG00511).
    \517\ For further discussion of the financial condition of the 
insurance company subsidiaries at the time of the government's 
intervention in AIG, see Section E.2 (AIG Insurance Company 
Subsidiaries), infra.
    \518\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010). See, e.g., Testimony of Sec. Geithner, supra note 11, at 5-6 
(stating that ``if AIG had failed, the crisis almost certainly would 
have spread to the entire insurance industry.'' And that ``the seizure 
by local regulators of AIG's insurance subsidiaries could have delayed 
Americans' access to their savings, potentially triggering a run on 
other institutions''); House Committee on Financial Services, Written 
Testimony of Timothy F. Geithner, secretary, U.S. Department of the 
Treasury, Oversight of the Federal Government's Intervention at 
American International Group (Mar. 24, 2009) (online at www.house.gov/
apps/list/hearing/financialsvcs_dem/statement_-_geithner032409.pdf); 
Board of Governors of the Federal Reserve System, U.S. Treasury and 
Federal Reserve Board Announce Participation in AIG Restructuring Plan 
(Mar. 2, 2009) (online at www.federalreserve.gov/newsevents/press/
other/20090302a.htm) (hereinafter ``Treasury and the Federal Reserve 
Announce Participation in Restructuring'') (stating that since ``AIG 
provides insurance protection to more than 100,000 entities, including 
small businesses, municipalities, 401(k) plans, and Fortune 500 
companies who together employ over 100 million Americans,'' as well as 
having ``over 30 million policyholders in the U.S.'' and a role as a 
``major source of retirement insurance for, among others, teachers and 
non-profit organizations,'' the ``potential cost to the economy and the 
taxpayer of government inaction would be extremely high''). See also 
AIG Presentation on Systemic Risk, supra note 92.
    \519\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010) (noting that this was already starting to happen as the 
insurance regulators notified AIG on September 16, 2008 that it would 
no longer be permitted to borrow funds from its insurance company 
subsidiaries under a revolving credit facility that AIG had maintained, 
and they subsequently required AIG to repay any outstanding loans under 
this facility and terminate it).

          AIG was one of the largest life and health insurers 
        in the United States. AIG was also one of the largest 
        property & casualty insurers in the United States, 
        providing insurance to 180,000 small businesses and 
        other corporate entities, which employ about 100 
        million people. History suggests that the withdrawal of 
        a major underwriter from a particular market can have 
        large, long-lasting effects on the households and 
---------------------------------------------------------------------------
        businesses that rely on basic insurance protection.

    Beginning in March 2009, the Federal Reserve and Treasury 
publicly raised concerns that a sudden loss of AIG insurance 
capacity could have severely disrupted the market, potentially 
creating a market capacity shortage and significant premium 
increases for consumers, businesses, and financial 
institutions. They also feared a run driven by a substantial 
influx of life insurance policyholders either drawing on the 
savings and credit features of their policies or surrendering 
their policies entirely, especially since some such ``runs'' 
were seen in foreign jurisdictions.\520\
---------------------------------------------------------------------------
    \520\ E-mail from Alejandro LaTorre, assistant vice president, 
Federal Reserve Bank of New York, to Timothy F. Geithner, president and 
chief executive officer, Federal Reserve Bank of New York and other 
FRBNY personnel (Sept. 16, 2008) (FRBNY AIG00483-486); FRBNY and 
Treasury briefing with Panel and Panel staff (May 11, 2010); FRBNY and 
Treasury briefing with Panel and Panel staff (Apr. 12, 2010). 
Policymakers have pointed out that some runs were seen in foreign 
jurisdictions. According to press reports, insurance policyholders in 
Singapore, Taiwan, Thailand, Vietnam, and Hong Kong sought to terminate 
their insurance policies with two of AIG's insurance subsidiaries (AIA 
and Nan Shan Life Insurance) after learning of AIG's financial troubles 
and despite the Federal Reserve's $85 billion rescue. See, e.g., 
Hundreds of AIG Policyholders Throng Asian Offices, Agence France 
Presse (Sept. 17, 2008) (online at afp.google.com/article/
ALeqM5iTq3SSoWfqiVVsrYgM0hnTOp0ZdQ); The Good, the Bad and the 
Opportunity, Financial Express (Sept. 24, 2008); AIG Insurance Woes 
Will Not Affect Vietnam, Asia Pulse (Sept. 22, 2008). After a number of 
policyholders in Singapore terminated their insurance policies, Mr. Low 
Kwok Mun, an official with the Monetary Authority of Singapore (MAS), 
issued the following statement on September 18, 2008: ``AIA currently 
has sufficient assets in its insurance funds to meet its liabilities to 
policyholders. Policyholders should not act hastily to terminate their 
insurance policies as they may suffer losses from the premature 
termination and lose the insurance protection they may need.'' Low Kwok 
Mun, executive director of Insurance Supervision, Monetary Authority of 
Singapore, Statement on AIA's Policy Conservation Programme (Sept. 18, 
2008) (online at www.mas.gov.sg/news_room/press_releases/2008/
Comments_from_MAS_on_AIA_Policy_Conservation_Programme.html).
---------------------------------------------------------------------------
    In recent interviews with Panel staff, the Federal Reserve 
and Treasury have stated that an AIG bankruptcy would have 
likely resulted in both domestic and foreign regulatory seizure 
of the regulated insurance company subsidiaries.\521\ 
Furthermore, the Federal Reserve and Treasury contend that with 
respect to foreign regulatory seizure, the seizure by one 
regulator in a given region would have likely had a domino 
effect and led to the seizure of insurance businesses in 
multiple jurisdictions across the region. In both the domestic 
and foreign realms, the Federal Reserve and Treasury have 
asserted that there might have been insufficient capital or 
liquidity to pay all policyholder claims, that some 
policyholders might not have been able to qualify for coverage 
at other companies, and that a significant amount of policy 
cancellations would have further undermined the stability of 
the subsidiaries.\522\
---------------------------------------------------------------------------
    \521\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010). For further discussion of the possible impact of an AIG 
bankruptcy on the insurance company subsidiaries, see Section F.1(b), 
infra.
    \522\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
---------------------------------------------------------------------------
    Given that the parent company and its insurance company 
subsidiaries are also very closely intertwined through the 
credit rating system, the Federal Reserve and Treasury stressed 
that a bankruptcy by the parent entity would have adversely 
impacted both the credit and insurance ratings of its 
subsidiaries. Credit rating agency guidelines typically 
stipulate that the parent company cannot move more than three 
notches in ratings from those of its subsidiaries without the 
subsidiaries themselves also being impacted by downgrades. Had 
the AIG parent entity filed for bankruptcy, it would have 
received a ``D'' credit rating, and because of the three notch 
rule, the subsidiaries would have likely been downgraded to 
CCC+, CC-, or lower. While a downgrade of a parent does not 
necessarily result in the downgrade of a well-capitalized 
subsidiary, A.M. Best, a leading rating agency for the 
insurance industry, has indicated that if the parent is no 
longer rated investment-grade, then this would be an important 
factor in its assessment of both credit ratings and financial 
strength ratings for the insurance subsidiaries.\523\ According 
to the Federal Reserve and Treasury, any ratings downgrades 
that might have occurred would have increased the odds that the 
subsidiaries would be subject to heightened scrutiny by the 
regulators or placed into conservatorship or receivership.
---------------------------------------------------------------------------
    \523\ A.M. Best conversations with Panel staff (May 18, 2010); 
Treasury conversations with Panel staff (Jan. 5, 2010).
---------------------------------------------------------------------------
    According to the Federal Reserve and Treasury, AIG's 
insurance company subsidiaries would not have been insulated 
from the adverse consequences of a bankruptcy due to the 
substantial ties they enjoyed with each other by virtue of 
securities lending requirements and other intercompany 
funding.\524\ Many of AIG's subsidiaries also owned interests 
in, or had provided intercompany funding to, other AIG 
entities, and these investments typically formed part of their 
regulatory capital. Any defaults on the underlying securities 
and loans as a result of a bankruptcy filing might have further 
destabilized AIG's subsidiaries.
---------------------------------------------------------------------------
    \524\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
---------------------------------------------------------------------------
    Recent statements by Federal Reserve and Treasury officials 
suggest that the regulators have tried to respond to public 
displeasure with the AIG bailout by looking for more 
sympathetic beneficiaries of their decision to intervene than 
financial institutions. In his March 2009 testimony before the 
House Financial Services Committee, Chairman Bernanke stressed 
that an AIG failure would have also had detrimental impacts on 
market confidence in other areas, including state and local 
governments that invested with AIG, retirement plans that 
purchased insurance from AIG, and banks that extended loans and 
credit lines to the company.\525\ In January 2010, former 
Treasury Secretary Paulson testified that ``if AIG had gone 
down, [he] believe[d] that we would have had a situation where 
Main Street companies, industrial companies of all sizes, would 
not have been able to raise money for their basic funding. And 
they wouldn't have been able to pay their employees. They would 
have had to let them go. Employees wouldn't have paid their 
bills. This would have rippled through the economy.'' \526\ 
Furthermore, Secretary Paulson added that had AIG failed, he 
believes that it ``would have taken down the whole financial 
system and our economy. It would have been a disaster.'' \527\
---------------------------------------------------------------------------
    \525\ Written Testimony of Ben Bernanke, supra note 481, at 2.
    \526\ House Committee on Oversight and Government Reform, Testimony 
of Henry M. Paulson, Jr., former secretary, U.S. Department of the 
Treasury, The Federal Bailout of AIG (Jan. 27, 2010) (publication 
forthcoming) (online at oversight.house.gov/
index.php?option=com_content&task=view&id=4756&Itemid=2) (hereinafter 
``Testimony of Henry M. Paulson, Jr.'').
    \527\ Id. Additionally, Secretary Geithner built on these concerns 
in his January 2010 testimony before the House Committee on Oversight 
and Government Reform, stating that as the regulators considered how to 
respond to AIG's problems, ``[s]tate and local governments halted 
public works projects because they couldn't obtain financing. School 
construction and renovation projects stopped. Hospitals postponed plans 
to add beds and equipment. Universities across the nation faced 
difficulty paying employees. High school students changed plans for 
college education, which suddenly appeared much more expensive. Ships 
that transport goods sat empty, in part because trade credit was simply 
unavailable. Factories were closing and millions of Americans were 
losing their jobs.'' Testimony of Sec. Geithner, supra note 11, at 4.
---------------------------------------------------------------------------
    On the one hand, these expanded rationales might suggest 
that many observers have perhaps understated AIG's risk to the 
financial system as a whole by focusing primarily on the direct 
effects of a default on AIG's counterparties. At the point of 
initial intervention, there were so many different problems 
posed by AIG that the regulators might have responded to any 
one of them with a rescue, and in totality they felt they had 
no option but to step in. On the other hand, the lack of 
complete transparency at the time of the initial intervention 
indicates that the government has failed to follow a consistent 
and cohesive message with respect to its rationale for 
assisting AIG, calling into question the factors that were 
actually driving the decision-making at the various points in 
time that assistance was offered and restructured. While the 
Panel recognizes that there is a fair amount of agreement on 
the systemic consequences of an AIG failure, there are 
differing opinions on what would have been the consequences for 
the insurance subsidiaries, the retail distribution network and 
policyholders. Thus, to some extent, at least some of the 
government's justifications seem to have pivoted over time into 
a political argument (that has less factual support) with 
respect to the impact of an AIG failure on the insurance 
subsidiaries, retail sectors and policyholders.
    In its assessment of government actions to deal with the 
current financial crisis, the Panel has regularly called for 
transparency, accountability, and clarity of goals. While the 
government had to make the bailout decision in a very short 
amount of time and with incomplete information, the Panel 
stresses that the government also has a special obligation to 
be transparent (and consistent) in explaining why it was 
committing $85 billion of public funds.
            ii. Balance Sheet Considerations
    Two other areas of concern for the Federal Reserve and 
Treasury were AIG's inability to articulate the amount of 
assistance it needed and the speed with which its requests for 
assistance escalated between September 12 and 16.\528\ Not only 
was the company not able to provide a sense of its balance 
sheet and its exposure to either potential private sector 
investors or the government, but its capital deficit was 
growing much faster than available capital. This also appears 
to have been a factor in the breakdown in private-sector 
efforts to provide a solution for AIG, as AIG could not produce 
certainty on any of the metrics on which lenders typically 
lend.\529\ This lack of knowledge and awareness, according to 
the Federal Reserve and Treasury, was due to the sheer size of 
the company, the company's involvement in complex derivatives 
transactions, the substantial intercompany ties, and the global 
aspect of its business.\530\ Further, there was no regulator 
monitoring systemic risk who might have called for such an 
accounting. As Secretary Paulson has noted, the fact that AIG 
was ``seriously underregulated'' meant that the parent entity 
essentially functioned as an unregulated holding company with 
no single regulator having ``a complete picture of AIG.'' \531\
---------------------------------------------------------------------------
    \528\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010); Testimony of Sec. Geithner, supra note 11, at 3 (noting that 
``neither AIG's management nor any of AIG's principal supervisors--
including the state insurance commissioners and the OTS--understood the 
magnitude of risks AIG had taken or the threat that AIG posed to the 
entire financial system'').
    \529\ The private rescue participants state that although they were 
working on a term sheet for a facility in the amount of $75 billion 
there was never any certainty with respect either to the amount of 
money needed for the rescue or the value of the collateral to support 
that rescue. Panel conversation with Rescue Effort Participants. FRBNY 
and Treasury briefing with Panel and Panel staff (Apr. 12, 2010). For 
further discussion of the private sector rescue attempt, see Section 
C.1, supra.
    \530\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010); Testimony of Sec. Geithner, supra note 11, at 3 (stating 
that AIG's parent holding company ``was largely unregulated'' and that, 
``[d]espite regulators in 20 different states being responsible for the 
primary regulation and supervision of AIG's U.S. insurance 
subsidiaries, despite AIG's foreign insurance activities being 
regulated by more than 130 foreign governments, and despite AIG's 
holding company being subject to supervision by the Office of Thrift 
Supervision (OTS), no one was adequately aware of what was really going 
on at AIG'').
    \531\ Testimony of Henry M. Paulson, Jr., supra note 526. See 
Section E.2 for further discussion of regulatory capital issues and 
foreign banks' receipt of some of the U.S. government assistance 
provided to AIG.
---------------------------------------------------------------------------
            iii. International Considerations
    Given the sheer size of AIG as well as its substantial 
exposure and interconnectedness across the globe, there were 
other practical considerations at play in the decision to 
assist AIG. Numerous non-U.S. parties had an interest in AIG, 
but it remains unclear whether they contacted the Federal 
Reserve Board and Treasury to express their concerns. These 
included several European central bankers who were worried 
about the impact of an AIG failure on European financial 
institutions and markets, and who, according to one journalist, 
spoke with Chairman Bernanke on September 16, urging the 
Federal Reserve to do whatever it could to prevent an AIG 
failure.\532\
---------------------------------------------------------------------------
    \532\ James B. Stewart, Eight Days, The New Yorker, at 59 (Sept. 
21, 2009) (online at www.newyorker.com/reporting/2009/09/21/
090921fa_fact_stewart). The Panel has asked both the Federal Reserve 
Board and FRBNY whether these conversations between foreign central 
bankers and Chairman Bernanke took place in the hours preceding the 
Federal Reserve Board's decision to authorize the rescue of AIG under 
section 13(3), but was unable to verify that these did in fact take 
place.
---------------------------------------------------------------------------
    In explaining its decision to lend to AIG, the government 
has not emphasized the international ramifications of the 
choice it faced. But as discussed in Section F, the shocks of 
an AIG bankruptcy would have been felt across the globe and 
perhaps especially in Europe. Records from around the time of 
the rescue show that FRBNY did take these international 
considerations into account.\533\
---------------------------------------------------------------------------
    \533\ See E-mail from Alejandro LaTorre, assistant vice president, 
Federal Reserve Bank of New York, to Timothy Geithner, president, 
Federal Reserve Bank of New York, and other FRBNY personnel (Sept. 16, 
2008) (FRBNY AIG00483-486) (with attached memo); E-mail from Alejandro 
LaTorre, vice president, Federal Reserve Bank of New York, to Timothy 
F. Geithner, president, Federal Reserve Bank of New York, and other 
Federal Reserve Bank of New York officials (Sept. 14, 2008) 
(FRBNYAIG00496-499).
---------------------------------------------------------------------------
            b. Panel's Analysis of Options Available to the Government 
                    and Decisions Made
    While recognizing that policymakers faced a deepening 
financial crisis and that there were many issues of serious 
concern and a limited amount of time in which to respond, the 
Panel notes that several conclusions can be drawn from the 
actions taken by FRBNY with respect to AIG in September 2008. 
FRBNY's decisions were made in the belief that it alone could 
act and that it had to choose between options that were all 
unattractive. There is nothing unusual about central banks 
acting as the lender of last resort. However, by adopting the 
term sheet developed by the private sector consortium and 
retaining most of its terms and conditions, FRBNY chose to act, 
in effect as if it were a private investor in many ways, when 
its actions also had serious public consequences whose full 
extent it may not have appreciated.\534\ FRBNY also failed to 
recognize the AIG problem and get involved at a time when it 
could have had more options. While the reasons for FRBNY's 
failure are not clear, it is clear that when FRBNY finally 
realized AIG was failing and that there would be no private 
sector solution, Chairman Bernanke and President Geithner 
failed to consider any options other than a full rescue. To 
have the government step in with a full rescue was not the 
approach used in prior crises, including Bear Stearns and Long-
Term Capital Management. It is also clear that by the time 
FRBNY focused on the problem, time was limited, and the breadth 
and scope of legal counsel sought were narrow. FRBNY chose 
lawyers from a limited pool and did not seek legal advice from 
a debtor's counsel (such as AIG's bankruptcy counsel or 
independent bankruptcy counsel). As a result, there were many 
options FRBNY evidently did not consider, including a combined 
private/public rescue (which would have maintained some market 
discipline), a loan conditioned on counterparties granting 
concessions, and a short-term bridge loan from FRBNY to provide 
AIG time for longer-term restructuring. Providing a full 
government rescue with no shared sacrifice among the creditors 
who dealt with AIG fundamentally changed the relationship 
between the government and the markets, reinforcing moral 
hazard and undermining the basic tenets of capitalism. The 
rescue of AIG dramatically added to the public's sense of a 
double standard--where some businesses and their creditors 
suffer the consequences of failure and other, larger, better 
connected businesses do not.
---------------------------------------------------------------------------
    \534\ The Panel notes, however, that many parties benefitted from 
the AIG rescue, and FRBNY, unlike a private entity, did not ask for any 
kind of fee or consideration for the reduction in risk that occurred 
due to the avoidance of bankruptcy.
---------------------------------------------------------------------------
    The FRBNY's decision-making also suggest that it neglected 
to give sufficient attention to the crucial need--more 
important in a time of crisis than ever--for accountability and 
transparency. In his testimony before the Panel, Mr. Baxter of 
FRBNY commented that one of his take-away lessons from the 
financial crisis is that ``we need to be more mindful of how 
our actions can be perceived'' and that the policymakers ``need 
to be more mindful of that and perhaps change our behavior as a 
result of the perception.'' \535\ This perception, and, in 
particular, FRBNY's failure to be more sensitive with respect 
to potential conflicts of interest and the way in which the 
public and members of Congress would view its actions, has 
colored all the dealings between the government and AIG in the 
eyes of the public.
---------------------------------------------------------------------------
    \535\ Testimony of Thomas C. Baxter, supra note 215.
---------------------------------------------------------------------------
    The omissions of FRBNY and Treasury pointed out above also 
indicate that the government chose not to exploit its 
negotiating leverage with respect to the counterparties. In 
particular, it seems that some of the individuals involved in 
the AIG rescue were relatively junior in terms of seniority, so 
the active involvement of Secretary Paulson and President 
Geithner in trying to negotiate concessions with their peers at 
institutions who stood to lose most from an escalation of 
financial panic and market dislocation might have made a 
difference. It is possible that had individuals other than 
those who stood to gain the most from an AIG rescue been at the 
table in September 2008 (even recognizing the severe time 
pressure that policymakers then faced), other potential 
alternatives could have been developed. And by choosing a law 
firm that had previously represented private parties in the 
same matter and had strong ties to Wall Street, FRBNY at least 
created the perception of being guided in its actions by 
parties with an interest in a complete government rescue of 
AIG's creditors.\536\
---------------------------------------------------------------------------
    \536\ Written Testimony of Martin Bienenstock, supra note 307, at 4 
(stating that ``it would be awkward for it to devise strategies to 
obtain concessions'' from those very same institutions it routinely 
represents).
---------------------------------------------------------------------------
    The Panel asked several questions with respect to the 
decisions made by the government in September.
            i. Were all Private Sector Solutions Exhausted?
    Before addressing the manner in which the government chose 
to rescue AIG, it is worth asking whether all the private 
options for rescue had in fact been exhausted. As discussed 
above, at least several different private sector proposals were 
contemplated in the days between September 12 and 16, 
2008.\537\ The Panel discussed the issue with some of the 
parties that had presented options to AIG in the period 
preceding the rescue. While FRBNY and Treasury officials 
remained hopeful that the private sector would formulate an 
appropriate solution for AIG, all potential private sector 
solutions eventually collapsed.
---------------------------------------------------------------------------
    \537\ For a detailed discussion of the various private sector 
solutions considered between September 12 and 16, 2008, see Section 
C.1, supra.
---------------------------------------------------------------------------
    At this time, however, other possible alternatives could 
have also included a public-private hybrid solution built on 
some government funding or guarantee combined with some private 
sector funding. According to FRBNY, there was no attempt to do 
such a hybrid approach because ``[t]here was no time'' and it 
was also felt that ``that could be counterproductive, given 
what we were seeing in the markets at the time.'' \538\ 
However, according to Mr. Willumstad, AIG had initially sought 
$20 billion on the weekend spanning September 12, 2008 and 
believed (at least initially) that he would be successful in 
finding that amount through a combination of the New York State 
Insurance Department's authorization to allow AIG to transfer 
$20 billion in assets from its subsidiaries to use as 
collateral for daily operations, a $20 billion loan from banks, 
and $10 billion from private equity investors.\539\ Although 
that target number grew to $40 billion within a day (in large 
part due to the uncertainty as to what would happen in the 
financial markets after Lehman's bankruptcy filing), Mr. 
Willumstad had explained to President Geithner and Secretary 
Paulson that AIG ``could probably raise $30 billion'' that 
weekend, ``but the investors and New York State Insurance 
Department would not go ahead unless they would be assured that 
the company would survive after receiving that money.'' \540\ 
While FRBNY continued to assert that there would be no 
government support for AIG up until it announced that it was 
rescuing AIG, Mr. Willumstad believes that AIG had a verbal 
commitment for approximately $30 billion from the private 
sector, conditioned on FRBNY providing guarantees or some 
alternative support mechanism to signal to the market 
sufficiently that AIG would remain viable going forward.\541\ 
Based on Panel staff conversations with Scott Alvarez, general 
counsel at the Federal Reserve Board, it is clear that the 
Federal Reserve would not have been able to provide an open-
ended guarantee or blanket assurance to AIG's creditors that 
AIG or its insurance subsidiaries would continue to be viable 
or to operate as going concerns in the near or medium 
term,\542\ but it could have done targeted guarantees or a 
``capped'' guarantee to a private consortium loan in September 
2008 (assuming adequate collateral) if it had properly explored 
that approach.\543\ While the Federal Reserve (and the 
taxpayers) would still have been liable (or at risk) for the 
full amount of the guaranteed private loan or the guaranteed 
AIG obligations, a major benefit of this approach is that the 
Federal Reserve would not have had to provide the funds to AIG 
initially.
---------------------------------------------------------------------------
    \538\ Testimony of Thomas C. Baxter, supra note 215.
    \539\ Testimony of Robert Willumstad, supra note 179.
    \540\ Testimony of Robert Willumstad, supra note 179.
    \541\ Testimony of Robert Willumstad, supra note 179.
    \542\ This is because AIG would not have had sufficient collateral 
for such an open-ended guarantee.
    \543\ Panel staff conversations with Federal Reserve (May 28, 
2010). Section 13(3) of the Federal Reserve Act requires that 
assistance provided must be ``indorsed or otherwise secured to the 
satisfaction of the Federal Reserve bank.'' 12 U.S.C. 343. Thus, the 
amount of the guarantee would be ``capped'' by the value of available 
or unencumbered assets that could be posted as collateral.
    Without the proposed terms and conditions, it is difficult to say 
whether the Federal Reserve could have authorized or FRBNY could have 
provided a certain type of guarantee under Section 13(3). If the 
insurance subs have liabilities of $1.9 trillion, and assets that 
presumably at least match those liabilities (because state law requires 
adequate coverage), and the Federal Reserve estimated the value of the 
insurance subs was at least $85 billion as going concerns (but maybe 
not much more), however, then a guarantee of a private obligation might 
have been a feasible option.
    As part of a hybrid public-private solution, AIG may have pledged 
the same assets as collateral for both the private loan and the public 
guarantee. In that case, the private creditors would have had to agree 
to release collateral to FRBNY in the amount of any claims that they 
asserted in relation to the public guarantee. In the alternative, the 
private consortium or syndicate may not have required AIG to provide 
collateral for the loan because the protection offered by the Federal 
Reserve's guarantee provided sufficient security.
    Internal FRBNY correspondence after FRBNY's provision of the 
Revolving Credit Facility to AIG indicates that there was some general 
discussion of guarantees, but the Federal Reserve did not believe it 
had the authority to do so, but it might have been an option for 
Treasury to consider. AIG Call Tonight, E-mail from Sarah Dahlgren, 
senior vice president, Federal Reserve Bank of New York, to Timothy 
Geithner, Thomas Baxter, and other FRBNY officials (Oct. 15, 2008) 
(FRBNY-TOWNS-R1-209923).
---------------------------------------------------------------------------
    While Mr. Willumstad believes that this alternative ``would 
have been much more attractive,'' \544\ it is not certain that 
a deal could have been reached if the Federal Reserve Board and 
FRBNY had taken this approach. It should also be noted that a 
public-private hybrid solution might not have stabilized AIG. 
AIG would still have been required to raise the capital from 
the private parties to satisfy its liquidity needs. In the 
event that the capital raised was in the form of debt rather 
than equity, it may not have been able to avoid a ratings 
downgrade, although, again, as discussed in more detail 
below,\545\ FRBNY and Treasury could have played a more active 
role in managing the reactions of the credit ratings agencies. 
Credit ratings are based, in part, on the amount of leverage a 
company has, and before acquiring capital through new debt, AIG 
already had a large amount of debt or a high debt to equity 
ratio. A guarantee could have provided partial or targeted 
relief, and AIG's creditors would still have been able to 
address any claims remaining after the government intervention 
through bankruptcy or by other negotiations. A joint effort by 
the government and private sector to support a struggling 
financial services institution that had consolidated total 
assets of more than $1 trillion might have also kept some 
market discipline in the deal and sent a strong signal to the 
markets at a time of great economic turmoil and uncertainty.
---------------------------------------------------------------------------
    \544\ Testimony of Robert Willumstad, supra note 179.
    \545\ See discussion in Section G.
---------------------------------------------------------------------------
    Under the circumstances,\546\ it stands to reason that 
FRBNY might have made a greater effort to save the system by 
forming a broader private sector rescue coalition than the 
group it assembled after the Lehman weekend (the actual 
consortium of private bankers that was ultimately assembled 
consisted of only two members--JP Morgan and Goldman Sachs--
whose efforts to syndicate the potential secured lending 
facility among a number of large financial institutions appear 
to have made little or no headway). Assuming the economy was 
truly ``on the brink,'' as Secretary Paulson's recent memoir 
attests, why was FRBNY's eleventh-hour rescue effort limited 
only to a few key players? A broader group with more resources 
might have had better odds of success and, given the stakes at 
hand, it might have been worth it for FRBNY to solicit the 
involvement of more players. Some firms had ample amounts of 
cash during that period and the European banks that were AIG's 
largest counterparties also had strong incentives (if not 
purely a motivation based on their own self-interest) to help.
---------------------------------------------------------------------------
    \546\ See discussion of extreme market dislocation in September 
2008 in Section C.1.
---------------------------------------------------------------------------
    While acknowledging that a private sector solution may not 
have been likely to succeed given the combination of AIG's 
escalating liquidity needs and increased concerns by potential 
lenders about capital preservation in the wake of the Lehman 
Brothers bankruptcy filing, the Panel notes that the upside of 
a private sector rescue would have been two-fold and 
significant. First, it would have saved billions of taxpayer 
dollars and mitigated if not eliminated the serious moral 
hazard and ``too big to fail'' concerns. Second, a successful 
private sector rescue would have served as a very strong and 
calming signal that the U.S. financial system was strong enough 
to function without a full government bailout. The Panel also 
notes that had private parties been involved they--and not the 
government--could have managed much of the post-bailout 
reorganization of the company.
            ii. Was It Truly an All-or-Nothing Choice?
    The government presents the decision to rescue AIG as an 
all-or-nothing ``binary'' decision.\547\ In other words, the 
government asserts that it was necessary to rescue AIG in its 
entirety or let it fail in its entirety; it was not possible to 
pick and choose which businesses or subsidiaries could be 
saved. The Panel tested this assertion and considered whether 
bankruptcy had to be an all-or-nothing option, in terms of the 
entities covered, the obligations covered, or in terms of 
timing: if a bankruptcy was not a real option in September 
2008, was it later? \548\
---------------------------------------------------------------------------
    \547\ Joint Written Testimony of Thomas C. Baxter and Sarah 
Dahlgren, supra note 255, at 3 (stating that ``[i]n the early days of 
the intervention, when we knew precious little about AIG, but knew that 
it needed billions of dollars, we were truly facing a binary choice to 
either let AIG file for bankruptcy or to provide it with liquidity.''); 
FRBNY and Treasury briefing with Panel and Panel staff (Apr. 12, 2010).
    \548\ In conversations with Panel staff, FRBNY and Treasury have 
asserted that they considered bankruptcy as a possible option in the 
months subsequent to their September 2008 decision to rescue AIG (and 
it appears that this was under consideration at least until March 
2009). See AIG Presentation on Systemic Risk, supra note 92 (detailing 
the impact of an AIG failure on the U.S. Government's efforts to 
stabilize the economy).
---------------------------------------------------------------------------
    The Panel looked first at whether some parts of AIG could 
have been permitted to fail. Since insurance companies cannot 
file for bankruptcy under the U.S. Bankruptcy Code, 
subsidiaries holding the vast majority of AIG's assets could 
not have sought bankruptcy protection and might have been 
subject to the specific regimes applicable to insurance 
companies.\549\ The most obvious candidate to be forced into 
bankruptcy, nonetheless, would have been AIGFP.\550\ It was the 
cause of much of AIG's original distress and continuing 
liquidity problems and was unlikely to have any value as a 
going concern. Approximately $54 billion of AIGFP's debt, 
however, was guaranteed by its parent, AIG.\551\ AIGFP's 
bankruptcy would have triggered cross-default acceleration 
provisions in AIG's own debt and resulted in AIG becoming 
immediately liable to pay $65 billion of AIGFP debt and 
approximately $36 billion of its own debt.\552\ It would have 
thus pushed the parent itself into bankruptcy since it did not 
have cash to meet these obligations. That bankruptcy might have 
triggered the immediate seizure of many of AIG's insurance 
subsidiaries (which represented any value that existed in the 
AIG franchise) by state regulators.\553\ Exacerbating the 
situation was the fact that many of the insurance companies had 
interlocking holdings and intercompany borrowing 
arrangements.\554\ The government asserted in interviews with 
Panel staff that ``once one entity goes, the rest go.'' \555\ 
In these circumstances, it is difficult to see how anything 
other than a bankruptcy of AIG's parent company would have been 
possible.
---------------------------------------------------------------------------
    \549\ For further discussion of the application of the U.S. 
Bankruptcy Code to AIG, see Annex IV.
    \550\ In making this assertion, the Panel does not imply that this 
would have been an easy or controlled bankruptcy, however. The overall 
complexity of AIGFP's business, its operations in multiple foreign 
countries, and the impact of bankruptcy roles on swaps would have 
combined to make an AIGFP bankruptcy extremely difficult.
    \551\ AIG Form 10-Q for the Second Quarter 2008, supra note 177, at 
96. The $54 billion included AIG's insurance subrogation liability to 
insurance companies who paid out claims while standing in the shoes of 
AIG. The actual subrogation value (which refers to circumstances in 
which an insurance company tries to recoup expenses for a claim it paid 
out when another party should have been responsible for paying at least 
a portion of that claim) would have likely lowered the amount of 
AIGFP's debt.
    \552\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 116.
    \553\ Panel staff conversation with Jay Wintrob, CEO of the 
SunAmerica Financial Group (May 17, 2010). As discussed in Annex IV, 
insurance companies are subject to their own resolution process in lieu 
of bankruptcy; the term ``bankruptcy'' as used here is intended to 
encompass that process at the state level.
    \554\ For further details, see Section C.3
    \555\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
---------------------------------------------------------------------------
    The government does not contend that bankruptcy in 
September 2008 was impossible, but that it was the much less 
attractive of the two options that it considered possible. A 
bankruptcy could have addressed many of AIG's problems: it 
could have wiped out the old equity, limited losses, forced 
losses on all creditors, and perhaps given the company the 
chance to improve its prospects. The Panel does not take a 
position on whether the government was correct to choose rescue 
and acknowledges that this report is reviewing decisions made 
under very stressful conditions, but offers several 
observations on the decision and the justification offered for 
that decision and asks whether the government considered all 
the options that were available to a party with the enormous 
bargaining power that being the lender of last resort brings. 
While the government has claimed that the choice was binary 
(either let AIG file for bankruptcy on September 16, 2008 or 
step in to back AIG fully, which effectively meant it was 
guaranteeing that all creditors would be paid in full), this 
binary choice is too simplistic.
    Bankruptcy law is designed to force creditors to accept 
discounts or other losses under extant contracts. Without the 
law to force AIG's creditors to accept discounts or other 
losses, the Panel notes that whatever leverage the government 
could have applied to get AIG's creditors to take less than 
full payment was extra-legal and thus less certain to yield 
results. But that leaves the question of whether the government 
adequately used the negotiating leverage it had, outside of 
bankruptcy, to persuade AIG's counterparties to accept some 
losses, given the realities that AIG simply did not have the 
money to pay all of them in full, and that the government knew 
or should have known that keeping our financial system running 
was already putting or was about to put enormous demands on 
taxpayer resources and create systemic problems of its own.
    Additionally, the Panel notes that the initial decision to 
rescue AIG need not have been treated as permanent. FRBNY and 
Treasury could have provided the RCF on a temporary bridge loan 
basis in order to allow AIG to keep making collateral payments, 
for example, with immediate plans to then go to Congress for 
authority to allow a managed bankruptcy under some sort of 
resolution authority. FRBNY and Treasury's arguments also seem 
to assume that the government would or could not have taken 
responsive actions to address some of the ``innocent victims'' 
(for example, employees relying on pension funds who would have 
lost insurance in the event of an AIG bankruptcy). As 
demonstrated by the bankruptcies of Chrysler and General 
Motors, during which the government negotiated with the unions 
and bond holders in its role as a post-petition lender,\556\ 
post-petition financiers have enormous leverage, and if the 
money is being funded post-petition (as would have been the 
case here), it could have been spent at its discretion. In 
these circumstances, the government would have had a number of 
alternatives on the table, and it could have used its huge 
leverage arising from its post-financing position.
---------------------------------------------------------------------------
    \556\ September Oversight Report, supra note 389, at 49-50 
(discussing the government's provision of both pre- and post-petition 
financing to Chrysler and GM as their financial conditions deteriorated 
and the government's power and leverage as a DIP financier, on account 
of its post-petition claim).
---------------------------------------------------------------------------
            iii. Could the Government Have Negotiated Concessions from 
                    AIG's Creditors?
    Throughout this financial crisis, as in past crises, the 
Federal Reserve and FRBNY, with the assistance or at least 
acquiescence from Treasury, have used their leverage with 
financial institutions, along with the institutions' 
recognition of financial realities and their own self-interest, 
to negotiate and reach compromises.\557\ By doing so, the 
parties have been able to craft extra-legal compromises that 
involve financial institutions taking on risk; that is, 
financial institutions have realized potential or actual losses 
so that the entire system continues to function in 
extraordinary circumstances in a more or less orderly way. 
There is no evidence, however, that after the early-morning 
hours of September 16, 2008, the government made any effort to 
do so with AIG. Time pressures, it is true, were great. 
Moreover, this crisis involved not one failing institution, but 
multiple institutions simultaneously near failure or in 
unprecedented trouble.
---------------------------------------------------------------------------
    \557\ Following the private-sector bailout of Long-Term Capital 
Management in 1998, then-Chairman Alan Greenspan testified: ``Officials 
of the Federal Reserve Bank of New York facilitated discussions in 
which the private parties arrived at an agreement that both served 
their mutual self interest and avoided possible serious market 
dislocations. Financial market participants were already unsettled by 
recent global events. Had the failure of LTCM triggered the seizing up 
of markets, substantial damage could have been inflicted on many market 
participants, including some not directly involved with the firm, and 
could have potentially impaired the economies of many nations, 
including our own.'' Written Testimony of Alan Greenspan, supra note 
217.
---------------------------------------------------------------------------
    On the other hand, it is important to ask whether the 
government was in this time-pressured position in no small part 
because of its own failure to organize and prepare themselves 
effectively many months earlier.\558\ Earlier in 2008, the 
Federal Reserve and FRBNY could have established teams to 
monitor each easily identifiable financial institution that 
might have found itself in trouble for the same reasons that 
Bear Stearns collapsed, as well as teams to think more broadly 
about problems that might be hidden from view. For example, the 
governmental entities could have assembled teams to try to 
determine the size of the CDS market and whether particular 
institutions were on the hook for an outsized share of the 
derivatives that the government was able to identify.\559\ 
While it is unclear whether this approach would have made a 
difference in the end, it is certainly worth considering. In 
2008, FRBNY examiners sought a meeting with the OTS to open a 
dialogue with them about AIG and its operations and to discuss 
issues that the FRBNY examiners had seen with respect to the 
monoline financial guarantors.\560\ There is also some evidence 
that Treasury (under the leadership of Steven Shafran, senior 
adviser to Secretary Paulson) had, since the early summer of 
2008, been looking into systemic risk in the financial sector 
and coordinating between various agencies, with a specific 
focus on Lehman Brothers.\561\ Nonetheless had the government 
made earlier and broader efforts to obtain a more precise 
picture of the looming danger at AIG, it might have used its 
inherent negotiating leverage to great effect.\562\
---------------------------------------------------------------------------
    \558\ For example, the government could have started preparing in 
March 2008, when Bear Stearns' dire situation became apparent, or in 
late 2007, when many large financial institutions incurred substantial 
write-downs on mortgage-related assets, just to pick two timeframes. 
The report of the bankruptcy examiner for Lehman Brothers indicates 
that the SEC and FRBNY were conducting onsite monitoring of Lehman 
beginning in March 2008. Report of Anton R. Valukas, court-appointed 
bankruptcy examiner, In re Lehman Bros. Holdings, Inc., No. 08-13555, 
at 1488-89 (JMP) (Bankr. S.D.N.Y. Mar. 11, 2010) (online at 
lehmanreport.jenner.com/VOLUME%204.pdf) (``After March 2008 when the 
SEC and FRBNY began onsite daily monitoring of Lehman, the SEC deferred 
to FRBNY to devise more rigorous stress-testing scenarios to test 
Lehman's ability to withstand a run or potential run on the bank. The 
FRBNY developed two new stress scenarios: ``Bear Stearns'' and ``Bear 
Stearns Light.'' Lehman failed both tests. The FRBNY then developed a 
new set of assumptions for an additional round of stress tests, which 
Lehman also failed. However, Lehman ran stress tests of its own, 
modeled on similar assumptions, and passed. It does not appear that any 
agency required any action of Lehman in response to the results of the 
stress testing'').
    \559\ For example, in 2007, as the housing market deteriorated, OTS 
increased its surveillance of AIGFP and its portfolio of mortgage-
related credit default swaps. Among other things, OTS recommended that 
AIGFP review its CDS modeling assumptions in light of worsening market 
conditions and that it increase risk monitoring and controls. Beginning 
in February 2008, in response to a material weakness finding in AIG's 
CDS valuation process, OTS again stepped up its efforts to force AIG to 
manage risks associated with its CDS portfolio. For further discussion 
of OTS' supervisory actions with respect to AIG before the government's 
rescue, see Section B.6, supra.
    \560\ The Panel notes that this meeting eventually took place on 
August 11, 2008.
    \561\ Andrew Ross Sorkin, Too Big To Fail, at 216 (2009). It seems 
possible that some of this monitoring dealt with AIG, though the Panel 
has seen no evidence that it did. If there were such efforts with 
respect to AIG, they likely would have been overshadowed over time as 
Treasury increasingly focused on preparing for the possibility of a 
Lehman bankruptcy.
    \562\ As part of its negotiating leverage, the government could 
have pointed to the fact that demands on taxpayer funds were not 
infinite, and that failing to accept concessions might have yielded 
worse results for the counterparties than taking a haircut.
---------------------------------------------------------------------------
    The government should have had the foresight to collect 
information earlier and begin the process of informing AIG's 
creditors and counterparties, including financial institutions 
and foreign governments, that no one should expect to emerge 
from the situation unscathed. It is still not clear however, 
that the government did all that it could, even in the little 
time available, to convince AIG's creditors to accept less than 
full compensation.
    Until the afternoon of September 16, 2008, it was at least 
possible for the government to suggest that it would let AIG 
fail, as a means to demand concessions from AIG's 
counterparties; this would have been a credible threat given 
that the government had just let Lehman fail. For example, the 
Federal Reserve could have conditioned its lending to AIG in 
September 2008 by mandating that the counterparties either take 
a haircut or face the risk of bankruptcy proceedings and the 
associated uncertainty. There is also the possibility that the 
Federal Reserve could have told the counterparties that it was 
willing to make immediate settlement for a certain percentage 
on the dollar, that it would permit AIG to default on all other 
arrangements, and that a Chapter 11 bankruptcy would handle the 
remaining debts.
    The Panel also discussed with FRBNY and Treasury whether 
some alternative to a rescue that paid off all of AIG's 
obligations to its creditors and counterparties (and 
particularly AIGFP's obligations) in full might have been 
possible. While FRBNY acknowledges that it had the legal 
authority to impose such conditions on its lending, it believes 
that such constraints would have substantially impeded its 
goals of assisting AIG so that it could meet its obligations as 
they came due and serving as a reassurance that AIG would not 
further destabilize the financial markets.\563\ FRBNY also 
states that while such tactics have been used in certain 
sovereign debt restructurings, ``they can be used there only 
because sovereigns cannot go bankrupt, and only with months of 
pre-planning.'' \564\
---------------------------------------------------------------------------
    \563\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010). FRBNY states that ``[a]ny attempt to condition our lending 
would have created further uncertainty in a time of panic as to which 
of AIG's counterparties would get paid and which would be forced to 
take substantial losses. One of our objectives was to calm market 
participants, and uncertainty (and the allegations of favoritism that 
surely would have followed) does not do that--it fuels fear.'' Joint 
Written Testimony of Thomas C. Baxter and Sarah Dahlgren, supra note 
255, at 6.
    \564\ Joint Written Testimony of Thomas C. Baxter and Sarah 
Dahlgren, supra note 255, at 6.
---------------------------------------------------------------------------
    The Panel tested these assertions and considered whether it 
might have been possible for FRBNY to condition its lending to 
AIG on a requirement that the company obtain concessions from 
some of its major creditors. While the government argues that 
the bankruptcy threat was no longer viable after its initial 
decision not to place AIG into bankruptcy, the evidence shows 
that long after September 16, 2008, and indeed well into 2009, 
the government was still considering the possibility of some 
form of bankruptcy for at least part of AIG.\565\
---------------------------------------------------------------------------
    \565\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010); FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010); See AIG Presentation on Systemic Risk, supra note 92.
---------------------------------------------------------------------------
    In his recent testimony before the Panel, Mr. Bienenstock 
of Dewey & LeBoeuf asserted that the rescue of AIG could have 
incorporated some ``shared sacrifice'' by certain of AIG's 
creditors. In his view, for several reasons, it was ``very 
plausible to have obtained material creditor discounts from 
some creditor groups'' without undermining the government's 
goals of preventing the further destabilization and potential 
collapse of the financial system.\566\ First, according to Mr. 
Bienenstock, since AIG was granting FRBNY a lien against all 
available assets as security for its $85 billion RCF (and was 
no longer permitted to borrow funds from its insurance company 
subsidiaries effective September 22, 2008), creditors that 
might have obtained a judgment for any subsequent default would 
not necessarily have been able to collect.\567\ Second, since 
AIG was current on its debt obligations, it was not going to 
voluntarily file for bankruptcy, and any parties that might 
have filed an involuntary bankruptcy petition against AIG would 
have been unable to show that AIG was not paying its debts as 
they came due.\568\ Third, FRBNY ``was saving AIG with taxpayer 
funds due to the losses sustained by the business divisions 
transacting business with these creditor groups, and a 
fundamental principle of workouts is shared sacrifice, 
especially when creditors are being made better off than they 
would be if AIG were left to file for bankruptcy.'' \569\ 
Therefore, Mr. Bienenstock concludes, AIG was in a position to 
convince its CDS counterparties to grant debt concessions.
---------------------------------------------------------------------------
    \566\ Written Testimony of Martin Bienenstock, supra note 307, at 
1.
    \567\ Written Testimony of Martin Bienenstock, supra note 307, at 
2.
    \568\ Written Testimony of Martin Bienenstock, supra note 307, at 
2. Mr. Bienenstock also describes how if creditors filed involuntary 
bankruptcy petitions against AIG, they might have rendered themselves 
liable for compensatory and punitive damages if the court found ``AIG 
was generally paying its debts as they came due and the creditors had 
been warned in advance of that fact.'' (citing 11 U.S.C. 303(i)(2)).
    \569\ Written Testimony of Martin Bienenstock, supra note 307, at 
3.
    For example, the AIGFP CDS and securities lending counterparties 
got $105.8 billion, which is a large portion of the overall $182.4 
billion expended.
---------------------------------------------------------------------------
    While it is unclear what the impact of any such concessions 
would have been, given that they did not occur, the Panel notes 
that certain potential ramifications might have occurred had 
such negotiations been successful. Some potential ramifications 
involve the rating agencies.
    The ratings agencies assign a separate rating-type 
designation to companies that have engaged in what is called a 
``Distressed Exchange.'' Under published rating agency 
criteria, a company's settlement of its obligations with 
counterparties at a significant discount to what was due under 
contract may be considered a ``Distressed Exchange.'' This 
designation can have an adverse impact on a company's 
ratings.\570\ Rating agency criteria set forth various factors 
to be considered in assessing whether a particular transaction 
will be deemed a Distressed Exchange.\571\ While the rating 
agencies note that the impact of such exchange offers on 
ratings generally depends on the particular facts and 
circumstances of a situation, and say they cannot address 
hypothetical situations definitively,\572\ several conclusions 
can be drawn. For some of the rating agencies, there could be 
in theory a finding that a Distressed Exchange has taken place 
even if the counterparties technically accepted the offer 
voluntarily, and no legal default occurred.\573\ The rating 
committees, however, always consider various factors, such as 
whether default, insolvency or bankruptcy in the near or medium 
term would be likely without the exchange offer, in deciding 
whether a selective default has occurred.\574\
---------------------------------------------------------------------------
    \570\ For example, upon the completion of a ``Distressed 
Exchange,'' Standard & Poor's lowers its ratings on the affected issues 
to ``D,'' and the issuer credit rating is reduced to ``SD'' (selective 
default).
    \571\ According to Standard & Poor's criteria, a selective default 
determination is based on the investor receiving less value than the 
promise of the original securities and the settlement being distressed, 
``rather than purely opportunistic.'' A ``Distressed Exchange'' occurs 
where holders ``accept less than the original promise because of the 
risk that the issuer will not fulfill its original obligations,'' and 
also requires a ``realistic possibility of a conventional default 
(i.e., the company could file for bankruptcy, become insolvent, or fall 
into payment default) on the instrument subject to the exchange, over 
the near to medium term.'' Upon the determination of a Distressed 
Exchange, Standard & Poor's issues a separate credit rating of ``SD,'' 
or selective default, assuming the issuer continues to honor its other 
obligations. Standard & Poor's Financial Services, General Criteria: 
Rating Implications of Exchange Offers and Similar Restructurings, 
Update (May 12, 2009) (online at www.standardandpoors.com/prot/ratings/
articles/en/us/?assetID=1245199775643) (hereinafter ``Standard and 
Poor's Rating Criteria'') (free registration required). According to 
Standard & Poor's, the selective default rating would have applied to 
both the AIG parent and AIGFP. Panel staff conversations with Standard 
& Poor's (May 13, 2010).
    According to Moody's, ``[t]he two required and sufficient 
conditions for an exchange offer to be deemed a distressed exchange are 
1) the exchange has the effect of allowing the issuer to avoid default 
and 2) creditors incur economic losses relative to the original promise 
to pay as a result of the exchange.'' Furthermore, ``[e]xchanges made 
by distressed issuers at discounts to par which have the effect of 
allowing the issuer to avoid a bankruptcy filing or a payment default 
(i.e., `distressed exchanges') are considered default events under 
Moody's definition of default. However, since whether an issuer would 
have defaulted absent an exchange is unobservable, the determination of 
whether an exchange constitutes a default event is inherently a 
judgment call.'' Moody's does not have separate symbols to use upon 
finding that a Distressed Exchange has occurred, but instead 
incorporates the occurrence into its ratings assessment. Moody's Global 
Credit Policy, Moody's Approach to Evaluating Distressed Exchanges 
(Mar. 2009) (hereinafter ``Moody's Approach to Evaluating Distressed 
Exchanges'').
    According to Fitch Ratings, a coercive debt exchange (which results 
in a default) occurs when ``an issuer is essentially forced to 
restructure its debt obligations in an effort to avert bankruptcy or a 
liquidity crunch. By definition, this will cause a reduction in 
contractual terms from the creditor's perspective . . .'' Fitch further 
elaborates by stating that a coercive debt exchange must either involve 
``an explicit threat of bankruptcy'' or ``a high probability of 
bankruptcy or insolvency over the near term absent the exchange.'' 
Fitch Ratings, Coercive Debt Exchange Criteria (Mar. 3, 2009) 
(hereinafter ``Coercive Debt Exchange Criteria'').
    \572\ Written Testimony of Rodney Clark, supra note 80, at 6-7; 
Panel staff conversations with Standard & Poor's (May 13, 2010); Panel 
staff conversations with Moody's (May 19, 2010); Panel staff 
conversations with Fitch Ratings (May 20, 2010).
    \573\ Standard and Poor's Rating Criteria, supra note 571 (free 
registration required); Moody's Approach to Evaluating Distressed 
Exchanges, supra note 571.
    \574\ Panel staff conversations with Standard & Poor's (May 19, 
2010); Panel staff conversations with Moody's (May 19, 2010); Panel 
staff conversations with Fitch Ratings (May 20, 2010).
---------------------------------------------------------------------------
    The Panel notes that government-sponsored burden-sharing as 
a condition of its lending would have been very different from 
the usual situations addressed in the credit rating agency 
criteria, so such an occurrence would have necessitated a 
heightened level of scrutiny within the credit rating 
agencies.\575\ Greater government involvement could have helped 
to guide the rating agencies in this scrutiny in order to help 
them understand the government intervention as a positive event 
with respect to AIG's credit.
---------------------------------------------------------------------------
    \575\ Panel staff conversations with Fitch Ratings (May 20, 2010).
---------------------------------------------------------------------------
    The lack of very energetic efforts by senior Treasury and 
FRBNY officials to assure the rating agencies that the 
concessions were made solely out of a sense of equity and 
fairness to the taxpayer may have meant that if the government 
assistance had ``included negotiated settlements with either 
AIGFP's derivative counterparties or AIG's debt holders at less 
than 100 cents,'' the credit rating agencies would have 
downgraded AIG's ratings to reflect a default.\576\ According 
to Fitch Ratings, ``negotiated settlements at anything less 
than 100 cents, especially if the offer is accepted because 
Fitch believes that the counterparty fears (or is threatened) 
it may receive less if it does not accept the offer, would be 
viewed as a default under [its] criteria.'' \577\ This is 
largely based upon the premise that ``[t]he promise of full 
payment is the very essence of an investment grade credit 
rating.'' \578\ A Distressed Exchange determination would have 
likely had a negative impact on AIG's creditworthiness and 
caused catastrophic consequences for the company, with further 
collateral calls leading to the bankruptcy the government was 
trying to avoid all along.\579\
---------------------------------------------------------------------------
    \576\ Congressional Oversight Panel, Written Testimony of Keith M. 
Buckley, group managing director, Global Insurance, Fitch Ratings, COP 
Hearing on TARP and Other Assistance to AIG, at 5 (May 26, 2010) 
(online at cop.senate.gov/documents/testimony-052610-buckley.pdf) 
(hereinafter ``Written Testimony of Keith Buckley''); Congressional 
Oversight Panel, Testimony of Rodney Clark, managing director of 
insurance ratings, Standard & Poor's, COP Hearing on TARP and Other 
Assistance to AIG (May 26, 2010) (hereinafter ``Testimony of Rodney 
Clark'') (stating that ``we would consider a distressed payment of less 
than what is owed to be a default or a selective default under our 
ratings criteria.'').
    \577\ Written Testimony of Keith Buckley, supra note 576, at 5.
    \578\ Testimony of Jim Millstein, supra note 44, at 9.
    \579\ The Panel notes that even if the downgrades had been short-
lived, the mere fact that the downgrades occurred would have triggered 
the consequences that the government was trying to avoid. See Standard 
and Poor's Rating Criteria, supra note 571 (free registration required) 
(noting that ``[a]fter an exchange offer is completed, the entity is no 
longer in default--similar to an entity that has exited from 
bankruptcy. The `SA' issuer credit rating is no longer applicable--and 
we change it as expeditiously as possible, that is, once we complete a 
forward-looking review that takes into account whatever benefits were 
realized from the restructuring, as well as any other interim 
developments'').
---------------------------------------------------------------------------
    Even if the concessions were not taken for the specific 
purpose of allowing AIG to save money or liquidity (since that 
might have been assured by FRBNY's lending facility), but, 
rather, out of a sense of fairness to the taxpayers, Mr. Clark 
of S&P, testified before the Panel that this would not have 
precluded a determination that a ``distressed exchange'' had 
occurred. The ratings committees would have looked at a 
situation ``where AIG has significant funding, but isn't able 
to use it to satisfy its financial obligations in whole, be it 
for the CDSs or other obligations. We would have to form an 
opinion; well, will that funding be available to future 
financial obligations to pay them on time and in whole?'' \580\ 
It does not appear that any governmental agencies considered 
that they could play a role in helping to form that opinion.
---------------------------------------------------------------------------
    \580\ Testimony of Rodney Clark, supra note 576.
---------------------------------------------------------------------------
    There are two other points to consider. First, it appears 
that the government might have been able to structure the 
concessions so as not to trigger a default by, for example, 
requiring a discount that would have been less than 
``significant.'' \581\ Second, had a distressed exchange 
occurred, it is possible that AIG could have benefitted 
financially, since the savings would have helped it to avoid 
insolvency and reduce risk going forward (creating the 
potential for higher ratings in the future). Nonetheless, the 
ratings would have taken into account AIG's failure to pay in 
accordance with the terms of its financial obligations, and any 
subsequent benefit would have only been reflected 
afterward.\582\ Mr. Bienenstock testified before the Panel 
that, ``[i]ntuitively, it should be illogical that AIG would be 
viewed as a lesser credit risk once it procured concessions 
from creditors which would reduce the amount AIG needed to 
borrow from FRBNY and would reduce further debt expense.'' 
\583\ Greater government guidance could have helped the credit 
rating agencies focus on the end result, rather than the 
process, of exchange.
---------------------------------------------------------------------------
    \581\ For example, in conversations with Panel staff, Standard & 
Poor's indicated that a discount that covers the time value of money 
would not necessarily constitute a distressed exchange. Panel staff 
conversations with Standard & Poor's (May 19, 2010). There is also the 
argument that downgrades could have been avoided and moral hazard 
concerns lessened if the discount was negotiated as a matter of 
principle rather than as a way to significantly restructure the 
underlying obligations of AIG under its CDS contracts.
    \582\ Standard and Poor's Rating Criteria, supra note 571 (free 
registration required); Moody's Approach to Evaluating Distressed 
Exchanges, supra note 571 stating that ratings uplifts could occur 
after the exchange ``[s]ince the reduction of debt at a substantial 
discount to par often improves an issuer's ability to meet its 
remaining debt obligations.''); Id. (stating that ``[f]ollowing the 
completion of the exchange, the ratings of the stub instrument will be 
reevaluated by a rating committee to reflect expected loss on a look 
forward basis.''); Coercive Debt Exchange Criteria, supra note 571; 
Testimony of Rodney Clark, supra note 576 (stating that ``it is true 
that in many cases following a restructuring, following either a 
distressed exchange or a series of distressed exchanges, that the 
credit condition could be better than before the time of the 
exchange.').
    \583\ Written Testimony of Martin Bienenstock, supra note 307, at 
4.
---------------------------------------------------------------------------
    Ultimately, the government could have used its leverage to 
attempt to negotiate concessions, but it failed to do so. The 
potential impact of Secretary Paulson, President Geithner, and 
Chairman Bernanke (individually or in tandem) discussing the 
advantages of shared sacrifice with the counterparties, and, if 
necessary, speaking to the rating agencies, seems to have been 
overlooked by the government. If such powerful overtures had 
been rejected, the names of the non-complying counterparties 
could have been disclosed to the public. FRBNY and Treasury had 
powerful non-financial tools at their disposal; they did not 
use them.
            iv. Would Bankruptcy Have Been as Bad as the Government 
                    Claims?
    If AIG had filed for bankruptcy, as discussed 
elsewhere,\584\ the life insurance subsidiaries would not have 
been included in that filing. The impact on the AIG parent 
company and its non-insurance subsidiaries filing for 
bankruptcy cannot be known with any certainty. The Panel notes, 
however, that the survival of financial companies depends on 
confidence in the marketplace. Parties will not trade with a 
financial services company offering long-term products that is 
facing financial trouble and uncertainty. Without sufficient 
reassurances about AIG's ongoing viability, policyholders might 
also have cashed in their life insurance policies as a form of 
savings.\585\ Reputational harm might have led to the same 
result and, in fact, AIG suffered significant policy 
surrenders, even in the wake of the government's 
assistance.\586\
---------------------------------------------------------------------------
    \584\ For further discussion, see Section E.2 and C.4, supra.
    \585\ The consensus among industry analysts is that once confidence 
is lost in an insurance company like AIG, policyholders will pull their 
policies, insurance agents will dissuade clients from purchasing 
insurance policies from the company, and that, in effect, all the 
insurance companies would have become ``run-off'' businesses. Panel 
staff conversations with industry analysts. Warren Buffett maintains 
that the property/casualty business would have gone into run-off, while 
there would have been a disastrous run on the life insurance companies. 
Panel staff conversation with Warren Buffett (May 25, 2010).
    The events of the Great Depression are a useful comparison. There 
were two financial holidays in 1933: the first was a full banking 
holiday that shut down every bank in the United States for 10 days and 
ushered in sweeping changes in banking regulation, and the second was a 
partial life insurance holiday that suspended the payment of cash 
surrender values and the granting of policy loans for a period of 
roughly six months. During the Great Depression, insurance 
policyholders substantially accelerated the rate at which they drew on 
the savings and credit features of their life insurance contracts, and 
with the banks closed or allowing withdrawals on only a restricted 
basis, individuals turned to their life insurance for cash. These 
circumstances caused the insurance companies, like the banks, to face 
the possibility of a run that would force them into failure.
    Although there may have been a shortage of market capacity with 
respect to some of AIG's insurance lines (for example, some of its 
specialized lines), and it therefore may have taken a while for 
competition to replace some of AIG's business, industry analysts concur 
that there was no shortage of market capacity in the industry with 
respect to most other product lines (for example, its P&C and life 
insurance businesses), meaning that those policyholders would have been 
capable of finding coverage at other companies. Panel staff 
conversations with industry analysts; Panel staff conversation with Jay 
Wintrob, CEO of the SunAmerica Financial Group (May 17, 2010).
    \586\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010) (stating that AIG suffered $5 billion of domestic life 
insurance policy surrenders through the third quarter of 2009); Senate 
Committee on Banking, Housing, and Urban Affairs, Written Testimony of 
Testimony of Donald Kohn, supra note 245, at 11 (stating that ``general 
economic weaknesses, along with a tendency of the public to pull away 
from a company that it viewed as having an uncertain future, hurt AIG's 
ability to generate new business during the last half of 2008 and cause 
a noticeable increase in policy surrenders'').
---------------------------------------------------------------------------
    While the Panel acknowledges that it is not certain what 
would have happened to AIG's various insurance subsidiaries if 
the parent company had filed, there are some general 
conclusions that can be drawn. Since the state insurance 
regulators had been closely monitoring the activities and 
financial condition of AIG's insurance subsidiaries prior to 
September 2008 and believed that they were solvent or 
sufficiently capitalized, they would not necessarily have 
changed their approach as a result of the parent's bankruptcy 
filing.\587\ Since the first priority of the insurance 
regulators is to protect the interests of policyholders, they 
would have been concerned about the impact of the parent's 
filing on the subsidiaries' books of business and the behavior 
of policyholders (i.e., increased surrender activity and 
decreased renewal rates). If the insurance regulators believed 
that there was sufficient harm to the insurance subsidiaries or 
that liquidity or insolvency concerns had emerged during the 
course of the bankruptcy, they would have placed the relevant 
insurance subsidiaries under heightened supervision or into 
rehabilitation or liquidation. If a policyholder run had 
developed, the insurance regulators had tools to prevent it. 
Many insurance policies give the company management the ability 
to place a six month hold on paying claims. If this were the 
case, management could put this hold into place, possibly at 
the request of the regulators. Alternatively, if the regulators 
have taken the company into some form of supervision or 
receivership, they may issue a directive to place a hold on 
payment of claims for a period of time.\588\ Depending on the 
form of the seizure, if the company were taken into 
receivership, policyholders might experience delays in claims 
payment well beyond a six month hold on payments.
---------------------------------------------------------------------------
    \587\ Standard & Poor's, for example, testified before the Panel in 
May 2010 that because ``the insurance subsidiaries' capital is 
generally insulated by state insurance laws and regulations,'' an AIG 
bankruptcy might have only had a ``marginal impact'' on AIG's insurance 
subsidiaries, but that AIG's financial problems would have indirectly 
impacted the creditworthiness of the insurance subsidiaries in two 
ways: (1) the financial pressures at the parent would have made it 
``less likely that AIG will be in a position to provide additional 
capital to its subsidiaries in the event the subsidiaries suffer 
investment losses of their own or otherwise require recapitalization; 
and (2) ``overall reputational risk resulting from the parent company's 
financial problems.'' Written Testimony of Rodney Clark, supra note 80, 
at 6-7 .
    \588\ Panel staff conversation with Texas Department of Insurance 
(May 24, 2010).
---------------------------------------------------------------------------
    There are several issues regarding the stability of AIG's 
insurance subsidiaries in the event of the bankruptcy of the 
parent company. First, there is at least some concern that a 
number of the insurance subsidiaries may have been less solvent 
than generally believed at the time--as seen by the amount of 
government assistance they received to recapitalize and meet 
their obligations.\589\ Second, while the seizure of the 
insurance company subsidiaries would have resulted in claims on 
state guarantee funds, given the large scope of AIG's 
operations, it is unclear whether each state guarantee fund had 
enough capital (or, where unfunded, access to capital) and what 
steps they would have taken if there were a shortfall.\590\ 
State insurance regulators have the ability to ``ring-fence'' 
solvent insurance entities to shield them from the parent 
entity's losses or bankruptcy in order to protect existing 
policyholders. For its part, NAIC has emphasized that the state 
guarantee system would typically allow for an orderly 
disposition of policyholder claims. This view, however, is 
premised on the fact that, ordinarily, when an insurance 
company is placed into receivership, other companies would 
likely either fill the void in the marketplace and/or purchase 
their policies or groups of policies, which are typically 
attractive assets (but this might not have occurred quickly in 
the context of a global financial crisis). If there was a 
shortfall, the state guarantee funds might have had to resort 
to imposing higher assessments on other industry players, 
pushing more liquidity out of the system at a time when there 
was already a substantial liquidity crunch.\591\
---------------------------------------------------------------------------
    \589\ Given that a substantial portion of certain companies' assets 
were loans to the parent entity, intercompany funding, and ownership 
interests in other AIG entities (which were typically treated as part 
of their regulatory capital) it seems to be possible that the 
subsidiaries may have been undercapitalized--particularly domestic life 
insurance operations--and would have become destabilized upon the 
parent's bankruptcy. State Insurance Regulation Wasn't the Problem, 
supra note 408 (``If AIG had gone bankrupt, state regulators would have 
seized the individual insurance companies. The reserves of those 
insurance companies would have been set aside to pay policyholders and 
thereby protected from AIG's creditors. However, * * * AIG's insurance 
companies were intertwined with each other and the parent company. 
Policyholders would have been paid, but only after a potentially 
protracted delay. It would have taken time to allocate the companies's 
[sic] assets''). For additional discussion of the government assistance 
provided to the AIG insurance subsidiaries, see Section E.1, supra.
    \590\ Panel staff conversation with Debra Hall, expert in insurance 
company receiverships (May 14, 2010).
    \591\ Panel staff conversation with Debra Hall, expert in insurance 
company receiverships (May 14, 2010); David Merkel, To What Degree Were 
AIG's Operating Insurance Subsidiaries Sound?, at 6 (Apr. 28, 2009) 
(online at alephblog.com/ wp-content/uploads/ 2009/04/
To%20What%20Degree%20 
Were%20AIG%E2%80%99s%20Operating%20Subsidiaries%20Sound.pdf) 
(hereinafter ``AIG's Insurance Subsidiaries'').
---------------------------------------------------------------------------
    It is also unlikely that consumers would have taken out new 
insurance policies with AIG's insurance subsidiaries, further 
impacting their revenue potential and destabilizing their 
ongoing operations.\592\ While AIG has its own personnel 
devoted to sales, its insurance policies are mainly distributed 
through independent agents affiliated with broker-dealers.\593\ 
Due to suspensions by broker-dealers (getting closed out of 
many of its distribution outlets) related to AIG's financial 
risk and the losses that it incurred over the course of 2008 
(and that occurred despite AIG's receipt of substantial 
government assistance), AIG's ability to issue new insurance 
policies was significantly curtailed between September 2008 and 
March 2009.\594\ SunAmerica Financial, AIG's umbrella for its 
life and retirement insurance companies, has estimated that it 
lost between $2 and $3 billion in sales during this time 
period.\595\ This demonstrates that AIG's insurance 
subsidiaries incurred some loss even after the government's 
rescue, but the amount would likely have been much larger had a 
bankruptcy occurred. Third, it is unclear how the bankruptcy of 
the AIG parent would have affected the ratings of the insurance 
company subsidiaries.\596\
---------------------------------------------------------------------------
    \592\ Panel staff conversations with industry analysts; Written 
Testimony of Rodney Clark, supra note 80, at 6-7 (stating that ``it may 
be more difficult for the subsidiaries to retain and attract new 
customers where there is uncertainty surrounding the parent company--
particularly in light of a dampened demand for insurance and, more 
significantly, marginal pricing'').
    \593\ Panel staff conversation with Jay Wintrob, the CEO of the 
SunAmerica Financial Group (May 17, 2010).
    \594\ Panel staff conversation with Jay Wintrob, the CEO of the 
SunAmerica Financial Group (May 17, 2010).; Senate Committee on 
Banking, Housing, and Urban Affairs, Written Testimony of Testimony of 
Donald Kohn, supra note 245, at 11 (stating that ``general economic 
weaknesses, along with a tendency of the public to pull away from a 
company that it viewed as having an uncertain future, hurt AIG's 
ability to generate new business during the last half of 2008 and cause 
a noticeable increase in policy surrenders'').
    \595\ Panel staff conversation with Jay Wintrob, the CEO of the 
SunAmerica Financial Group (May 17, 2010).
    \596\ Written Testimony of Rodney Clark, supra note 80, at 6-8 
(noting that while AIG's financial problems ``have no direct effect on 
the solvency of its insurance subsidiaries, we believe the 
creditworthiness of those subsidiaries is nevertheless indirectly 
affected in two primary respects:'' (1) financial pressures at AIG 
``generally make it less likely that AIG will be in a position to 
provide additional capital to its subsidiaries in the event the 
subsidiaries suffer investment losses of their own or otherwise require 
recapitalization;'' and (2) ``overall reputational risk resulting from 
the parent company's financial problems.''
---------------------------------------------------------------------------
    These effects could have been mitigated if the government 
stepped in to backstop or guarantee the insurance liabilities. 
Such a guarantee program (as opposed to a guarantee of any 
private rescue package), however, may have been impractical for 
several reasons. First, the amounts of AIG's insurance policies 
would have required a multi-trillion dollar government 
guarantee (and it is unclear whether AIG would have had 
sufficient collateral for the Federal Reserve to authorize such 
a guarantee).\597\ Second, the lawyers for FRBNY did not 
believe that section 13(3) or any other provision of the 
Federal Reserve Act authorized the issuance of this type of 
guarantee (as opposed to other types of guarantees that might 
have been available, such as the guarantee of a private loan 
discussed earlier).\598\ Third, there was the challenge of 
ensuring that all 50 state insurance regulators would have 
agreed not to seize their domiciled subsidiaries, and one 
seizure could have led to a cascading effect of other seizures. 
Finally, there would have been uncertainty as to who would 
ultimately be responsible for the guarantee's administration. 
Apart from the various business and legal issues associated 
with a potential multi-trillion dollar government guarantee of 
a private international company, it is not clear that such a 
program, which has not been used before, would work. Panel 
staff also asked the government if a guarantee for only certain 
of AIG's domestic insurance subsidiaries was considered, and 
the response was similar--that such a guarantee would likely 
not have been feasible given that AIG's domestic life and 
property & casualty insurance operations carried policies in 
the trillions of dollars.\599\
---------------------------------------------------------------------------
    \597\ In general, the Federal Reserve would only be able to issue a 
guarantee pursuant to Section 13(3) if the guarantee was fully secured. 
Therefore, the amount of the guarantee would be ``capped'' by the value 
of available or unencumbered assets that could be posted as collateral. 
For further detailed discussion of the Federal Reserve's Section 13(3) 
authority, see Section C.4, supra.
    \598\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010). In fact, based on further discussions with Scott Alvarez on 
May 28, 2010, it may have been possible to work out a guarantee of the 
insurance liabilities if adequate collateral could have been provided. 
Such a guarantee, however, would have required significant interaction 
with over 200 of AIG's domestic insurance regulators. These regulators 
may have been constrained by existing local or state law regarding the 
proper segregation of assets to satisfy outstanding insurance claims 
(potentially requiring the regulators to amend local/state law before 
they could agree to pledge the assets as collateral for a government 
guarantee). Further, any solution would have required a coordinated 
effort of all insurance regulators so that there would be uniform and 
consistent treatment for AIG policyholders across the United States. 
The Federal Reserve, FRBNY, and Treasury would have been further 
constrained by the limited amount of time available to accomplish the 
necessary tasks for a guarantee of the insurance liabilities.
    \599\ FRBNY conversations with Panel staff (May 4, 2010).
---------------------------------------------------------------------------
    A possible alternative to a guarantee could have been 
direct lending to AIG's insurance company subsidiaries, which 
might have been possible (and might also have allowed the 
subsidiaries to maintain their credit ratings), but this would 
have been highly complex for a company like AIG.\600\ According 
to Mr. Clark of S&P, ``when you look at the literally hundreds, 
when you start looking globally, of regulated and unregulated 
subsidiaries of AIG, I think it would have been very difficult 
to get money to all of those. In addition, you had cross-
guarantees between certain of the subsidiaries, both domestic 
and foreign, which most often went back to insurance companies 
regulated in New York or Pennsylvania, not always. It was a 
very complicated web of relationships really just necessitated 
by the complex global nature of the group.'' \601\
---------------------------------------------------------------------------
    \600\ Testimony of Rodney Clark, supra note 576.
    \601\ Testimony of Rodney Clark, supra note 576.
---------------------------------------------------------------------------
    Given AIG's substantial issuance of commercial paper to 
money market mutual funds, there was a real possibility that an 
AIG bankruptcy could have had severe repercussions on both 
money market funds \602\ and an already distressed commercial 
paper market. Once a bankruptcy filing by Lehman Brothers 
(which had $5 billion of commercial paper outstanding to money 
market funds) resulted in the ``breaking of the buck'' on 
September 16--the same day that the government rescued AIG--
investors started withdrawing funds from money market mutual 
funds. As discussed above, however, AIG had issued $20 billion 
of commercial paper--four times the amount of Lehman's 
outstanding commercial paper. If a Lehman failure could cause 
these investment vehicles to begin trading at a discount and 
result in a wave of investor redemptions in prime funds and the 
reinvestment of capital into government funds, it seems quite 
plausible that an AIG failure would have further destabilized 
these investments, reduced or halted credit availability for 
corporations and financial institutions (even on a short-term 
basis), and caused higher lending rates.\603\
---------------------------------------------------------------------------
    \602\ A money market fund (MMF) is a type of mutual fund that 
invests only in highly-rated, short-term debt instruments. Government 
funds invest primarily in government securities like U.S. Treasuries, 
while prime funds invest primarily in non-government securities such as 
the commercial paper (i.e., short-term debt) of businesses. Investors 
use MMFs as a safe place to hold short-term funds that may pay higher 
interest rates than a bank account.
    \603\ The Panel notes, however, that any such fallout could have 
been prevented or mitigated by a government money market guarantee 
program, and this seems very possible given that Treasury ultimately 
announced such a program on September 19, 2008 (only three days after 
the AIG rescue), but this alternative would have also exposed the 
government to a substantial amount of risk.
---------------------------------------------------------------------------
    The Panel notes that in a bankruptcy filing, virtually all 
of the multi-sector CDO CDS counterparties would have 
terminated as of the petition date and would have been entitled 
to retain all previously posted cash collateral (which 
essentially means their unsecured claim would become secured to 
the extent of that collateral), hold onto the referenced CDOs 
(for those that were not holding naked positions), or continue 
the contract. Continuing collateral calls from the 
counterparties after a bankruptcy filing would have been 
unenforceable due to the automatic stay. Assuming that the 
counterparties could not cover their positions by obtaining a 
replacement derivative, they would have retained the right to 
assert an unsecured claim against AIGFP for unrecovered 
amounts, and these would have been resolved in bankruptcy 
court. For those counterparties that still held the underlying 
securities and were not fully hedged, they would have likely 
faced the need to take the full risk of the reference 
securities onto their books.\604\ This could have created a 
domino effect across AIG's counterparties and the capital 
markets, as those that had insufficient capital or liquidity to 
offset that risk could have faced significant distress.\605\ 
While it is unclear whether this potentially substantial loss 
of capital on the part of many entities would have been 
destabilizing in itself, it is clear that a significant amount 
of liquidity had already been drained out of the system in 
September 2008, and the system would have had to dig itself out 
of a bigger hole had AIG gone bankrupt. As Secretary Geithner 
has noted, ``[t]he risk to the system from AIG's collapse is 
not particularly reflected in the direct effects on its major 
counterparties, the banks that bought protection from AIG . . . 
What was significant for the system as a whole was the broader 
collateral damage that would've happened in the event of 
failure.'' \606\
---------------------------------------------------------------------------
    \604\ The extent to which some of the CDS counterparties were 
actually at risk is discussed below at Section D.4, infra.
    \605\ Some of AIGFP's CDS counterparties assert that they were not 
at risk to the credit consequences of an AIG default. No one has 
asserted that they would not have been affected by the systemic impact 
of an AIG default.
    \606\ COP Hearing with Secretary Geithner, supra note 86.
---------------------------------------------------------------------------
    The potential impact of an AIG bankruptcy can be guessed by 
examining how the markets continued to deteriorate even after 
AIG was rescued. As shown in Figure 22 below, the spread 
between the London Interbank Offered Rate (LIBOR) and the 
Overnight Index Spread Rate (OIS)--used as a proxy for fears of 
bank bankruptcy--dramatically increased in September 2008 amid 
the growing concerns of financial collapse. Former Federal 
Reserve Chairman Alan Greenspan stated that the ``LIBOR-OIS 
spread remains a barometer of fears of bank insolvency.'' \607\ 
In the immediate aftermath of the Lehman bankruptcy this spread 
spiked to a level indicating actual illiquidity in the 
interbank market--not merely a high cost for obtaining funds--
meaning that banks were not willing to lend to one 
another.\608\ Prior to the beginning of the credit market 
crisis in August 2007, the LIBOR-OIS spread was 10 basis 
points. Following the failure of Bear Stearns, the Libor-OIS 
spread increased to 83 basis points. The measure averaged 190.3 
basis points through the final four months of 2008 and reached 
its peak of 365 basis points on October 10, 2008 following the 
collapse of Lehman Brothers. The LIBOR-OIS spread reflected the 
contraction of liquidity that crippled the financial markets in 
2007 and 2008.\609\
---------------------------------------------------------------------------
    \607\ Federal Reserve Bank of St. Louis, What the LIBOR-OIS Spread 
Says (2009) (online at www.research.stlouisfed.org/publications/es/09/
ES0924.pdf).
    \608\ Federal Reserve Bank of St. Louis, What the LIBOR-OIS Spread 
Says (2009) (online at www.research.stlouisfed.org/publications/es/09/
ES0924.pdf).
    \609\ Federal Reserve Bank of St. Louis, The LIBOR-OIS Spread as a 
Summary Indicator (2008) (online at www.research.stlouisfed.org/
publications/es/08/ES0825.pdf).
---------------------------------------------------------------------------

 FIGURE 22: SPREAD BETWEEN THREE-MONTH LIBOR AND OVERNIGHT INDEX SWAP 
                               RATE \610\

      
---------------------------------------------------------------------------
    \610\ 90-day LIBOR less the 90-day OIS rate. An OIS is an interest 
rate swap with the floating rate tied to an index of daily overnight 
rates, such as the effective federal funds rate. At maturity, two 
parties exchange, on the basis of the agreed notional amount, the 
difference between interest accrued at the fixed rate and interest 
accrued by averaging the floating, or index, rate. Investment Company 
Institute, Report of the Money Market Working Group (Mar. 17, 2009) 
(online at www.ici.org/pdf/ppr_09_mmwg.pdf). 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


    Furthermore, as discussed above, AIG was heavily reliant on 
commercial paper to fund its operations, a market that froze in 
the fall of 2008. As Figure 23 illustrates, the total amount of 
financial commercial paper outstanding declined by 16 percent 
in September 2008, a reflection of the market's uncertainty 
regarding financial companies.\611\ Interest rates for 
overnight commercial paper shot up in September 2008. As Figure 
24 shows, interest rates on relatively riskier investments such 
as A2/P2 and asset-backed commercial paper increased by 142 
percent and 179 percent respectively in September 2008. The 
interest rates on comparatively less risky investments such as 
AA nonfinancial and AA financial commercial paper increased by 
56 percent and 34 percent during the same period. As noted 
above, AIG had issued approximately $20 billion in commercial 
paper--roughly four times the amount Lehman issued.\612\ Even 
after AIG's receipt of substantial government assistance, 
concerns regarding AIG's financial condition spread to the 
money market funds, which were owners of the paper.\613\
---------------------------------------------------------------------------
    \611\ Federal Reserve Data Download Program, supra note 317 
(accessed May 28, 2010).
    \612\ Federal Reserve Bank of New York, Presentation by Sandy 
Krieger, executive vice president, Credit, Investment and Payment Risk 
Group at the Federal Reserve Bank of New York, Understanding the 
Response of the Federal Reserve to the Recent Financial Crisis, at 34 
(Apr. 14, 2010).
    \613\ Investment Company Institute, Report of the Money Market 
Working Group, at 103 (Mar. 17, 2009) (online at www.ici.org/pdf/
ppr_09_mmwg.pdf) (``Concerns of money market fund investors about the 
risk exposure of their money market funds and the ability of sponsors 
of these funds to support them in the midst of a far-reaching financial 
crisis led some large institutional investors in money market funds to 
join the much broader run to Treasury securities, further overwhelming 
the financial system's ability to accommodate this sudden and broad-
based change in the market outlook'').
---------------------------------------------------------------------------

FIGURE 23: FINANCIAL COMMERCIAL PAPER OUTSTANDING, SEASONALLY ADJUSTED 
                                 \614\

      
---------------------------------------------------------------------------
    \614\ Federal Reserve Data Download Program, supra note 317 
(accessed May 28, 2010). 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


         FIGURE 24: COMMERCIAL PAPER INTEREST RATES, 2008 \615\

      
---------------------------------------------------------------------------
    \615\ Federal Reserve Data Download Program, supra note 317 
(accessed May 28, 2010). 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


    As the financial crisis continued, spreads between yields 
on one-month commercial paper of financial companies and 
Treasury bills, an indicator of stress in money markets, 
widened significantly (and would have likely widened even more 
with an AIG bankruptcy), climbing to nearly 400 basis points at 
one time.\616\
---------------------------------------------------------------------------
    \616\ This metric measures the spread between 30-day AA financial 
commercial paper rates and 1-month Treasury bonds. This spread reached 
its peak on October 9, 2008 at 382 basis points. This metric averaged 
24 basis point between July 31, 2001--the earliest possible point of 
measurement--to January 1, 2008. Through the first nine months of 2008, 
the metric averaged 98 basis points until a spike in October, 2008 when 
the average for that month was 248 basis points. Federal Reserve Data 
Download Program, supra note 317 (accessed June 7, 2010); U.S. 
Department of the Treasury, Daily Treasury Yield Curve Rates 
(Instrument: 1-month security) (online at www.ustreas.gov/offices/
domestic-finance/debt-management/interest-rate/
yield_historical_huge.shtml) (accessed June 7, 2010).
---------------------------------------------------------------------------
    An AIG bankruptcy would likely have had significant 
international consequences. Several large European banks, which 
were exposed to AIG through CDSs that allowed them to hold less 
capital than they would have otherwise held, may have become 
under-capitalized as a result of a bankruptcy.\617\ This could 
have led to serious regulatory consequences, including possible 
seizure by regulators,\618\ and ripple effects on financial 
markets. In addition, if one foreign insurance regulator had 
decided to seize a foreign AIG insurance company, this could 
have set off a wave of additional seizures in other countries, 
because the likelihood that policyholders will be repaid 
decreases as more and more assets are frozen.
---------------------------------------------------------------------------
    \617\ See table of affected banks at Figure 21.
    \618\ For further discussion of the impact on regulatory capital 
swaps, see Sections B.3(a) and E.1 (Regulatory Capital Swap 
Counterparties), supra.
---------------------------------------------------------------------------
    Even if it were possible to do a Lehman-type resolution for 
AIG by forcing the parent into bankruptcy and protecting the 
U.S. insurance subsidiaries (perhaps through a backstop), the 
vast reach and international aspects of this company would have 
made a filing extremely difficult without a sufficiently 
lengthy planning period.\619\ Substantial time would have been 
needed to coordinate with the 200 foreign regulators and the 
large number of parties that had significant agreements with 
AIG,\620\ and the likelihood of a quick response would have 
been slim.
---------------------------------------------------------------------------
    \619\ Panel staff conversations with bankruptcy/restructuring 
experts.
    \620\ For example, there were at least 12 separate indentures (and 
the government would have had to talk to the trustees under those 
indentures) as well as a variety of other agreements. For further 
discussion of these and other agreements, see Section E, supra. Even if 
the government had started discussions with the regulators over the 
weekend, it is likely that that still would not have been enough time.
---------------------------------------------------------------------------
    Because of the FRBNY and Treasury decisions made on 
September 16, 2008, we can never really know what would have 
happened if AIG had filed for bankruptcy. The Panel concludes, 
however, that an AIG bankruptcy could have risked such severe 
financial disruptions that testing its consequences would have 
been inadvisable. In a time of crisis, FRBNY and Treasury's 
fundamental decision to provide support for AIG was probably 
necessary (or at least a reasonable enough conclusion made 
under great pressure); if that support had been provided in the 
context of a bankruptcy, the outcome for AIG and markets would 
have been very different.
            v. Was Pre-Pack Bankruptcy an Alternative?
    Finally, the Panel considered whether a pre-packaged 
bankruptcy or some other kind of arranged and controlled 
restructuring was possible on September 16, 2008 or 
contemplated at this time. A pre-pack is a plan for 
reorganization prepared in advance in cooperation with 
creditors that will be filed soon after the petition for relief 
under Chapter 11.\621\ The advantages to a pre-pack are that 
the restructuring is not uncontrolled and there is an ability 
to distinguish among creditors and rearrange commercial 
contracts. For a number of reasons, this would not have been a 
feasible or practical stand-alone alternative in September. 
First, there was only a matter of hours to arrange a pre-
pack,\622\ not even weeks. With AIG running out of cash 
quickly, the Reserve Primary Fund breaking the buck, and AIG's 
commercial paper being four times the size of Lehman's, it 
seems extremely unlikely that a pre-pack could have been 
arranged in such a short time period as to prevent AIG's 
immediate default and a complete run on the money market funds. 
Second, while arranging a pre-pack is easier and has 
traditionally worked well for debtors with a relatively small 
number of creditors (for example, those having one credit 
agreement or bonds issued under only one indenture), it is much 
more difficult to conduct when a debtor like AIG--a large 
worldwide enterprise--has a substantial number of creditors 
with different types of claims. Third, AIG had more than 400 
separate regulators, and more than 200 of them were overseas in 
September 2008. From a logistical standpoint, trying to contact 
all of these players to coordinate an arranged and controlled 
bankruptcy in such a short amount of time was impracticable.
---------------------------------------------------------------------------
    \621\ Pre-packaged bankruptcies can take various forms. Debtors 
will often file prepackaged bankruptcies in order to shorten the 
traditional process of confirming a reorganization plan and save the 
company money for professional fees and other costs associated with 
bankruptcy. The sooner the restructuring under Chapter 11 is completed, 
the sooner the company can return focus to its core operations. Some of 
these pre-pack reorganizations are extremely large, but can 
nevertheless be accomplished in less than two months.
    \622\ Even including the weekend, there would have not have been 
enough time. Mr. Martin Bienenstock, partner and chair of the business 
solutions and government department at Dewey & LeBoeuf, does ``not 
believe any prepackaged chapter 11 plan for AIG was remotely possible 
within the acutely short time available.'' Written Testimony of Martin 
Bienenstock, supra note 307, at 1. See also Testimony of Jim Millstein, 
supra note 44, at 4 (stating that ``prepackaged plans only have a 
chance of success if there is sufficient time, before a company 
defaults, to organize creditors into a negotiating committee, and to 
negotiate and agree on a comprehensive restructuring plan which can be 
implemented in an expedited proceeding before bankruptcy court'').
---------------------------------------------------------------------------
    While a pre-pack around September 16, 2008 appears 
problematic assuming FRBNY and Treasury had insufficient notice 
of AIG's true financial health, in the event FRBNY and Treasury 
had been fully aware of the issues earlier, a pre-pack would 
have been a more workable option. It might have been possible 
to complete a pre-pack (combined with a government-sponsored 
bridge facility) over two or three months commencing in mid-
September if it were combined with a government-sponsored 
bridge facility,\623\ and the Panel notes that the following 
year pre-packs were effectively used in the support of the 
automotive companies.\624\
---------------------------------------------------------------------------
    \623\ According to Martin Bienenstock, chair of the Business 
Solutions and Governance Department at Dewey & LeBoeuf LLP, if on 
September 16, 2008, the government provided AIG with an $85 billion 
bridge loan and sought to work out a pre-pack bankruptcy of AIG, the 
odds of that being successful within 180 days would have been less than 
10 percent. ``On the prepack, the reason I'm saying less than a 10 
percent likelihood is, as a matter of right, any creditor can ask for 
an examiner.. . . That can take months or years.'' Furthermore, if 
everyone was not going to get paid in full in the bankruptcy 
proceeding, then the chances of resolution within 180 days would have 
even been slim. Congressional Oversight Panel, Testimony of Martin 
Bienenstock, partner and chair of business solutions and government 
department, Dewey & LeBoeuf, COP Hearing on TARP and Other Assistance 
to AIG (May 26, 2010).
    \624\ September Oversight Report, supra note 389, at 49-50.
---------------------------------------------------------------------------
            vi. Did the Government Recognize the Consequences of its 
                    Choice?
    Senior officials of both the FRBNY and the Treasury have 
stated, however, that significant negative consequences 
resulted from their decision to rescue AIG. They have focused 
on the perception that their intervention would be perceived as 
a bailout of a ``too big to fail'' institution and, therefore, 
raise substantial moral hazard concerns, especially since these 
actions took place after the Federal Reserve had already 
provided assistance to Bear Stearns in March 2008.\625\ The 
government concluded, however, that such negative ramifications 
were outweighed by the countervailing concern that taking no 
action in the midst of a financial crisis might have served as 
the catalyst for the next Great Depression. According to 
Secretary Geithner, ``[o]ur job was to make a set of choices 
among unpalatable, deeply offensive basic choices, and to do 
what was best, we thought, for the country at that stage.'' 
\626\ The policymakers continue to emphasize that rescuing AIG 
was a ``no brainer'' in context due to their conclusion that 
the consequences of an AIG bankruptcy were far worse than those 
resulting from the provision of liquidity to AIG.\627\ The 
Panel recognizes that FRBNY and Treasury realized they were 
making an unpalatable choice, but is not convinced they 
recognized just how unpalatable that choice was--that is, they 
had created a guarantee of the OTC derivatives market. The 
implications of this decision are discussed in the Conclusion.
---------------------------------------------------------------------------
    \625\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010); Joint Written Testimony of Thomas C. Baxter and Sarah 
Dahlgren, supra note 255, at 3-4 (stating that the decision to lend 
``was difficult because of the collateral consequence, the moral hazard 
resulting from AIG's rescue.''). While policymakers do not recall 
whether discussions took place concerning actions that could have 
mitigated the moral hazard concern during the decision-making that led 
up to the AIG rescue, they acknowledge the significance of the issue 
and do not pretend that the moral hazard price was not contemplated. 
According to at least one staff memo that was circulated on September 
14, 2008, moral hazard was noted as a negative of lending to AIG. E-
mail from Alejandro LaTorre, vice president, Federal Reserve Bank of 
New York, to Timothy F. Geithner, president, Federal Reserve Bank of 
New York, and other Federal Reserve Bank of New York officials (Sept. 
14, 2008) (FRBNYAIG00496-499) (with attached memo).
    \626\ Congressional Oversight Panel, Questions for the Record for 
Treasury Secretary Timothy Geithner (Dec. 10, 2009) (online at 
www.cop.senate.gov/documents/testimony-121009-geithner-qfr.pdf).
    \627\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010).
---------------------------------------------------------------------------
    The Panel also recognizes that the government was faced 
with a deepening financial crisis, and its attention was on a 
number of troubled institutions besides AIG in the course of 
just a few days. Given this context, the government took 
actions that it thought would facilitate rapid intervention in 
the midst of deteriorating economic conditions. Nonetheless, if 
the government concluded that it could not impose conditions on 
its assistance once it had decided to backstop AIG with 
taxpayer funds, or that other possible rescue alternatives were 
unattractive or impracticable, then it had an obligation to 
fully explain why it decided what it did, and especially why it 
was of the opinion that all AIG's creditors and counterparties 
would receive all amounts they were owed. In addition, while 
the Panel acknowledges the number of complex issues and 
troubled institutions that policymakers were concerned with at 
the time, it appears that the government was neither focused on 
nor prepared to deal with the AIG situation. By placing a 
tremendous amount of faith in the assumption that a private 
sector solution would succeed in resolving AIG, the government 
had no legitimate alternative on the table once that assumption 
turned out to be incorrect. In its assessment of government 
actions to deal with the current financial crisis, the Panel 
has regularly called for transparency, accountability, and 
clarity of goals. These obligations on the part of the 
government do not vanish in the midst of a financial crisis. In 
fact, it is during times of crisis, when difficult decisions 
must be made, that a full accounting of the government's 
actions is especially important.

2. Securities Borrowing Facility: October 2008

    In the 15 days between September 16 and October 1, AIG drew 
down approximately $62 billion of the $85 billion RCF, and a 
substantial component of this amount was used to settle the 
redemptions arising from securities lending counterparties' 
return of those securities to AIG.\628\ The fact that FRBNY had 
to resort to an additional credit facility so soon after the 
initial intervention (coupled with the facility's effect of 
allowing AIG to use the remaining amounts under the RCF for 
other purposes) suggests that none of the parties, including 
FRBNY, had a complete grasp of AIG's need for additional 
capital. Given the scope of the continued economic and market 
deterioration, however, it would have been very difficult for 
anyone to calculate with exact precision the impact of a 
worsening financial crisis on AIG's balance sheet.
---------------------------------------------------------------------------
    \628\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010); Federal Reserve Report on Restructuring, supra note 329, at 
4; Board of Governors of the Federal Reserve System, Minutes of Board 
Meeting on American International Group, Inc.--Proposal to Provide a 
Securities Lending Facility (Oct. 6, 2008) (hereinafter ``Minutes of 
Federal Reserve Board Meeting'').
---------------------------------------------------------------------------
    As discussed above, credit rating agencies made early 
contact with FRBNY to emphasize that the $85 billion RCF was 
problematic because of the impact it had on AIG's balance 
sheet, and indicated that additional downgrades were likely if 
FRBNY did not address the continuing collateral calls stemming 
from AIG's securities lending and AIGFP CDS portfolios.\629\ As 
a result, FRBNY spent a significant amount of time trying to 
develop alternative solutions to avoid further downgrades.\630\ 
As discussed above, $62 billion of the RCF had been drawn down 
by October 1. While the drawdowns were expected, they also 
demonstrated the substantial liquidity pressures placed on AIG 
due to the ongoing withdrawal of counterparties from the 
securities lending program and the likelihood that additional 
securities borrowing counterparties would decide not to renew 
their positions with AIG. These concerns were compounded by the 
continued deterioration in the market. Given these 
circumstances, a primary benefit of the SBF was to reduce the 
pressure on AIG to liquidate the RMBS portfolio.\631\
---------------------------------------------------------------------------
    \629\ House Committee on Oversight and Government Reform, Testimony 
of Timothy F. Geithner, secretary, U.S. Department of the Treasury, The 
Federal Bailout of AIG (Jan. 27, 2010) (publication forthcoming) 
(noting that while the initial $85 billion revolving credit facility 
``helped stem the bleeding for a time,'' ``given the massive losses AIG 
faced, and given the force of the storm moving across the global 
financial system, it was not enough. And we had to work very quickly 
almost from the beginning to design and implement a broader, more 
permanent restructuring'').
    \630\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
    \631\ Given the financial crisis and the depressed real estate 
market, had AIG liquidated its RMBS portfolio at that time, the sales 
would have likely occurred at significantly depressed prices.
---------------------------------------------------------------------------
    By November 2008, AIG borrowed approximately $20 billion 
under the SBF. While the creation of this additional facility 
exposed FRBNY to further potential losses, advances made under 
the facility were with recourse to AIG. As discussed in more 
detail below, FRBNY received enhanced credit protection in 
these securities.\632\
---------------------------------------------------------------------------
    \632\ Minutes of Federal Reserve Board Meeting, supra note 628. For 
further discussion of the ML2 facility and its current value, see 
Section D.3, infra.
---------------------------------------------------------------------------
    As FRBNY has noted, the SBF was not designed to be a 
permanent solution.\633\ While it may have made the company 
more leveraged temporarily, it was designed as a short term 
response to credit rating agency concerns about the liquidity 
pressures the AIG parent continued to face from its RMBS 
securities lending portfolio. It appears, therefore, to have 
achieved its immediate goals of helping stabilize AIG's 
liquidity situation in the near term and preserving the value 
of its insurance subsidiaries.
---------------------------------------------------------------------------
    \633\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010); Minutes of Federal Reserve Board Meeting, supra note 628; 
RMBS Solution: AIG discussion document (Oct. 30, 2008) (FRBNY-TOWNS-R1-
205305) (stating that the ``FRBNY $37.8 B sec lending program was 
initiated as a stop-gap liquidity measure to address the liquidity 
drain from sec lending terminations''). The primary reasoning offered 
by FRBNY for why this was not designed to be a permanent solution was 
that FRBNY could not continue to function as a ``RMBS lender of last 
resort'' on an indefinite basis.
---------------------------------------------------------------------------

3. The TARP Investment and First Restructuring: November 2008

    The period between late October and early November marked 
the first of several occasions in which the government had to 
weigh providing continued support for AIG against letting all 
or part of it fail. The enactment of EESA on October 3, 2008, 
provided government policymakers with a potentially more 
flexible set of tools for addressing AIG's problems in November 
than was available to them in the initial rescue of AIG in 
September. EESA created the TARP which included the ability to 
use equity and asset guarantees \634\ to support troubled 
financial institutions and allowed for lending without the more 
restrictive collateral requirements that the Federal Reserve is 
required to meet under Section 13(3).
---------------------------------------------------------------------------
    \634\ See November Oversight Report, supra note 411, at 40-43 
(describing section 102 of EESA, which requires the Secretary, if he 
creates the TARP, also to ``establish a program to guarantee troubled 
assets originated or issued prior to March 14, 2008, including 
mortgage-backed securities.'').
---------------------------------------------------------------------------
    This was also a juncture at which the government considered 
whether there was a cheaper and more efficient resolution 
mechanism for AIG, including a surgical or partial bankruptcy 
such as a ``pre-pack,'' but ultimately rejected any form of 
bankruptcy.\635\ Between September and November, AIG continued 
to face liquidity pressures from its CDS and securities lending 
portfolios. As discussed above, AIG was expected to report a 
sizeable loss for the third quarter of 2008, and the four 
leading credit rating agencies had notified FRBNY of their 
concern that the RCF made the company overleveraged and did not 
adequately address its liquidity pressures. Given these 
concerns, the rating agencies suggested the strong likelihood 
of further downgrades if these issues were left unaddressed.
---------------------------------------------------------------------------
    \635\ Testimony of Thomas C. Baxter, supra note 215; Testimony of 
Scott G. Alvarez, supra note 639. It is worth noting that since the 
prior AIG intervention had occurred before the passage of EESA, it was 
not until this time that TARP funds specifically, rather than 
government funds generally, became implicated.
---------------------------------------------------------------------------
    Having already provided AIG with the $85 billion line of 
credit as well as the subsequent SBF, the calculus of the 
government's decision-making focused on either the 
restructuring of the terms of its assistance or facing the risk 
of losing a part or the whole of its investment if AIG were to 
face downgrades and the renewed possibility of bankruptcy. 
AIG's earning statement was due to be released on November 10. 
Continuing to lend money to AIG so it could meet its 
obligations would have led to further downgrades and placed the 
company on the verge of bankruptcy. The government decided that 
November 10 had become the effective deadline for restructuring 
its assistance. The government has stated that its interactions 
with the rating agencies in the six weeks between September 16 
and early November 2008 were an iterative process; \636\ during 
regular conversations between the government and the rating 
agencies, the rating agencies evaluated the potential solutions 
offered by the government and offered feedback. Before the 
government announced the restructuring of its assistance, it 
ensured that the rating agencies had reviewed the set of 
solutions being offered.
---------------------------------------------------------------------------
    \636\ FRBNY conversations with Panel staff (May 4, 2010); Panel 
staff conversations with Standard & Poor's (May 19, 2010); Panel staff 
conversations with Moody's (May 19, 2010); Panel staff conversations 
with Fitch Ratings (May 20, 2010).
---------------------------------------------------------------------------
    The November restructuring of the AIG assistance 
illustrates how the government's initial decision to rescue AIG 
in September constrained all of its subsequent decision-making. 
In conversations with the Panel and its staff, government 
officials have emphasized their belief that it would be very 
poor policy and precedent for the government to vacillate in 
its decision-making, especially with respect to actions taken 
to avert economic collapse in the midst of a financial crisis. 
Later in the process, it was not just the credibility of the 
AIG investment that was at stake, but, in addition, all of 
TARP's Capital Purchase Program (CPP) and the implication that 
the large financial institutions that received government 
assistance were systemically important. A sudden change in 
course with respect to AIG would have called into question the 
government's intention to stand behind major TARP 
recipients.\637\ In the government's view, then, the actions 
taken in September 2008 determined the trajectory of government 
policy: having decided to rescue AIG on September 16, 2008, the 
government concluded that it was very difficult and 
impracticable for it to reverse its course and let AIG 
fail.\638\
---------------------------------------------------------------------------
    \637\ See Congressional Oversight Panel, January Oversight Report: 
Exiting TARP and Unwinding its Impact on the Financial Markets, at 5 
(Jan. 14, 2010) (online at cop.senate.gov/documents/cop-011410-
report.pdf) (hereinafter ``January Oversight Report'') (noting that 
``the TARP has raised the long-term challenge of how best to eliminate 
implicit guarantees. Belief remains widespread in the marketplace that, 
if the economy once again approaches the brink of collapse, the federal 
government will inevitably rush in to rescue financial institutions 
deemed too big to fail.''); November Oversight Report, supra note 411, 
at 4 (noting that ``the government's broader economic stabilization 
effort may have signaled an implicit guarantee to the marketplace: the 
American taxpayer would bear any price, and absorb any loss, to avert a 
financial meltdown'').
    \638\ FRBNY and Treasury briefing with Panel and Panel staff (May 
11, 2010).
---------------------------------------------------------------------------
    At this point, FRBNY and Treasury had enough time to 
collect information on AIG and reflect, on the basis of their 
due diligence, about the various ways to shape government 
assistance to AIG, that would have been more effective, 
efficient, and less costly than the course the government 
ultimately followed. The potential cost of delay depends on the 
value of the collateral provided to the government.
    As indicated elsewhere, there was a difference of opinion 
between the private bankers and the government about the value 
of the collateral provided by the stock of AIG's insurance and 
related subsidiaries. The possible variance took several forms. 
First, there is a simple disagreement about what the 
subsidiaries were worth as going concerns. Second, a valuation 
could have reflected the fact that AIG's default--and 
conversion of the collateral--would have resulted in a probable 
bankruptcy of AIG, in turn causing seizure of the insurance 
companies by their respective regulators; even if that had not 
happened, a bankruptcy would have potentially placed the 
insurance subsidiaries in a ``run-off'' mode, when few new 
policies were purchased, policies that could be cashed in were 
cashed in, and assets were preserved simply to pay claims when 
due. Moreover, even if the collateral theoretically retained 
sufficient value to cover the loan, the bankruptcy process 
would have delayed realization of that value for some, perhaps 
a substantial, period of time, until conclusion of the 
bankruptcy process, and the value of the collateral could 
itself have changed during the interim. At each point in the 
timeline these considerations become more difficult to assess.
    In any event, FRBNY and Treasury decided to continue on the 
course they had first elected in September. Mr. Alvarez of the 
Federal Reserve Board testified before the Panel that the RCF 
``did not prevent the private sector from subsequently coming 
in and restructuring AIG, making another loan, and taking us 
out of the position. That--that was always a possibility. Our 
loan did not remove that possibility.'' \639\ It appears, 
however, FRBNY and Treasury did not make serious efforts to 
engage with private sector participants at this time (or any 
time post-September 2008) to assess the level of interest (if 
any) in a public-private hybrid or some other package of 
assistance that would have reduced the government's exposure 
and retained some private party discipline.
---------------------------------------------------------------------------
    \639\ Congressional Oversight Panel, Testimony of Scott G. Alvarez, 
general counsel, Board of Governors of the Federal Reserve System, COP 
Hearing on TARP and Other Assistance to AIG (May 26, 2010) (hereinafter 
``Testimony of Scott G. Alvarez'').
---------------------------------------------------------------------------
    The Panel notes that the creation in November 2008 of a 
more durable capital structure for AIG had several practical 
consequences.\640\ First, by avoiding bankruptcy and further 
downgrades, the government's restructuring provided AIG with 
more time and greater flexibility to sell assets. At a time 
when AIG likely could not have obtained anything other than 
fire sale prices for its assets, the restructuring protected 
the interests of the government and taxpayers by improving the 
company's negotiating position by allowing AIG to hold off on 
selling assets until market conditions improved. Second, once 
Treasury expended TARP funds, the government's calculus 
changed, since Treasury, in its role as the primary manager of 
TARP, is obligated to protect taxpayer interests, promote 
transparency, and foster accountability. Since the Federal 
Reserve is not as politically accountable as Treasury, it is 
likely that the Federal Reserve's goals are at least somewhat 
different from those of Treasury. Third, since Treasury's TARP 
investments are junior to the RCF and AIG's other senior debt, 
the return of the taxpayers' TARP investment (as well as its 
value) are dependent upon the company's viability going 
forward. While Treasury's direct involvement in AIG stemming 
from this first TARP investment did not by itself result in a 
transfer of risk to the public since the Federal Reserve's 
source for its $85 billion line of credit was the government's 
ability to print money, a primary implication of Treasury's 
preferred stock purchase in AIG was that the government 
acquired an increased interest in the viability and success of 
the institution in which it invested, which might color any 
future decisions concerning AIG.\641\
---------------------------------------------------------------------------
    \640\ For a detailed discussion of tensions inherent in the capital 
structure, see Section G, infra.
    \641\ See further discussion of the dynamics of Treasury equity 
positions and Federal Reserve loans to AIG in Section G. This stake is 
presumably greatest in a case like AIG--where the government has a lot 
to lose, since it committed to provide a total of $182.3 billion to the 
company since September 2008.
---------------------------------------------------------------------------

4. Maiden Lane II

    The creation of the ML2 facility in combination with the 
creation of the ML3 facility (discussed below) allowed FRBNY to 
achieve the goal of avoiding rating downgrades and their 
negative consequences. As a result of the ML2 transaction, 
AIG's remaining exposure to losses from its U.S. securities 
lending program was limited to declines in market value prior 
to closing and its $1 billion of funding.\642\ While the 
purchases transferred a substantial amount of risk to FRBNY, 
which is charged with managing those assets for the benefit of 
the U.S. taxpayer, the Panel notes that two factors combine to 
mitigate that risk.
---------------------------------------------------------------------------
    \642\ BlackRock Financial Management, Inc., Proposed Structure for 
Sec Lending RMBS Vehicle (Maiden Lane II) (Nov. 2008) (FRBNY-TOWNS-R1-
163661) (noting that the objectives of the ML2 transaction should 
include minimizing the cash drain on the AIG parent and minimizing the 
capital hit to AIG).
---------------------------------------------------------------------------
    First, while the possibility that these securities might 
decline in value below their purchase price (causing the asset 
pool to be ``underwater'' and for the government's stake to be 
``out of the money'') and the portfolio exposes FRBNY to credit 
and concentration risk, these concerns are counterbalanced by 
FRBNY's substantially discounted purchase price \643\ and 
FRBNY's right to share in 83 percent of the upside.\644\ 
Further, the government believes there could be a significant 
upside on its holdings in ML2 (perhaps as much as $15-20 
billion if securities return to par).\645\ This upside 
potential also makes it more likely that AIG will repay the 
remainder of FRBNY's senior debt (RCF).
---------------------------------------------------------------------------
    \643\ FRBNY purchased RMBSs with a face value of $39.3 billion for 
a total price of $19.5 billion.
    \644\ See discussion of residual values for ML2 in Section D.3, 
supra.
    \645\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
---------------------------------------------------------------------------
    Second, FRBNY has the ability to hold the securities for 
some time; it does not face liquidity pressures to sell at fire 
sale prices. FRBNY engaged BlackRock to do a valuation analysis 
of the securities, including an investigation of cash flows 
under various scenarios, and BlackRock determined that the 
securities would realize more value if they could be held over 
a longer period of time.\646\
---------------------------------------------------------------------------
    \646\ FRBNY and Treasury briefing with Panel and Panel staff (Apr. 
12, 2010).
---------------------------------------------------------------------------
    The ML2 transactions form a critical element of the larger 
AIG intervention and, therefore, play an instrumental role in 
the return on the government's investment. The government's 
stake in ML2 is currently ``in the money.'' \647\
---------------------------------------------------------------------------
    \647\ For further discussion please, see section D.3, supra.
---------------------------------------------------------------------------

5. Maiden Lane III

    As discussed above, even after the government's rescue in 
September 2008, collateral calls with respect to AIGFP's CDS 
portfolio were absorbing liquidity and threatening further 
ratings downgrades, which would have required even more 
collateral to be posted.\648\ AIG operated under the assumption 
that it had two potential courses of action: keep the CDSs (and 
keep making the collateral calls) or try to get rid of them; 
defaulting on them was not an option, since it would likely 
have led to bankruptcy.\649\
---------------------------------------------------------------------------
    \648\ The threat posed by the continuing collateral calls began 
immediately after the rescue. Briefing by Sara Dahlgren, executive vice 
president, Federal Bank of New York to Panel staff (May 11, 2010).
    \649\ Some of AIG's standard derivatives documentation--such as its 
Master Agreement with Goldman contained cross-default language 
providing that certain defaults between the counterparties (or certain 
of their affiliates) would cause amounts due and payable under the 
Master Agreement to become due and payable. Such provisions can have a 
cascade effect, and can complicate negotiations of individual 
contracts. Testimony of Jim Millstein, supra note 44 (stating: ``Any 
creditor with the right to declare a cross-default could have brought 
the house of cards down.''). See also Section G.1, supra.
---------------------------------------------------------------------------
    Continuing to pay out on the collateral calls, however, was 
not a workable option; only $24 billion remained undrawn on the 
RCF, and it was doubtful that that sum would cover anticipated 
further collateral calls prompted by the ratings downgrades 
that would have resulted from AIG's earnings release about to 
be published on November 10; moreover, this would have added to 
an already considerable debt burden.\650\ In response, AIG 
attempted to negotiate cancellation of the CDSs in exchange for 
a cash payment, continuing to negotiate throughout 
October.\651\ Since these negotiations were not succeeding, 
FRBNY asked BlackRock Solutions to develop options for 
disposing of the CDSs. In consultation with the government and 
its advisors, BlackRock presented three alternatives, two of 
which (discussed in more detail above) FRBNY felt would not 
work.\652\
---------------------------------------------------------------------------
    \650\ Briefing by Thomas C. Baxter, general counsel, Federal 
Reserve Bank of New York, to Congressional Oversight Panel (May 12, 
2010) (noting some of the counterparties expressed a preference to 
continuing the position and continuing to take the collateral).
    \651\ Testimony of Thomas C. Baxter, supra note 319.
    \652\ See Section D, supra.
---------------------------------------------------------------------------
    At least one of the two alternatives that was rejected by 
the FRBNY is worth further exploration. As explained in Section 
D. 4., rather than purchasing the underlying CDOs, the FRBNY 
could have stepped into AIGFP's position and guaranteed the 
performance of the CDS contracts that AIGFP had written on the 
selected cash CDOs that ultimately were acquired by ML3. This 
could have been accomplished by using a special purpose vehicle 
like ML3 to purchase the CDSs written by AIGFP, rather than the 
underlying CDOs held by AIGFP's counterparties. The assumption 
by the government of AIG's obligations under their CDS 
contracts, and the consequent increased assurance of 
performance under the CDSs, would presumably have been very 
valuable to the counterparties and may have allowed FRBNY to 
obtain agreement to forego further collateral postings under 
those contracts.
    Admittedly, government officials would have had to overcome 
several obstacles to achieve this result. One is the financing 
for the SPV. As discussed above, the Federal Reserve can only 
lend under section 13(3) if there is collateral sufficient to 
protect it from losses.\653\ Collateral for an FRBNY loan to 
the SPV would have been an issue as the CDSs may have been seen 
as open-ended liabilities (even with the termination of further 
collateral postings) and too difficult to value as collateral 
under the Section 13(3) authority.\654\ Most of the other 
assets that AIG might have used as collateral had already been 
pledged in support of the Revolving Credit Facility. 
Nevertheless, it is possible that the Federal Reserve could 
have used some combination of the CDS contracts in the SPV and 
other unpledged holdings of AIG to provide the collateral 
needed for the Federal Reserve to authorize a Section 13(3) 
loan. Alternatively, it is possible that the Federal Reserve 
could have received expanded guarantee authority at the time 
TARP was passed or shortly thereafter if the proper groundwork 
had been laid. It appears that there was some consideration 
given to using TARP to provide a guarantee; in the end, TARP 
was not used for this purpose.
---------------------------------------------------------------------------
    \653\ For further discussion of collateral demands under Section 
13(3) of the Federal Reserve Act, see Section C.4.b of this report.
    \654\ Id.
---------------------------------------------------------------------------
    A further complication relates to the ability of AIGFP to 
assign its CDS contracts to a new legal entity. The argument 
that any assignment or assumption of the CDS contracts would 
have been very difficult in this instance is probably unlikely 
as standard language (often modified) in CDS contracts requires 
counterparties not to arbitrarily delay or withhold consent to 
such an assignment of interest.\655\ Here again, in light of 
the superior credit position of the SPV that would be stepping 
in to take over the CDS contracts, the counterparties would 
likely have been agreeable to such assignment of their 
contracts. Had this alternative SPV been successfully put in 
place, then to the degree that prior collateral calls 
associated under the CDS contracts had resulted from downgrades 
in AIG's credit rating, the government would have been able to 
recapture that portion of the collateral postings as a result 
of the fact that the issuer of the CDS contracts--the SPV--
would now be a AAA rated governmental entity.
---------------------------------------------------------------------------
    \655\ The International Swaps and Derivatives Association (ISDA) 
Master Agreement between Goldman Sachs International and AIGFP (GSI 
ISDA), dated as of August 19, 2003, provides for transfer without 
consent to affiliates of equivalent credit-worthiness; other 
assignments require the consent of the protected party.
---------------------------------------------------------------------------
    As noted in Section D, the current value of the ML3 
holdings is well in excess of the loan from the FRBNY and also 
exceeds the sum of the loan plus the AIG investment in ML3. 
Appreciation of the assets of ML3 produces income to the FRBNY 
and, in turn, to the Federal Reserve System. If, as in the 
alternative, an FRBNY owned SPV had assumed the issuer position 
of the CDS contracts, then appreciation of the underlying CDO's 
would likewise have been recaptured in the form of returned 
collateral from the CDS counterparties. In this respect, the 
government would have benefited from appreciation of the CDO's 
under either approach.
    While acknowledging the difficulties involved in pursuing 
the government assumption of the contracts option, the Panel 
believes that the attention given to this alternative to ML3 
was wholly inadequate, particularly in light of the advantages 
such an arrangement might have provided both with respect to 
avoiding any requirement to pay off CDO owners in full at the 
outset with government resources and with respect to the 
recapture of collateral by virtue of the government's superior 
credit rating.
    The alternative, which FRBNY actually chose, was to create 
an SPV to purchase the CDOs at par from AIG's counterparties in 
exchange for cancelling the CDSs. These purchases could have 
been effected at something less than the face value of the CDS 
less the collateral already received. This did not, however, 
happen. FRBNY has given a number of reasons for closing out the 
CDSs at their face value minus the collateral paid out: \656\
---------------------------------------------------------------------------
    \656\ See Panel meeting with Federal Reserve Bank of New York 
officials (Apr. 12, 2008); SIGTARP Quarterly Report to Congress, supra 
note 369, at 30. See also Testimony of Thomas C. Baxter, supra note 
319.
---------------------------------------------------------------------------
     After the government had made it clear in 
September that it was going to stand behind AIG, the threat of 
an imminent AIG bankruptcy had effectively been removed. Any 
threat of a default (anything less than payment of the full 
amount due on the CDSs) amounted to a threat of bankruptcy, 
which, once the government had indicated it would support AIG, 
would not be taken seriously.\657\
---------------------------------------------------------------------------
    \657\ See March Oversight Report, supra note 492, at 84-87.
---------------------------------------------------------------------------
     FRBNY was concerned that threatening default would 
introduce doubt in the capital markets about the resolve of the 
government to stand behind its commitments, which would 
adversely affect the stability of the capital markets, 
reintroducing the systemic risk it had sought to quell.\658\
---------------------------------------------------------------------------
    \658\ See March Oversight Report, supra note 492, at 84-87 
(discussing Treasury's concerns that having committed to backstop the 
stress-tested banks, of which GMAC was one, it could not allow GMAC to 
file for bankruptcy without undermining its own credibility).
---------------------------------------------------------------------------
     FRBNY was also concerned about the reaction of the 
rating agencies to attempts to pay less than the full amount 
due on the CDSs, which could have led to further downgrades on 
AIG's credit rating.\659\
---------------------------------------------------------------------------
    \659\ See Section F.1(b)(iii), supra (discussing ``selective 
default ratings''). See also Written Testimony of Rodney Clark, supra 
note 80.
---------------------------------------------------------------------------
     There was little time, significant execution risk 
and the possibility of significant harm if the transaction was 
not affected by November 10.\660\
---------------------------------------------------------------------------
    \660\ Briefing by Federal Reserve Bank of New York and the U.S. 
Department of the Treasury to the Congressional Oversight Panel and 
Panel staff (Apr. 12, 2010 and May 11, 2010).
---------------------------------------------------------------------------
    While by November the government had seriously undermined 
its own leverage, it may have had more leverage than it 
thought. The government believed that it could not threaten 
bankruptcy of AIG, because it had already decided against it in 
September. The markets, however, were not so sure. CDS spreads 
on AIG had widened, indicating that market participants were 
not convinced that the government was going to stand behind 
AIG.\661\
---------------------------------------------------------------------------
    \661\ AIG's CDS spreads on September 12 and 16, and on November 7 
were 858 basis points, 2413 basis points, and 2924 basis points, 
respectively, the last of which was an overall high. Data accessed 
through Bloomberg Data Service (accessed June 3, 2010).
---------------------------------------------------------------------------
    Any concessions had to be voluntary. This point is key--
non-consensual payments at less than par would have triggered 
cross-defaults, causing a default under all agreements between 
AIG and the counterparty (and, in some circumstances, 
affiliates of AIG and the counterparty), and thus pushed AIG 
into the bankruptcy that the government had taken such great 
pains to avoid. The government's negotiating stance was that it 
had to treat all parties equally. At least one counterparty 
indicated that it would be open to a concession only if other 
counterparties would agree to the same concession.\662\ Other 
counterparties, however, indicated in discussions with the 
Panel staff that they neither knew nor cared what other 
counterparties had been offered or were willing to accept, and 
that they were negotiating for themselves alone.\663\ This 
again suggests that FRBNY imposed unnecessary constraints on 
itself for public policy reasons. If other counterparties had 
separately agreed to varying degrees of concession, the 
holdouts could have been ``named and shamed'' as the only ones 
unwilling to make concessions and thus been more incentivized 
to come to an agreement.
---------------------------------------------------------------------------
    \662\ The counterparty was the Swiss bank UBS, which agreed to 
accept a 2 percent haircut provided the other counterparties did as 
well. SIGTARP Report on AIG Counterparties, supra note 246, at 15.
    \663\ Panel staff discussions with CDS counterparties (May 10-16, 
2010).
---------------------------------------------------------------------------
    FRBNY did make some attempts to negotiate with the CDS 
counterparties. It prepared talking points and briefing 
packages for the relatively low-level FRBNY officials who dealt 
with the counterparties.\664\ These talking points emphasized 
the significant benefits that the counterparties had received 
by reason of the rescue of AIG and stabilization of the 
financial markets, and the moral obligations that the 
counterparties thus owed. The Panel staff has spoken to some of 
the counterparties about the nature of these negotiations. It 
seems that their nature varied. Some counterparties 
characterized them as genuine commercial negotiations in which 
they were forced to fight fiercely for their rights; others 
described more desultory attempts.\665\
---------------------------------------------------------------------------
    \664\ Briefing by BlackRock Solutions, to Federal Reserve Bank of 
New York (Nov. 5, 2008) (FRBNYAIG-192338, 192382, 192392, 192402).
    \665\ Panel staff discussions with CDS counterparties (May 10-16, 
2010).
---------------------------------------------------------------------------
    Societe Generale was the largest counterparty and owned the 
reference securities.\666\
---------------------------------------------------------------------------
    \666\ Some of the counterparties are reported to have ``naked'' CDS 
positions; i.e., they did not own (or have contracts with parties 
owning) the reference securities. The Panel has been unable to confirm 
the extent to which this assertion is correct, and the basis upon which 
those assertions are made are not entirely clear. To the extent this 
was true with respect to any particular counterparty, they would not 
have been at risk to a loss of value in those reference securities. 
Admittedly, upon termination of the contracts they would have lost out 
on the opportunity to make more money if there were a subsequent 
decrease in value of the reference securities. (The values of the 
reference securities could have gone in either direction, however, with 
consequent repayment of collateral received, and they have subsequently 
recovered some value; if the counterparty thought that valuations had 
bottomed out, it would be doubly happy to close out the contract and 
retain the collateral received.) The calculations and negotiating 
stance of a party that does not hold the underlying reference 
securities are necessarily different from those of a party that enters 
into the CDS as a hedge for securities it actually owns, and a party 
that is not at risk to the reference securities has more negotiating 
power.
---------------------------------------------------------------------------
    Goldman Sachs, the second largest counterparty, has stated, 
and has reaffirmed to the Panel, that it was not exposed to AIG 
counterparty credit risk--the risk that a protection seller 
will be unable to make a payment due under a CDS--in the event 
of an AIG bankruptcy.\667\ This does not mean that Goldman had 
no exposure to AIG: for example, had Goldman agreed to make 
concessions on closing out its AIG CDSs, it would have 
experienced losses to the extent of those concessions, since 
those losses would not be covered by any of its hedges. A two 
percent concession on the notional value of Goldman's ML3 
assets would have been $280 million.
---------------------------------------------------------------------------
    \667\ Panel correspondence with Goldman Sachs (May 14, 2010).
---------------------------------------------------------------------------
    Goldman's chief financial officer, David Viniar, stated 
that in purchasing CDS protection from AIG, ``we served as an 
intermediary in assisting our clients to express a defined view 
on the market. The net risk we were exposed to is consistent 
with our role as a market intermediary rather than a 
proprietary market participant.'' \668\ If true, however, this 
statement does not in and of itself mean that risk was 
completely mitigated, because the relationship between the 
contracts meant Goldman was still on the hook to its own 
clients. If AIG had failed, Goldman would have been exposed to 
its own clients to the entire extent of the notional amount of 
the CDSs it had written, and its ability to do so would have 
depended on the strength of its own hedges and its negotiating 
position vis-a-vis its own counterparties. The Panel notes that 
Goldman has declined to supply the Panel with the identities of 
its own counterparties or any documentation with respect to 
those relationships. It has similarly declined to provide 
information with respect to the providers of its own hedges on 
AIG.\669\
---------------------------------------------------------------------------
    \668\ See Thomson Street Events, GS-Goldman Sachs Conference Call 
to Answer Questions from Journalists and Clarify Certain Misperceptions 
in the Press Regarding Goldman Sachs' Trading Relationship with AIG, at 
7 (Mar. 20, 2009) (hereinafter ``Goldman Sachs Conference Call''). 
However, since Goldman has declined to provide evidence of its 
relationships with its own counterparties, the Panel was unable to 
confirm this assertion. In the book, The Big Short, author Michael 
Lewis describes these counterparties as including Goldman Sachs itself 
(which sold bonds to its customers created by its own traders so that 
they could bet against them), hedge fund managers such as Steve Eisman 
of FrontPoint Partners, and stock market investor Michael Burry. See 
Michael Lewis, The Big Short: Inside the Doomsday Machine, at 76-77 
(2010).
    \669\ Goldman has provided the Panel with quantitative data with 
respect to its hedges, but has provided no details with respect to the 
institutions that provided those hedges. Similarly Goldman has provided 
no details or documentation with respect to its own counterparties. The 
Panel does not presently have the ability to assess Goldman's 
negotiating position with respect to its counterparties. Data provided 
by Goldman to Panel (May 26, 2010).
---------------------------------------------------------------------------
    Goldman, however, had two types of protection against the 
failure of AIG.
    The terms of the CDSs in effect with AIG provided that AIG 
had to put up cash collateral in the event of a downgrade in 
AIG's credit ratings, AIGFP's credit ratings, or a decrease in 
the market value of the reference CDOs.\670\ On November 7, 
2008, the amount of cash collateral posted with respect to 
Goldman's ML3 CDOs was approximately $8.2 billion (with an 
additional $1.2 billion claimed but not yet paid).\671\
---------------------------------------------------------------------------
    \670\ The International Swaps and Derivatives Association (ISDA) 
Master Agreement between Goldman Sachs International and AIGFP (GSI 
ISDA), dated as of August 19, 2003, provides for a variable threshold, 
which is essentially an amount of uncollateralized exposure provided 
for in the ISDA Master Agreement. (The ISDA Master Agreement and the 
Threshold are described in greater detail in Annex III.) The Threshold 
for each started at $125 million, and was reduced by $25 million 
(meaning that the counterparty would have to post collateral in the 
amount of $25 million) for each ratings downgrade. At BBB (S&P) or Baa2 
(S&P), the agreement would terminate. AIG parent was AIGFP's credit 
support provider and Goldman Group was GSI's credit support provider. 
The GSI ISDA was amended in April, 2004 to provide that Goldman Group, 
GSI, and AIGFP would each have a threshold amount of $50 million, but 
AIG parent's threshold amount (meaning, the amount that GSI was willing 
to bear, uncollateralized, from AIG parent) was $250 million. However, 
these amounts could vary depending on the terms in the confirmation. 
For example, several transactions under the GSI ISDA calculated 
``exposure'' as a function of the market value and outstanding 
principal balance of the reference obligation combined with a threshold 
that varied by a percentage based on the credit rating of the seller 
(AIGFP). Goldman's contract called for a calculation of ``exposure'' on 
each business day and concurrent collateral calls. According to 
Goldman, its MTM process was more rigorous than other counterparties', 
leading to collateral dispute with AIG.
    \671\ Data provided to the Panel by Goldman Sachs (May 24, 2010); 
see also SIGTARP Report on AIG Counterparties, supra note 246.
---------------------------------------------------------------------------
    Additionally, Goldman informed the Panel that it had 
purchased CDS protection against an AIG failure over the course 
of 2007 and 2008 from ``all the large financial institutions 
around the U.S. and outside the U.S.'' \672\ on AIG in amounts 
sufficient to cover Goldman's exposure to AIG.\673\ According 
to Goldman, these CDS positions were collateralized, with 
collateral exchanged on a daily basis.\674\ (Goldman was so 
well hedged, in fact, that the protection it bought on AIG 
netted it a gain over time, according to Mr. Viniar.) \675\ The 
positions had termination dates ranging from 2008 and 2018, but 
the great majority of these positions terminated in 2012 or 
2013.\676\
---------------------------------------------------------------------------
    \672\ See Goldman Sachs Conference Call, supra note 668, at 7.
    \673\ See Goldman Sachs Conference Call, supra note 668, at 2, 7, 
16-17. Whether these hedges would, ultimately, have been successful in 
perfectly hedging Goldman dollar-for-dollar depends on the triggers--
for a ``plain vanilla'' CDS, likely AIG's bankruptcy or default under 
various agreements--and the protection seller's role in the event of an 
AIG default. For a perfect hedge, the protection seller would have 
stepped into AIG's role, and provided identical protection to that 
provided under the defaulted AIG CDS. Even a less precise hedge, 
however, would have substantially reduced Goldman's exposure, and 
market participants confirmed to Panel staff that Goldman's hedges were 
consistent with market practice.
    \674\ Senate Homeland Security, Permanent Subcommittee on 
Investigations, Testimony of David Viniar, chief financial officer, 
Goldman Sachs, Wall Street and the Financial Crisis: The Role of 
Investment Banks. (Apr. 27, 2010) (online at hsgac.senate.gov/public/
index.cfm?FuseAction=Hearings.Hearing&Hearing_ID=f07ef2bf-914c-494c-
aa66-27129f8e6282). As of November 6, 2008, Goldman held approximately 
$8.2 billion of cash collateral posted with respect to Goldman's ML3 
CDOs (with an additional $1.2 billion claimed but not yet paid). Data 
provided by Goldman to Panel (May 26, 2010).
    \675\ See Goldman Sachs Conference Call, supra note 668, at 7. Mr. 
Viniar noted that the gain was ``not particularly material.''
    \676\ Data provided by Goldman to Panel (May 26, 2010).
---------------------------------------------------------------------------
    Goldman states that it had nothing to lose. Either AIG 
would close out its position at par as set forth in the 
contract, or it would default, and Goldman would keep the 
collateral that had already been posted by AIG and Goldman's 
AIG CDS counterparties.\677\ As Mr. Viniar stated in March 
2009:
---------------------------------------------------------------------------
    \677\ Goldman has provided data to the Panel which, assuming they 
are accurate, back up Goldman's claims that by reason of the collateral 
it held, it was not at credit risk to AIG in November 2008 and that the 
amount to which it was exposed by reason of an AIG failure was exceeded 
by the collateral already held from AIG and the providers of third 
party hedges. Data provided by Goldman to Panel (May 26, 2010).

          In the middle of September, it was clear that AIG 
        would either be supported by the government and meet 
        its obligations by making payments or posting 
        collateral, or it would fail. In the case of the 
        latter, we would have collected on our hedges and 
        retained the collateral posted by AIG. That is why we 
        are able to say that whether it failed or not, AIG 
        would have had no material direct impact on Goldman 
        Sachs.\678\
---------------------------------------------------------------------------
    \678\ Goldman Sachs, Overview of Goldman Sachs' Interaction with 
AIG and Goldman Sachs' Approach to Risk Management (Mar. 20, 2009) 
(online at www2.goldmansachs.com/our-firm/on-the-issues/viewpoint/
archive/aig-summary.html).

    As regards to AIG credit risk, the position that Goldman 
describes is that of the classic ``empty creditor'' \679\ 
(assuming the accuracy of its statements) indifferent between 
bankruptcy and bailout, but hostile to negotiated concessions. 
However, in light of the government's concerns with respect to 
the impact of AIG's failure, which Goldman must have shared, it 
would be slightly disingenuous for Goldman to say that it was 
truly neutral on this point.\680\ The point is, however, that 
Goldman believed that this would not happen. The government had 
signaled in September that AIG was too big to fail, and from 
that it could be inferred that AIG would be supported through 
its current liquidity crisis. On that basis, Goldman could 
refuse to make concessions until the clock ran out.\681\
---------------------------------------------------------------------------
    \679\ The ``Empty Creditor'' theory posits that CDS may create so-
called ``empty creditors'' whose interests are skewed in favor of 
bankruptcy rather than in the continuation of the debtor and who may 
accordingly push the debtor into inefficient bankruptcy or liquidation. 
See Patrick Bolton and Martin Oehmke, Credit Default Swaps and the 
Empty Creditor Problem at 1-2 (Nat'l Bureau of Econ. Research, Working 
Paper No 15999) (May 2010) (online at www.nber.org/papers/w15999.pdf) 
(citing Hu and Black, Debt, Equity, and Hybrid Decoupling: Governance 
and Systemic Risk Implications, European Financial Management, 14, 663-
709 (stating that ``Even a creditor with zero, rather than negative, 
economic ownership may want to push a company into bankruptcy, because 
the bankruptcy filing will trigger a contractual payout on its credit 
default swap position'') and Equity and Debt Decoupling and Empty 
Voting II: Importance and Extensions, University of Pennsylvania Law 
Review, 156(3), 625-739).
    \680\ See Thomson Street Events, GS-Goldman Sachs Conference Call 
to Answer Questions from Journalists and Clarify Certain Misperceptions 
in the Press Regarding Goldman Sachs' Trading Relationship with AIG, at 
7 (Mar. 20, 2009) (Viniar acknowledges disruption of AIG failure on the 
financial markets, conf call page 8, ``quite dramatically''). Goldman 
states it had ``no material credit exposure'' to AIG; it does not argue 
that it would have been unaffected by AIG's failure. Goldman Sachs 
decline in equity value and increase in credit default swap spreads, 
while marked, were not exceptional when compared to other financials, 
such as Morgan Stanley and Credit Suisse. Data accessed through 
Bloomberg Data Service (accessed June 3, 2010).
    \681\ Goldman has also raised the issue of its responsibilities to 
its shareholders which by then included the U.S. government not to make 
a loss. It is quite likely that any voluntary concessions would have 
triggered shareholder suits--on the grounds that the Goldman board's 
actions in agreeing to concessions in contracts for which they were 
theoretically fully hedged and collateralized would have improperly 
reduced the value of the CDSs for Goldman. See Jiong Deng, Building an 
Investor-Friendly Shareholder Derivative System in China, at 351 
(Summer 2005) (online at www.harvardilj.org/attach.php?id=35). Whether 
the extraordinary circumstances under which Goldman would have agreed 
to such concessions would have affected the success of the shareholder 
suit is unknowable.
---------------------------------------------------------------------------
    It is unknowable whether if, instead of sending relatively 
junior people to negotiate, senior government officials could 
have used the government's bully pulpit to obtain a better 
result, either with the counterparties or with the credit 
rating agencies whose downgrades were anticipated. Certainly 
there was a significant time constraint, cited by Mr. Baxter of 
FRBNY.\682\ But in light of concerns that these negotiations 
would themselves endanger AIG's credit rating, and the view 
expressed at the most senior levels of FRBNY that the attempt 
was likely doomed to failure,\683\ it is hard to escape the 
conclusion that FRBNY was just ``going through the motions.''
---------------------------------------------------------------------------
    \682\ Testimony of Thomas C. Baxter, supra note 319.
    \683\ COP Hearing with Secretary Geithner, supra note 86, at 81.
---------------------------------------------------------------------------
    The identities of the CDO CDS counterparties were not 
disclosed until several months after the event.\684\ TARP 
Special Inspector General Neil Barofsky has referred to an 
ongoing inquiry with respect to the manner in which the 
decision to disclose was made, and in its most recent quarterly 
report to Congress, SIGTARP has made reference to ongoing 
investigations related to its audit of FRBNY's decision to pay 
certain AIG counterparties at par.\685\ SIGTARP has indicated 
that if no charges result from its investigation, it intends to 
issue a report detailing its findings.\686\
---------------------------------------------------------------------------
    \684\ SIGTARP Report on AIG Counterparties, supra note 246.
    \685\ SIGTARP Quarterly Report to Congress, supra note 369, at 19.
    \686\ Richard Teitelbaum, Barofsky Says Criminal Charges Possible 
in Alleged AIG Coverup, Bloomberg News (Apr. 28 2010) (online at 
www.bloomberg.com/apps/news?pid=20601208&sid=aVHMZwNcj2B0).
---------------------------------------------------------------------------

6. Additional Assistance and Reorganization of Terms of Original 
        Assistance: March and April 2009

    While the additional restructuring of the government's 
assistance to AIG in March and April 2009 indicates that the 
company continued to be severely destabilized by capital and 
liquidity pressures, these actions also illustrate how the 
structure of the government's assistance had to be adjusted on 
a continuous basis due to changing circumstances. AIG's 
sizeable loss in the fourth quarter of 2008, coupled with the 
likelihood of additional rating downgrades, presented the 
government with another choice: whether to do nothing and face 
the risk of downgrades, bankruptcy, and the loss of a portion 
or the whole of its then outstanding investment, or restructure 
its assistance in order to stabilize AIG over the long term. As 
with the November restructuring, the government's decision-
making remained sharply constrained and influenced by its 
September decision to avert a bankruptcy (and its desire to not 
vacillate during a time of crisis), but was also shaped in part 
by a further consideration of whether there was a cheaper and 
more efficient mechanism to resolve AIG, including some kind of 
arranged and controlled bankruptcy.
    The government's approach has largely remained focused on 
preventing the detrimental effect on market confidence that 
would result if it were to not deliver on its promise to 
provide financial assistance, as well as on preserving the 
value of its investment.\687\ Treasury's commitment to provide 
total equity support to AIG of up to $69.8 billion exposed the 
taxpayers to additional risk, and the March 2009 restructuring 
(which likely benefitted AIG's existing common stockholders), 
deprived taxpayers of compulsory quarterly dividend payments, 
since Treasury exchanged its cumulative preferred stock for 
noncumulative preferred stock. On balance, it appears that the 
government made a calculation that the long-term benefits of 
restructuring its assistance in order to facilitate divestiture 
of its assets, maintain credit ratings, and maximize the 
likelihood of repayment outweighed any short-term monetary 
gains, such as those that would be acquired through the payment 
of dividends. While the government's public statements 
announcing the restructuring measures explicitly reference that 
an orderly restructuring would ``take time and possibly further 
government support, if markets do not stabilize and improve,'' 
\688\ the terms and the amount of government assistance to AIG 
since March and April 2009 remain unchanged.
---------------------------------------------------------------------------
    \687\ Senate Committee on Banking, Housing, and Urban Affairs, 
Written Testimony of Donald Kohn, supra note 245, at 3 (stating that 
``[o]ur judgment has been and continues to be that, in this time of 
severe market and economic stress, the failure of AIG would impose 
unnecessary and burdensome losses on many individuals, households and 
businesses, disrupt financial markets, and greatly increase fear and 
uncertainty about the viability of our financial institutions. Thus, 
such a failure would deepen and extend market disruptions and asset 
price declines, further constrict the flow of credit to households and 
businesses in the United States and in many of our trading partners, 
and materially worsen the recession our economy is enduring'').
    \688\ Treasury and the Federal Reserve Announce Participation in 
Restructuring, supra note 518.
---------------------------------------------------------------------------
    Instead of Treasury committing an additional $29.8 billion 
of TARP funds to AIG in March and April 2009, this also would 
have been another point when FRBNY and Treasury could have 
sought private sector financing, or some type of public-private 
hybrid form of assistance. While it does not appear that such 
efforts were made, it is important to recognize that this was 
another place when FRBNY and Treasury could have acted 
differently.
    Perhaps most significantly, the Panel notes that the 
restructuring measures taken in March and April 2009 illustrate 
how the government, for the first time, began to prioritize an 
orderly restructuring process for AIG, as seen in the explicit 
separation of the major non-core businesses of the future AIG--
AIA and ALICO. Together with the measures taken in September 
and November 2008, these actions provide tangible evidence of 
the government's commitment to the orderly restructuring of AIG 
over time. Given the scope of the government's assistance to 
AIG, the Panel finds that an orderly restructuring process is 
both a critical long-term solution for the company and a 
lynchpin of AIG's ability to repay its substantial government 
assistance.

7. Government's Ongoing Involvement in AIG

    To repay its debt and reduce its degree of financial risk, 
AIG instituted a wind-down of AIGFP and a divestiture process 
to sell business units in September 2008. Since that time, 
AIGFP has been focused on unwinding its riskiest books and 
estimates that the majority of the wind-down will be completed 
by the end of 2010, provided the markets remain stable. In his 
December 2009 testimony before the Panel, Secretary Geithner 
asserted the company's new board and management are ``working 
very hard and effectively'' at strengthening AIG's core 
insurance business while reducing the AIGFP portfolio.\689\ 
According to FRBNY, the entirety of AIG's restructuring is not 
at the government's behest, but is driven by the disposition 
plan in place when FRBNY rescued the company in September 
2008.\690\ This restructuring plan, which focuses on 
consolidating and downsizing AIG to focus on several core 
property & casualty and life insurance business units, has also 
guided the company's plans to repay gradually the government 
assistance through these asset sales and dispositions.
---------------------------------------------------------------------------
    \689\ COP Hearing with Secretary Geithner, supra note 86, at 69.
    \690\ FRBNY conversations with Panel staff (May 4, 2010).
---------------------------------------------------------------------------
    Since the Federal Reserve does not have statutory 
supervisory authority over AIG or its subsidiaries (as it does 
for bank holding companies or state chartered member banks), it 
functions as a creditor, and its rights are governed by the 
credit agreement for the RCF. As Chairman Bernanke has stated, 
``[h]aving lent AIG money to avert the risk of a global 
financial meltdown, we found ourselves in the uncomfortable 
situation of overseeing both the preservation of its value and 
its dismantling, a role quite different from our usual 
activities.'' \691\ As creditor, FRBNY monitors the 
implementation of AIG's restructuring and divestiture plan and 
participates as an observer in the corporate governance of 
AIG.\692\ FRBNY uses its rights as creditor to work with AIG 
management ``to develop and oversee the implementation of the 
company's business strategy, its strategy for restructuring, 
and its new compensation policies, monitors the financial 
condition of AIG, and must approve certain major decisions that 
might reduce its ability to repay its loan.'' \693\ As an 
ongoing condition of the RCF and to support its role as 
creditor, FRBNY established an on-site staff of approximately 
25 people to monitor AIG's use of cash flows and its progress 
in pursuing its restructuring and divestiture plan. This 
internal team was supplemented by over 100 employees from the 
Bank of New York Mellon, investment bankers from Morgan 
Stanley, and outside legal counsel from Davis Polk & Wardwell 
LLP.\694\ FRBNY has indicated that in the months since 
September 2008, the role and function of the on-site monitoring 
team has changed, with separate teams having been established 
to monitor liquidity and the core business units that are 
central to AIG's operations going forward, and with regular 
ongoing communications between the teams.\695\ FRBNY's on-site 
monitoring team works closely with Treasury's AIG team, and 
there are frequent meetings and regular communication between 
Treasury, FRBNY, and senior executives at AIG. While FRBNY's 
on-site team's size is approximately the same now as it was in 
September 2008, FRBNY's recruitment of individuals with 
investment banking and insurance expertise has allowed it to 
reduce the size of its external assistance.\696\
---------------------------------------------------------------------------
    \691\ Written Testimony of Ben Bernanke, supra note 481, at 4.
    \692\ While Federal Reserve banks have boards of directors which, 
by statutory construct, include bank executives and bank shareholders, 
they play a limited role in the Reserve bank's operations and function 
largely in an advisory capacity. The boards of directors of Reserve 
banks serve to make observations on the economy and markets, make 
recommendations on monetary policy, and ratify the Reserve bank's 
budget, internal controls, policies, procedures, and personnel matters. 
Consistent with the Federal Reserve Act, however, the boards do not 
exercise a role in the regulation, supervision, or oversight of banks, 
bank holding companies, or other financial institutions.
    \693\ Senate Committee on Banking, Housing, and Urban Affairs, 
Written Testimony of Donald Kohn, supra note 245, at 6.
    \694\ FRBNY conversations with Panel staff (May 6, 2010).
    \695\ FRBNY conversations with Panel staff (May 6, 2010).
    \696\ FRBNY conversations with Panel staff (May 6, 2010).
---------------------------------------------------------------------------
    The Federal Reserve Board also oversees FRBNY's ongoing 
administration of the credit facilities for AIG authorized 
under section 13(3).\697\ A team of Board staff regularly 
reviews developments affecting AIG with the FRBNY team charged 
with ensuring compliance with the terms of the credit 
agreements, monitoring AIG's liquidity and financial condition, 
and reviewing its restructuring plan. In turn, the Board staff 
team provides regular updates to Board members and senior 
agency staff about significant AIG developments. The Board 
staff also consults regularly with the Treasury team that 
oversees the TARP investments in AIG.
---------------------------------------------------------------------------
    \697\ Testimony of Scott G. Alvarez, supra note 639, at 15-16.
---------------------------------------------------------------------------
    Together with the trustees of the Series C Trust, the 
Federal Reserve, FRBNY and Treasury have worked with AIG to 
recruit a substantially new board of directors and new senior 
management (including a new chief executive officer, a new 
chief risk officer, a new general counsel, and new chief 
administrative officer).\698\
---------------------------------------------------------------------------
    \698\ Testimony of Jim Millstein, supra note 44, at 2. The Series C 
Trustees have elected 11 of the 13 existing board members. The two 
remaining directors were nominated and elected by Treasury, pursuant to 
the terms of its Series E and Series F Preferred share holdings.
---------------------------------------------------------------------------
    The Panel also discusses the Special Master's involvement 
with respect to AIG, his rulings on executive compensation 
regarding AIG and the impact of those rulings on the company's 
competitive position in Section J.1.

8. Differences between the Treatment of AIG and Other Recipients of 
        Exceptional Assistance

    During Secretary Geithner's testimony before the Panel in 
April 2009, he said that where Treasury provides exceptional 
assistance,\699\ ``it will come with conditions to make sure 
there is restructuring, accountability, to make sure these 
firms emerge stronger in the future.'' \700\ As with the 
automotive companies (but unlike Citigroup and Bank of America, 
other recipients of exceptional assistance), some of AIG's 
management has been replaced at the government's behest.\701\ 
The government, and Treasury in particular, also seem to have 
taken on an active role with respect to planning and strategy 
at AIG, but not with respect to Citigroup and Bank of America. 
However, Treasury has not required AIG to submit a forward-
looking viability plan, nor was AIG forced into bankruptcy. 
(This is why AIG's shareholders retain whatever value is left 
in their shares). Additionally, while Citigroup shareholders 
have been diluted, AIG shareholders have seen their positions 
severely diluted (if not nearly wiped out) by the government. 
This is also in contrast to the treatment of automotive company 
shareholders, who were wiped out completely.\702\ While 
Treasury may have the power to dilute the other shareholders, 
it lost the power to eliminate them legally in the absence of 
bankruptcy proceedings. Because there was no bankruptcy, as 
discussed in Section E above, creditors of AIG were protected, 
unlike some creditors of the automotive companies. The parties 
that fared particularly well from the government's intervention 
in AIG include those stakeholders who would have lost 
everything or something on their position, but for the 
government's rescue. The government's actions, therefore, 
ensured that many parties that would have received nothing in a 
bankruptcy were not wiped out.
---------------------------------------------------------------------------
    \699\ Recipients of ``exceptional assistance'' are those companies 
receiving assistance under the SSFI, the TIP, the Asset Guarantee 
Program, the Automotive Industry Financing Program, and any future 
Treasury program designated by the Secretary as providing exceptional 
assistance. Recipients of exceptional assistance currently include AIG, 
Chrysler, Chrysler Financial, GM, and GMAC (since renamed Ally 
Financial).
    \700\ Congressional Oversight Panel, Testimony of Timothy F. 
Geithner, secretary, U.S. Department of the Treasury, COP Hearing with 
Treasury Secretary Timothy F. Geithner, at 40 (Apr. 21, 2009) (online 
at www.cop.senate.gov/documents/transcript-042109-geithner.pdf).
    \701\ The Panel recognizes that Citigroup and Bank of America have 
made significant changes in their management team on their own since 
early 2009.
    \702\ If Treasury were to convert its preferred shares in AIG 
(which looks increasingly possible), the other shareholders would be 
diluted beyond their already substantial dilution.
---------------------------------------------------------------------------
    The perception that AIG received unique treatment is 
deepened by the fact that AIG was the sole recipient of TARP 
funding under Treasury's SSFI, which was later renamed the AIG 
Investment Program (AIGIP). During late 2008 and early 2009--
the same period when AIG received substantial government 
assistance--Bank of America and Citigroup also received 
multiple rounds of government assistance against a backdrop of 
imminent insolvency. In addition to receiving $25 billion in 
funding under the TARP's CPP, Citigroup received $20 billion in 
TARP funds through the Targeted Investment Program (TIP); it 
also benefitted from a loss-sharing agreement on a pool of 
assets that Citigroup identified as some of its riskiest 
assets, and which was initially valued at up to $306 billion, 
under a TARP initiative known as the Asset Guarantee Program 
(AGP). For its part, Bank of America received $15 billion in 
CPP funds (which was supplemented by another $10 billion under 
the same program following the closing of its acquisition of 
Merrill Lynch in January 2009), $20 billion in TARP funds 
through the TIP, as well as a loss-sharing agreement on a pool 
of assets that was initially valued at approximately $118 
billion but was never finalized.\703\ It seems puzzling, 
however, that the SSFI program, which was established in the 
fall of 2008 ``to provide stability and prevent disruptions to 
financial markets from the failure of institutions that are 
critical to the functioning of the nation's financial system,'' 
was not used to assist the other ``systemically significant'' 
institutions that were also placed on life support, including 
Bank of America and Citigroup. This also suggests that the 
government shied away from labeling some of the largest banks 
as ``failing institutions'' even as it was trying to prop them 
up.\704\
---------------------------------------------------------------------------
    \703\ The Panel notes that Bank of America repaid all of its TARP 
assistance and Citigroup repaid its $20 billion in TIP assistance and 
terminated the loss-sharing agreement in December 2009.
    \704\ With respect to the financial health of Citigroup in late 
October and November 2008, Treasury has stated ``[d]ue to the 
deterioration in confidence, there was concern that, without government 
assistance, Citigroup would not be able to obtain sufficient funding in 
the market over the following days,'' and that ``a failure to act to 
reestablish confidence in Citigroup by providing additional liquidity 
and an asset guarantee program would have had a significant adverse 
effect on U.S. and global financial markets.'' Congressional Oversight 
Panel, Responses to Questions for the Record for Assistant Secretary 
Herbert M. Allison, Jr., at 3 (Mar. 4, 2010) (online at cop.senate.gov/
documents/testimony-030410-allison-qfr.pdf).
---------------------------------------------------------------------------
    But while there are some differences in treatment with 
respect to AIG and other recipients of exceptional assistance, 
the Panel also notes that there are some key similarities in 
the government's treatment of AIG and Citigroup.
    As with Citigroup, AIG has undergone substantial corporate 
restructuring and consolidation, but these changes have been 
largely driven by internal corporate decision-making and have 
not occurred at the government's behest. It appears that at 
least some of AIG's asset disposition plan and focus on its 
core operations, including the significant wind-down of AIGFP 
and emphasis on property & casualty and life insurance 
businesses, preexisted the government's assistance to AIG.\705\ 
Citigroup's asset sales and focus on its core operations, 
including worldwide retail banking, investment banking, and 
transaction services for institutional clients, resulted from 
its first quarter 2009 internal restructuring, when it 
reorganized itself into Citicorp and Citi Holdings.
---------------------------------------------------------------------------
    \705\ E-mail from Patricia Mosser, senior vice president, Federal 
Reserve Bank of New York, to Scott Alvarez of Federal Reserve Board of 
Governors, among others (Sept. 13, 2008) (FRBNYAIG00508) (referencing 
that AIG's medium-term plan was to sell approximately ``$40 billion of 
high quality assets, largely life insurance subsidiaries in the US and 
abroad to raise capital/cash needed to fill the hole. Such a sale of 
assets would amount to AIG selling approximately 35 to 40% of the 
company'').
---------------------------------------------------------------------------
    In addition, there appear to be some similarities, at least 
preliminarily, with respect to how the government intends to 
dispose of its TARP investments in Citigroup and AIG. In 
February 2009, Treasury announced that it would convert up to 
$25 billion of its preferred stock holdings in Citigroup into 
common stock, which would provide additional tangible common 
equity for Citigroup. On June 9, 2009, Treasury agreed to terms 
to exchange its CPP preferred stock for 7.7 billion shares of 
common stock priced at $3.25 per share (for a total value of 
$25 billion) and also agreed to convert the form of its TIP and 
AGP holdings.\706\ In addition, on July 30, Treasury exchanged 
its $20 billion of preferred stock in Citigroup under the TIP 
and its $5 billion investment in the AGP from preferred shares 
to trust preferred securities (TruPS). The conversion allowed 
Citigroup to strengthen its capital base by improving its 
tangible common equity ratio--a key measure of bank solvency--
to 60 percent. Pursuant to a pre-arranged written trading plan, 
Treasury intends to fully dispose of its 7.7 billion common 
shares of Citigroup over the course of 2010, subject to market 
conditions.
---------------------------------------------------------------------------
    \706\ On July 23, 2009, Treasury, along with both public and 
private Citigroup debt holders, participated in a $58 billion exchange, 
which resulted in the conversion of Treasury's $25 billion CPP 
investment from preferred shares to interim securities to be converted 
to common shares upon shareholder approval of a new common stock 
issuance. The $25 billion exchange substantially diluted the equity 
holdings of existing Citigroup shareholders and was subject to 
shareholder approval on September 2, 2009.
---------------------------------------------------------------------------
    In a similar fashion, during a recent interview, AIG Chief 
Executive Officer Robert Benmosche pointed to Treasury's 
conversion of preferred to common shares with respect to its 
Citigroup holdings as one possible government exit strategy 
from AIG.\707\ Treasury will likely consider such a conversion 
as it plans and executes its AIG exit strategy.
---------------------------------------------------------------------------
    \707\ Jamie McGee, AIG Less Reliant on U.S., on Path to Repaying 
Bailout, CEO Says, Bloomberg News (Apr. 2, 2010) (online at 
www.bloomberg.com/apps/news?pid=20601109&sid=az0bouW0eHus).
---------------------------------------------------------------------------

     G. Assessment of the Roles of Treasury and the Federal Reserve

    Although Treasury had no regulatory authority to intervene, 
no failed financial institution resolution authority that might 
have provided an alternative to bankruptcy, and no fiscal 
capacity to finance a rescue of AIG in September 2008, Treasury 
clearly was closely involved in the discussions about the 
appropriate policy response to the unfolding AIG crisis. 
Notwithstanding their lack of formal authority to intervene, 
the Secretary and the President could be expected to be held 
accountable for the consequences of an AIG failure on the 
American economy. Likewise, the Federal Reserve Board Chairman 
and FRBNY President clearly would not have wanted to act 
without coordinating closely with Treasury and the White House. 
But in the absence of formal Treasury authority to act, the 
Federal Reserve Board and FRBNY, were necessarily the lead 
organizations in responding to the crisis.
    FRBNY is owned by its member banks, not the federal 
government. It routinely acts as the agent of the Federal 
Reserve Board and System in financial market transactions. 
Although its purchases of securities are usually financed by 
the creation of money, not tax collections or borrowing, such 
money creation is undertaken by the government exercising its 
authority as sovereign. In that respect FRBNY was using the 
``taxpayer resources'' of the federal government when it 
extended an $85 billion line of credit to AIG in September 
2008. Although Treasury officials from the Bush Administration 
were unwilling to speak to the Panel in connection with this 
report, discussions with FRBNY officials confirm that policy 
officials negotiating with AIG at the time recognized that U.S. 
taxpayers and not the privately owned FRBNY should receive 
compensation for the value of the financial assistance being 
provided to AIG. Consequently, FRBNY required that convertible 
preferred stock with a value of 77.9 percent of the common 
stock of AIG be issued to ``the United States Treasury,'' a 
reference to the general fund of the U.S. government, rather 
than Treasury.\708\ A trust agreement was created to manage 
Treasury's equity holdings and address the U.S. government's 
corporate governance role created by this equity position.\709\ 
This arrangement reflects both the absence of authority (at 
that time) for the Secretary or Treasury to hold the equity, 
and the inappropriateness of having the central bank of the 
United States owning and managing the majority of the equity in 
a very large financial institution.
---------------------------------------------------------------------------
    \708\ The Federal Reserve banks are separate legal entities which 
operate under the general supervision of the Board of Governors of the 
Federal Reserve System. Federal Reserve Act Sec. 4, 12 U.S.C. 341 
(2006). All banks in the United States are required to be stockholders 
of the Federal Reserve bank in the region in which the banks are 
located. 12 U.S.C. 282. The Board of Governors is authorized to 
exercise general supervision over the Federal Reserve banks. Federal 
Reserve Act Sec. 11 , 12 U.S.C. 248(i) (2006). In addition, the Board 
is empowered to delegate functions other than those relating to 
establishing monetary and credit policies to the Federal Reserve banks. 
Id. at Sec. 248(k).
    \709\ Panel staff interview with FRBNY General Counsel Thomas 
Baxter (May 7, 2010). For further discussion of the considerations 
involved in determining whether a trust arrangement would be advisable, 
see the Panel's September report. September Oversight Report, supra 
note 389, at 88-91.
---------------------------------------------------------------------------
    Even with the enactment of EESA and Treasury's resulting 
ability to use TARP funds, Treasury continued to accede to a 
strong role for the Federal Reserve. The actions of FRBNY in 
using SPVs (ML2 and ML3) to buy AIG's illiquid RMBS and to 
unwind derivative positions, when Treasury could have used TARP 
resources to accomplish the same objectives, seem particularly 
noteworthy. Part of the reason for this arrangement may have 
been that by this time FRBNY was in a far superior position to 
act, given its extensive ongoing involvement with resolving the 
AIG crisis from the outset, whereas Treasury was only beginning 
to get staff in place in early November. Treasury may also have 
been agreeable to FRBNY's lead role in light of the fear at 
that time that a $700 billion TARP could prove inadequate for 
the multitude of problems that might have needed to be 
addressed.
    At the same time, the heavy reliance upon the Federal 
Reserve to take actions of an executive leadership and fiscal 
character raises questions as to what was lost in terms of 
accountability and transparency. The Federal Reserve's mission 
is to conduct monetary policy, and it is not well suited to 
incurring multi-billion dollar obligations of taxpayer 
resources. In fairness, the leadership of the Federal Reserve 
may rightly note that its actions in the case of the rescue of 
AIG were undertaken to fill a void in the government's ability 
to act, and it did not seek and would have gladly declined the 
role it played had the executive branch been able to play the 
role that circumstances demanded.
    As discussed above, the Federal Reserve supported AIG 
through collateralized loans whereas Treasury made investments 
and loans for which it received preferred stock (convertible to 
common in most cases). This means that here, as with the 
``ring-fenced'' assets guarantee to Citigroup and other TARP 
assistance transactions in which Treasury and the Federal 
Reserve have acted jointly, the Federal Reserve is in the 
senior or more protected position in the event of losses on the 
government's loans and investments in assisted institutions. 
Presumably use of this structure results from the combination 
of the Section 13(3) limitation on the Federal Reserve's form 
of assistance, the more flexible options available to Treasury 
using the TARP, and--at least in this instance--the fact that 
the Federal Reserve acted first. To avoid being in a lower 
repayment position, Treasury would have needed to extend 
secured loans to AIG--despite the adverse impact this would 
have had on AIG's balance sheet and its classifications by the 
ratings agencies. In that case, Treasury's exposure to losses 
in the event of default would have been a function of the 
quality of its collateral and not the higher priority of the 
Federal Reserve's position. In this respect, the fact that 
Treasury actually took a lower relative priority of repayment 
position means that Treasury's use of TARP resources has 
effectively protected the Federal Reserve. It also raises the 
prospect that Treasury may be more risk averse in its 
management direction and oversight of AIG than the Federal 
Reserve may be inclined to be. The Panel notes that Treasury 
and Federal Reserve staff acknowledge the potential differences 
in incentives here but insist that they in fact act in close 
coordination and that in practice their interests are 
completely aligned.
    There is also the interesting question about what would 
happen if AIG fails despite the assistance of both the Federal 
Reserve and Treasury or had failed during the period when only 
the Federal Reserve had provided assistance to that firm. How 
would large losses on the RCF, the SBF and the ML2 and ML3 have 
affected the Federal Reserve System's consolidated balance 
sheet? As the Congressional Budget Office (CBO) has recently 
noted, the Federal Reserve has generated sharply increased 
remittances to Treasury since the onset of the financial crisis 
as its expanded balance sheet and lending programs are 
producing a surge in earnings.\710\ Nevertheless, the 
extraordinary size of the assistance provided to AIG means that 
there could have been losses large enough to have had wiped out 
the Federal Reserve's earnings for some period. The Federal 
Reserve has never run a loss and its capital surplus at the end 
of 2009 stood at over $50 billion. But its exposure to AIG and 
other financial rescue programs are unprecedented and 
policymakers may want to give more consideration as to how any 
possible losses should be managed in the current episode and 
any future financial crisis.
---------------------------------------------------------------------------
    \710\ Congressional Budget Office, The Budgetary Impact and Subsidy 
Costs of the Federal Reserve's Actions During the Financial Crisis, at 
4-5 (May 2010) (online at cbo.gov/ftpdocs/115xx/doc11524/05-24-
FederalReserve.pdf) (hereinafter ``CBO Study'').
---------------------------------------------------------------------------
    The actions of the Federal Reserve in the AIG rescue also 
serve to illustrate the importance of established procedures 
for executing financial transactions in the federal government. 
Such actions are made transparent through a formal budget 
process involving both the President and the Congress, which 
must explicitly authorize beforehand--and, in many cases, 
separately appropriate funds to cover--the fiscal transactions 
undertaken in the executive branch. Use of the Federal Reserve 
to undertake key transactions without such prior approval by 
the President and the Congress, as occurred in the case of AIG, 
while convenient to both the Federal Reserve and Treasury at 
the time, may have sacrificed longer-term accountability and 
transparency. Treasury's use of the TARP has been and continues 
to be held up to close scrutiny and subject to multiple 
oversight mechanisms, of which the Panel's reports and hearings 
are but one example. While the Federal Reserve has provided a 
large amount of reporting and information concerning its 
actions during the crisis, comparable oversight is not mandated 
by statute in the case of the actions of the Federal 
Reserve.\711\
---------------------------------------------------------------------------
    \711\ On May 20, 2009, subsequent to the major events discussed in 
this report, the Helping Families Save Their Homes Act was enacted. 
Among other provisions, this Act provides expanded authority to the 
Government Accountability Office to audit the actions taken by the 
Federal Reserve under Section 13(3) of the Federal Reserve Act during 
the financial crisis. See Helping Families Save Their Homes Act of 
2009, Pub. L. No. 111-22, Sec. 801(e).
---------------------------------------------------------------------------

             H. Current Government Holdings and Their Value

    AIG's outlook remains uncertain. While the potential for 
the Treasury to realize a positive return on its significant 
assistance to AIG has improved over the past 12 months, it 
still appears more likely than not that some loss is 
inevitable. The long-term horizon for a full government exit, 
with attendant equity market and company operating risks, 
further clouds this outlook. The size of any loss is unknowable 
at present and is, of course, dependent on a host of external 
factors. It is also dependent on the various inputs used to 
calculate the government's investment in the firm, such as the 
value of the Series C equity stake, forgone interest and 
dividend payments, and the ML2 and ML3 vehicles. Both AIG and 
Treasury, however, have generally expressed varying degrees of 
optimism on repayment prospects. AIG expects to fully repay its 
obligations to the government, while Treasury is generally 
hopeful that the government can ultimately recoup a significant 
portion of its investment.\712\ In any case, both parties share 
an interest in bringing an end to the government's involvement 
with AIG as soon as possible.
---------------------------------------------------------------------------
    \712\ Congressional Oversight Panel, Testimony of Jim Millstein, 
chief restructuring officer, U.S. Department of the Treasury, 
Transcript: COP Hearing on TARP and Other Assistance to AIG (May 26, 
2010) (publication forthcoming) (``[I]t seems very likely that the $83 
billion dollars of outstanding Fed support will be paid in full. 
Similarly, at current market prices, the common stock that the Series C 
represents has value. The Treasury Department has $49 billion dollars 
outstanding in Series E and F Preferred. And as I said in my testimony, 
the recovery on that will depend on the performance of the remaining 
businesses and how those businesses are valued in the market at the 
time''); Congressional Oversight Panel, Testimony of Robert Benmosche, 
president and chief executive officer, American International Group, 
Inc., Transcript: COP Hearing on TARP and Other Assistance to AIG (May 
26, 2010) (publication forthcoming) (``I believe that we will pay back 
all that we owe the U.S. Government. And I believe at the end of the 
day, the U.S. Government will make an appropriate profit'').
---------------------------------------------------------------------------
    While the Panel recognizes the danger in a prolonged 
investment strategy, political expediency should not trump the 
opportunity for taxpayers to realize as much value as possible 
from their investment.\713\ Thus, the Panel cautions against a 
rapid exit in the absence of clearly defined parameters for 
achieving the maximum risk-adjusted return to the taxpayer. 
Nonetheless, given the significant equity market and company 
execution risks involved in a long-term, back-end-loaded exit 
strategy, the Panel believes that the government's exposure to 
AIG should be minimized (and shifted to private shareholders) 
where possible via accelerated sales of a small minority of the 
government's holdings, provided this can be done with limited 
harm to the share price. In this sense, the interests of AIG's 
government and private shareholders are aligned, as the 
taxpayer is best served by enhancing value before a broader 
exit strategy via the public markets can be executed.
---------------------------------------------------------------------------
    \713\ Broader costs to the economy and the competitive landscape 
stemming from the protracted government ownership of a large for-profit 
company, while outside the scope of this report, should also be 
addressed in the government's risk/reward calculus, whenever possible.
---------------------------------------------------------------------------
    This section and Section I below outline the value of the 
government's AIG holdings and potential scenarios for recovery. 
There is a debate in the marketplace about AIG's valuation, and 
thus the potential for taxpayers to see a return on their 
investment. The Panel's analysis outlines various valuation and 
exit scenarios, and their consequent impact on the recovery 
value of the government's investments. A rigorous valuation 
analysis of AIG is beyond the scope of the Panel's mandate, so 
this analysis focuses on the key factors informing the debate 
on AIG's valuation and the potential for the government to 
monetize its investment under various scenarios.

1. Market's View of AIG's Equity

    Trading at $34.07 per share, the equity market currently 
values AIG at $22.8 billion.\714\ While down considerably from 
the firm's peak split-adjusted share price of $1,456, the stock 
is trading above the lows witnessed in late 2008 and early 
2009.\715\ AIG currently trades at almost five times its lowest 
closing price of $7 on March 9, 2009.\716\ For the year-to-date 
period, the stock price is up approximately 14 percent.\717\ 
Not surprisingly, this rebound over the prior 15 months or so 
has coincided with increased optimism concerning the potential 
for the government to recoup a significant portion of its 
investment. In the meantime, the share price remains volatile, 
befitting a stock with a limited public market floatation and 
elevated interest among short sellers.\718\ Figure 25 
illustrates the precipitous decline in AIG's stock price 
through early 2009, followed by its more recent improvement.
---------------------------------------------------------------------------
    \714\ AIG's market capitalization is based on a total of 668 
million common shares outstanding, which includes both the 135 million 
existing common shares and the government's Series C stock held in 
trust. These shares have not yet been converted into common stock, but 
conversion at some point is almost certain. Most analysts therefore 
include these shares in calculating AIG's equity market capitalization. 
AIG's closing stock price was $34.07 as of June 7, 2010. Bloomberg 
(accessed June 7, 2010).
    \715\ Adjusted for 1 for 20 reverse stock split.
    \716\ Bloomberg (accessed June 7, 2010).
    \717\ Panel staff calculation from Bloomberg data (accessed June 7, 
2010).
    \718\ The government's 79.8 percent stake of the diluted shares 
outstanding do not trade in the public market. According to Bloomberg, 
the float is 117.25 million shares (accessed June 7, 2010).

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


    According to market participants, many institutional 
investors believe that there is too much uncertainty to take a 
position on the outlook for AIG shares. The firm's limited 
public float and government ownership are additional 
complicating factors.\720\ For those who are taking a position, 
the key debate focuses on the capacity for shareholders to 
realize any residual value should AIG succeed in repaying the 
government.\721\
---------------------------------------------------------------------------
    \720\ Few actively-managed investment funds own sizable long 
positions in AIG shares. The top five shareholders, outside of the U.S. 
government are: Fairholme Capital Management, which holds a long 
investment on approximately 6 percent of AIG shares; Starr 
International, Hank Greenberg's company, which owns 2 percent; and two 
index funds, Vanguard Group Inc. and State Street Corp., which own 1.5 
percent in the aggregate. Including the U.S. government's holdings, 
these six holders account for almost 90 percent ownership of 
outstanding AIG shares. Fairholme Capital Management, LLC, Schedule 13G 
Statement of Acquisition of Beneficial Ownership by Individuals (Apr. 
12, 2010) (online at www.sec.gov/Archives/edgar/data/5272/ 
000091957410002876/d1087362_13g.htm); Fairholme Capital Management, 
LLC, Form 13F for Quarterly Period Ending March 31, 2010 (May 14, 2010) 
(online at www.sec.gov/Archives/edgar/data/1056831/ 000105683110000003/
submisson.txt); Starr International Co., Inc., Form 4 Statement of 
Changes in Beneficial Ownership of Securities (Apr. 28, 2010) (online 
at www.sec.gov/Archives/edgar/data/5272/000114036110017797/ xslF345X03/
doc1.xml); Vanguard Group Inc., Form 13F for Quarterly Period Ending 
March 31, 2010 (May 6, 2010) (online at www.sec.gov/Archives/edgar/
data/102909/ 000093247110002093/march2010vgi.txt); State Street Corp., 
Form 13F for Quarterly Period Ending March 31, 2010 (May 17, 2010) 
(online at www.sec.gov/Archives/edgar/data/93751/ 000119312510121662/
d13fhr.txt); Data accessed through Bloomberg Data Service.
    \721\ There are few recent publicly available valuation analyses of 
AIG. Citations are limited to publicly available analyst reports and do 
not include Panel staff conversations with a broader universe of market 
participants, including sell-side and buy-side analysts. For a 
published, relatively bullish analysis of this type, see, e.g., UBS 
Investment Research, Potential Pluses & Minuses = Neutral (Apr. 28, 
2010) (hereinafter ``UBS Analysis''). For a published, relatively 
bearish analysis of this type, see, e.g., Keefe, Bruyette & Woods, An 
Update on AIG (Apr. 27, 2010) (hereinafter ``Keefe, Bruyette & Woods 
Analysis'').
---------------------------------------------------------------------------
    In this context, some analysts have suggested that the 
government may choose to grant AIG concessions in order to 
mitigate potential losses on its investment. Although AIG 
claims that it does not need concessions to repay the 
government, this is not universally believed and in fact has 
not been the case to date. For example, the government has both 
formally (in agreeing to less onerous financing terms on three 
separate occasions) \722\ and informally (by forgoing dividend 
payments on preferred shares) sought to mitigate the financial 
strain on AIG.
---------------------------------------------------------------------------
    \722\ The government restructured AIG's debt on three separate 
occasions: 1) November 10, 2008; 2) March 2, 2009; and 3) April 17, 
2009. Generally these restructurings were conducted in order to 
mitigate the company's debt burden and prevent additional credit 
downgrades from the ratings agencies. For a detailed discussion of 
these debt restructurings, see Section D.2-5, supra.
---------------------------------------------------------------------------
    While one could argue that such moves amounted to 
``backdoor concessions,'' AIG's fragile financial position 
works against a hard-line stance by the company's principal 
shareholder. The government's decision to forgo its right to 
non-cumulative dividends on its preferred equity stake equates 
to a nominal forfeiture of just under $5 billion annually.\723\ 
Jim Millstein, chief restructuring officer at Treasury, 
asserted at the Panel's May 26, 2010 hearing that AIG's 
earnings are currently ``insufficient to support a preferred 
dividend.'' \724\ In any case, given that the government owns 
nearly 80 percent of the diluted shares outstanding (assuming 
conversion of the Series C)--or over 90 percent if the E and F 
preferred shares are exchanged for common stock--capital 
retained by AIG to stabilize its business should ultimately 
accrue to its largest shareholder.
---------------------------------------------------------------------------
    \723\ Treasury is entitled to non-cumulative cash dividends at a 
rate of 10 percent per annum on its $49.1 billion in Series E and F 
preferred shares.
    \724\ Testimony of Jim Millstein, supra note 44.
---------------------------------------------------------------------------
    Although the prospect of additional concessions has been 
openly debated by market participants, the Panel sees little 
evidence that the Administration, Congress, or the public would 
or should support such a strategy in the absence of compelling 
and clear-cut evidence that it was in the best interest of the 
taxpayer. Treasury officials have strongly asserted that 
additional concessions are unnecessary and not in the 
offing.\725\
---------------------------------------------------------------------------
    \725\ Testimony of Jim Millstein, supra note 44. Mr. Millstein 
stated that the Panel ``can be certain'' that the government will not 
grant AIG any concessions, such as forgiving its debt, when the 
government exits its position in AIG. Panel staff briefing with Jim 
Millstein, chief restructuring officer, U.S. Department of the Treasury 
(May 17, 2010).
---------------------------------------------------------------------------
    Bullish investors take the view that AIG, provided it has 
the time to maximize the value of its core operations, can 
repay the government and have sufficient value to build a long-
term franchise. These investors see the valuations offered for 
AIA and ALICO (albeit, in the case of AIA, ultimately 
withdrawn) as supportive of their outlook. They also believe 
that rising industry-wide valuations in the context of an 
improving economy will continue to support their investment 
strategy. A more measured pace to forthcoming asset sales--as 
opposed to a fire-sale approach--increases the value of the 
call option on AIG shares, according to one market 
participant.\726\ This stance is to some extent backstopped by 
the belief among some market participants that the government 
will either forgive or restructure a portion of AIG's debt, to 
help facilitate its independence from government support.
---------------------------------------------------------------------------
    \726\ Panel staff conversations with market participants.
---------------------------------------------------------------------------
    Bearish investors, on the other hand, believe that the math 
simply does not work. They assert that the government is 
unlikely to offer concessions with respect to the company's 
outstanding debt and that, even if AIG succeeds in paying off 
the government, it does not have sufficient franchise value to 
support the current stock price. This view is reinforced by a 
more skeptical take on the underlying strength of AIG's 
operations, with most critical investors citing potential 
problems arising from legacy mismanagement, such as low reserve 
ratios and the potential for the unraveling of intercompany 
linkages, impacting the holding company's debt financing needs. 
Accordingly, many bearish investors believe that AIG has a 
negligible or negative net worth, a view that AIG contests (see 
footnote below for AIG rebuttal to claims of one bearish 
analyst).\727\ The current 12-month price target consensus 
among analysts, including those with a relatively positive 
view, is $23, well below the stock's recent trading range of 
$30 to $45 per share.\728\
---------------------------------------------------------------------------
    \727\ See Keefe, Bruyette & Woods Analysis, supra note 721; 
Congressional Oversight Panel, Testimony of Clifford Gallant, managing 
director of property and casualty insurance research, Keefe, Bruyette & 
Woods, COP Hearing on TARP and Other Assistance to AIG (May 26, 2010). 
In conversations with Panel staff on June 5, 2010, Brian Schreiber, 
AIG's senior vice president of strategic planning, disputed certain 
aspects of Mr. Gallant's April 27, 2010 report (and subsequent 
testimony). Among the items highlighted, AIG asserts that the report 
(1) understates the company's pro forma book value by excluding the 
value of the E/F preferred shares (on a converted basis); (2) 
overstates the company's leverage and debt load by including Treasury's 
E/F preferred shares in this category; (3) excludes the earnings of 
several AIG subsidiaries, including the Japan-based Star and Edison 
life insurance companies; and (4) calculates valuation based on 
assigning below-market multiples to Q4 2009 earnings streams, which AIG 
claims may not accurately represent the earnings power of the firm.
    \728\ Bloomberg (accessed June 7, 2010). Trading range covers 
period of April 1, 2010 to June 7, 2010.
---------------------------------------------------------------------------

2. Residual Value of AIG: The Parameters of Debate

    The key parameters of the debate regarding AIG's value 
reflect estimates regarding its residual value. As outlined in 
Figure 26 below, the company owes the government $100.8 
billion: \729\ $26.1 billion for the RCF,\730\ $25.6 billion 
for FRBNY's interest in the AIA and ALICO SPVs, and $49.1 
billion for the TARP preferred stock (which conceivably could 
be removed from the liabilities column if exchanged for common 
equity). AIG also has $43.9 billion of private debt 
outstanding. The company's total obligations are thus $144.7 
billion.\731\ AIG's announced asset sales are expected to yield 
about $55 billion in proceeds, reducing the company's 
obligations to the government to about $47 billion and its 
total obligations to roughly $90 billion.\732\ Analysts 
estimate that Chartis, AIG's domestic property & casualty 
insurance group, and SunAmerica, its domestic life insurance 
group, together would command a valuation in the range of $45 
billion-$60 billion, which would leave a gap of approximately 
$35 billion-$40 billion to reach par.\733\ Thus, the value of 
AIG's core franchise, plus the remaining assets slated for 
sale, and AIG's stake in ML2 and ML3 must exceed the balance 
owed to the government and private bondholders to suggest any 
residual value to the company's equity. This is shown in Figure 
26 below, which represents AIG's obligations less estimated 
asset sale proceeds. (This analysis excludes the Trust's Series 
C equity stake, which is currently valued at $18.2 billion. As 
these shares did not represent a direct outlay by the 
government, the value of this investment represents something 
of a wild card in calculating potential returns to the 
government.)
---------------------------------------------------------------------------
    \729\ This total reflects only the government's investment in AIG 
itself, and does not include FRBNY's investments in the Maiden Lane 
entities.
    \730\ Federal Reserve H.4.1 Statistical Release, supra note 342 
(accessed June 4, 2010).
    \731\ American International Group, Inc., Form 10-Q for the 
Quarterly Period Ended March 31, 2010, at 5, 82 (May 7, 2010) (online 
at www.sec.gov/Archives/edgar/data/5272/000104746910004918/ 
a2198531z10-q.htm) (hereinafter ``AIG Form 10-Q for the First Quarter 
2010'').
    \732\ AIG's President and CEO Robert Benmosche indicated that AIG 
intends to use the sale proceeds to repay FRBNY. Testimony of Robert 
Benmosche, supra note 28. The Panel assumes that AIG will use the sale 
proceeds to completely repay FRBNY for both its preferred interest in 
AIA and ALICO and the Revolving Credit Facility.
    \733\ See, e.g., UBS Analysis, supra note 721, at 3; Keefe, 
Bruyette & Woods Analysis, supra note 721, at 2.

         FIGURE 26: CALCULATION OF AIG RESIDUAL FRANCHISE VALUE
                          [Dollars in billions]
------------------------------------------------------------------------------------------------------------------------------------------------
                      AIG Obligations
FRBNY:
    FRBNY Revolving Credit Facility........................        $26.1
    Preferred Interest in AIA and ALICO....................         25.6
                                                            ------------
    Total..................................................         51.7
Treasury:*
    TARP Series E Preferred................................         41.6
    TARP Series F Preferred................................          7.5
                                                            ------------
    Total..................................................         49.1
Total Obligations to Government............................        100.8
Other Debt:
    AIG Private Debt \734\.................................         43.9
                                                            ------------
Total Obligations to Government & Private Sector...........        144.7
                   Assets Slated for Sale
    AIA....................................................         32.5
    ALICO..................................................         16.2
    Other Completed and Pending Asset Sales................          6.1
                                                            ------------
Total Value of Assets Slated for Sale......................         54.8
Total Obligations of AIG...................................        144.7
Total Value of Assets Slated for Sale......................        -54.8
                                                            ------------
Residual Franchise Value* (amount all other assets must be         89.9
 worth for AIG to have positive net worth).................
------------------------------------------------------------------------
*Note: TARP Series E/F Preferred could potentially be exchanged for
  equity, reducing AIG's obligations and producing a lower Residual
  Franchise Value.
\734\ See Figure 32. Analyst estimates of AIG's private debt vary
  widely. Some analysts do not include the ``match funded'' debts of
  AIG's Matched Investment Program (MIP) or fully-collateralized debt
  within AIGFP, while other analysts include one or both of these
  instruments, in addition to certain debt within subsidiaries,
  including all or a portion of the debts of AIGFP that are guaranteed
  by the parent company. COP analysis includes the ``Debt Issued by
  AIG'' from AIG's financial statements, which includes the MIP and
  AIGFP match funded debts, but not the AIGFP debts guaranteed by AIG.
  This yields a figure of $43.9 billion for private debt, which is
  approximately in the middle of the range of recent analyst estimates.

    Whether the company's remaining assets are worth more than 
$90 billion is an open question, although the role of the 
government in this process, and how it might seek to recoup its 
investment, which is discussed below, helps to inform this 
analysis.\735\ The primary variables in calculating AIG's 
residual value are outlined below in Figure 27, which provides 
a baseline overview of three potential valuation scenarios for 
key AIG components. These scenarios--base, bull, and bear--
reflect inputs with respect to the value of AIG's core and non-
core operations and investments, conditions in the insurance 
industry, the health of the capital markets, legacy AIGFP asset 
valuations, and the company's potential return from its equity 
contribution to ML3. As the differing views in the market 
underscore and the scenarios below illustrate, there is 
significant room for debate on the value of AIG's core and non-
core assets, and the company's corresponding ability to repay 
the government. It is likely that there are also fundamental 
differences in assumptions among investors, AIG, and the 
government about the company's core earnings potential 
(reflecting differences between current versus ``expected'' 
earnings assumptions) and the application of valuation 
multiples, since current industry multiples (including AIG's 
absolute and relative valuation) are meaningfully below 
historical averages.
---------------------------------------------------------------------------
    \735\ However, the government will not likely play a role in 
collecting taxes from AIG for an extended period, given that as of 
March 31, 2010, AIG reported a net deferred tax asset of $8.2 billion, 
which can be used as an offset of future income tax expense and 
represents an amount deemed more likely than not to be realized. AIG's 
net deferred tax asset valuation incorporates the effect of deferred 
tax liabilities, the carryforward periods for any net operating loss 
carryforwards (of which AIG had $35.2 billion as of December 31, 2009 
and which carryforward 20 years from the date incurred), and certain 
transactions expected to be completed in future periods. American 
International Group, Inc., Form 10-Q for the Quarterly Period Ended 
March 31, 2010, at 80-81 (May 7, 2010) (online at www.sec.gov/Archives/
edgar/data/ 5272/000104746910004918/a2198531z10-q.htm). AIG Form 10-K 
for FY09, supra note 50.
---------------------------------------------------------------------------
    The ``Total vs. Residual Value'' line in Figure 27 below 
compares the total value of AIG's core and non-core businesses 
to the Residual Franchise Value from Figure 26 above. Excluding 
the $49 billion from the Series E/F preferred, which may be 
exchanged for equity in the future, yields positive values in 
all three scenarios, versus a negative base scenario if the 
Treasury's preferreds are included in AIG's obligations.

 FIGURE 27: BULL/BEAR/BASE SCENARIO FOR AIG VALUATION VS. RESIDUAL VALUE
                                  \736\
                          [Dollars in billions]
------------------------------------------------------------------------
                                            Base       Bull       Bear
                 Assets                   Scenario   Scenario   Scenario
------------------------------------------------------------------------
AIG Core Operations (Chartis/                  $49        $61        $36
 SunAmerica)...........................
Non-Core Assets (ILFC, AGF, ML3, etc.)*         24         30         18
                                        --------------------------------
    Total Value........................        $72        $91        $54
========================================================================
Total vs. Residual Value...............       (18)        (0)       (36)
Total vs. Residual Value (excl. Series          31         49        13
 E/F)..................................
------------------------------------------------------------------------
* Note: Excludes AIA and ALICO
\736\ Inputs for base valuations reflect a compilation of sell-side and
  buy-side analysts' estimates. Base values for AIG Core Operations and
  Non-Core Potential Sales are the average of estimates provided by UBS,
  KBW, and two buy-side investors. UBS Analysis, supra note 721, at 3;
  Keefe, Bruyette & Woods Analysis, supra note 721, at 10. Bull and Bear
  scenarios illustrate base case scenarios by 25 percent in each
  direction.

    This analysis yields a range of values from $(21) billion 
to $10 billion versus residual value. The exclusion of the 
preferred obligations produces positive values in the three 
scenarios, ranging from $13 billion to $49 billion.

3. Administration and CBO Subsidy Estimates

    Market estimates of the residual value of AIG generally 
imply a more favorable recovery rate in comparison with the 
subsidy estimates published by the CBO and OMB. The CBO's 
current estimate of the subsidy cost for the AIG portion of the 
TARP is $36 billion.\737\ The OMB's most recent estimate is $50 
billion.\738\ Treasury published a TARP financial update on May 
21, 2010 showing that the Administration now estimates that 
TARP will lose $45.2 billion overall on its TARP investments, 
including its numerous non-AIG investments.\739\ CBO, OMB and 
Treasury all assume that the full $69.8 billion in TARP funding 
that has been committed to AIG will fully be utilized, although 
only $49.1 billion has actually been disbursed to date. The 
Federal Reserve is not included in the federal budget, but CBO 
recently estimated a subsidy cost of $2 billion for the Federal 
Reserve's RCF for AIG at the time the loan was extended 
(September 16, 2008). While CBO did not produce a current 
subsidy estimate, the fact that they now estimate that the RCF 
will produce $12 billion in interest income with minimal losses 
and that ML2 and ML3 investments will generate $4 billion in 
income implies that the government will realize a net gain from 
the Federal Reserve's financial transactions with AIG.\740\ 
Consequently, it is possible that the Fed will make a profit on 
its support of AIG while Treasury endures a loss.
---------------------------------------------------------------------------
    \737\ Congressional Budget Office, Report on the Troubled Asset 
Relief Program--March 2010, at 3 (Mar. 2010) (online at www.cbo.gov/
ftpdocs/112xx/doc11227/03-17-TARP.pdf).
    \738\ Office of Management and Budget, Budget of the U.S. 
Government, Fiscal Year 2011, Analytical Perspective, Chapter 4, at 39-
40 (online at www.whitehouse.gov/omb/budget/fy2011/assets/budget.pdf) 
(accessed June 9, 2010).
    \739\ U.S. Department of the Treasury, Summary Tables of Troubled 
Asset Relief Program (TARP) Investments as of March 31, 2010, at 1 (May 
21, 2010) (online at www.financialstability.gov/docs/
TARP%20Cost%20Estimates%20-%20March%2031%202010.pdf). See also U.S. 
Department of the Treasury, Projected TARP Costs Reduced by $11.4 
Billion (May 21, 2010) (online at www.financialstability.gov/latest/
pr_05212010b.html).
    \740\ CBO Study, supra note 710, at 13-14.
---------------------------------------------------------------------------
    The TARP subsidy calculations of both agencies make use of 
market data for traded financial instruments of AIG, such as 
subordinated debt and preferred stock, to calculate market 
expectations and implied loss rates on the TARP investment. 
CBO's methodology involves analyzing preferred stock price data 
for AIG and the risk premium that appears to be reflected in 
that data. The risk premium is further analyzed to estimate an 
implied loss rate probability embedded in that premium. The 
resulting subsidy rate of 52 percent, which reflects potential 
losses as well as other factors, is then applied to the total 
funding available ($69.8 billion) to produce the subsidy 
estimate of $36 billion.
    OMB's subsidy estimate is based upon a methodology 
developed in coordination with Treasury's Office of Financial 
Stability. It uses price data for AIG subordinated debt and 
adjusts that data to reflect the lower priority position of AIG 
preferred shares relative to subordinated debt. The adjustment 
used for the 2010 Budget was based upon the relative prices for 
subordinated debt and preferred stock of an institution that 
was in a similarly stressed situation at the time of the 
estimate, namely the CIT Group. For the 2011 Budget subsidy 
rate, the adjustment was based upon market data for Citigroup 
stock and debt. Similar to CBO, OMB used the resulting adjusted 
prices for AIG preferred stock to produce derived market 
implied loss rates and resulting credit subsidy rates of 83 
percent for 2010 and 62 percent for 2011.
    The Credit Reform Act of 1990 requires OMB to continue 
using its initial subsidy estimate--in this case from the 2010 
Budget published in May 2009--for obligated funds until these 
funds have actually been disbursed.\741\ Because most of the 
funds obligated for AIG Series F preferred stock purchases had 
not been disbursed by the time that the Administration's 2011 
Budget was published in February 2010, OMB and Treasury were 
required to use their earlier 2009 estimates for a substantial 
portion of their latest subsidy estimate. Hence, OMB's most 
recent subsidy cost estimate of $50 billion incorporates a 
blend of the subsidy rate calculations over two years. This in 
large part accounts for the different subsidy estimates of the 
two agencies as they otherwise use similar methodologies based 
upon market data for AIG debt and preferred stock.
---------------------------------------------------------------------------
    \741\ Federal Credit Reform Act of 1990 (FCRA), 2 U.S.C. 661 
(1990).
---------------------------------------------------------------------------

                           I. Exit Strategies

    This section provides an overview of Treasury's exit 
strategy and the corresponding effort by AIG to improve its 
business operations, which will factor heavily in both the 
timing and amount of funds Treasury will recover from its 
investment. Section I.1 outlines the key challenges facing 
Treasury as it looks ahead to monetizing its investment in AIG. 
Section I.2 addresses AIG's current restructuring efforts, the 
pace and success of which will weigh heavily on the outcome for 
the taxpayer. Section I.3 highlights Treasury's exit plan and 
its outlook on AIG's restructuring process, recent earnings, 
and near-term business risks that could delay the current 
timetable.
    Despite some recent challenges, both AIG and Treasury 
believe that it is likely that the company will be able to 
fully repay FRBNY in 2010, which is senior to the company's 
TARP obligations. More significantly, both the company and 
Treasury have grown increasingly confident in recent months 
regarding the possibility (in the case of Treasury) or the 
expectation (in the case of AIG) of full repayment of 
Treasury's assistance.\742\ Ultimately, the outlook for 
taxpayers is contingent on the long-term prospects for AIG, and 
the ability of the current management team to produce strong 
operating results ahead of the commencement of an expected exit 
strategy by Treasury in 2011.\743\ Market observers and 
government officials generally agree that Mr. Benmosche's 
target for annualized earnings of approximately $8 billion 
would constitute sufficiently strong earnings (core earnings 
within AIG's primary ongoing P&C and Life Insurance businesses 
are currently approximately $6 billion, annualized for first 
quarter 2010 results).\744\ In addition, a more transparent 
company structure would help facilitate access to the capital 
markets, allowing AIG to emerge as a stand-alone investment 
grade insurance company capable of repaying the government's 
investment.\745\
---------------------------------------------------------------------------
    \742\ Although Treasury is clearly more confident versus the year-
ago period, recent complications associated with the AIA transaction as 
well as a more challenging capital markets backdrop have perhaps 
justified a more calibrated assessment of the factors impacting the 
potential for full repayment. Testimony of Jim Millstein, supra note 
44; Testimony of Robert Benmosche, supra note 28.
    \743\ Testimony of Jim Millstein, supra note 44 (``[T]he objective 
of the restructuring plan is to restructure AIG's balance sheet and 
business profile so that it can maintain this status on its own, 
thereby permitting the government to monetize the taxpayers' 
investment'').
    \744\ Includes General Insurance (Chartis), Domestic Life Insurance 
& Retirement Services, and Foreign Life Insurance & Retirement 
Services. AIG Form 10-Q for the First Quarter 2010, supra note 731, at 
114.
    \745\ Testimony of Robert Benmosche, supra note 28 (``[W]e have a 
company that can earn between $6 and $8 billion dollars after taxes * * 
* we want very clear discreet businesses that we can see what they are, 
where we can see their financials. And therefore, we can go to the 
capital markets for that insurance company''); Testimony of Jim 
Millstein, supra note 44 (Mr. Benmosche is an ``experienced insurance 
executive...h[e] is confiden[t] that he can get Chartis and SunAmerica 
Financial to an $8 billion dollar net after tax earning. If he can do 
that, we're going to be paid in full'').
---------------------------------------------------------------------------

1. Overview

    Figure 28 below outlines the current market value of the 
government assets to be unwound in conjunction with an exit 
from AIG. The government has expended $100.8 billion in total 
direct assistance to AIG (excluding investment in ML2 & ML3), 
but its current investment value is $119 billion, reflecting 
the additional value of the Series C shares. Assuming FRBNY is 
paid in full, Treasury's subordinate position represents $49.1 
billion in preferred debt securities (Series E & F), and 
includes the value of the Series C shares (which fluctuates 
based on the share price of AIG), a $67.3 billion investment 
value.\746\
---------------------------------------------------------------------------
    \746\ $67.3 billion assumes $49.1 billion for preferreds and $18.2 
billion for Series C shares (based on conversion and sale at AIG's 
current market value of $34.07 per share as of June 7, 2010).

        FIGURE 28: SUMMARY OF GOVERNMENT INVESTMENTS IN AIG \747\
                          [Dollars in billions]
------------------------------------------------------------------------
                                                              Estimated
                           Assets                               Value
------------------------------------------------------------------------
FRBNY:*
    FRBNY Revolving Credit Facility........................        $26.4
    Preferred Interest in AIA and ALICO....................         25.6
Treasury:
    TARP Series E Preferred................................         41.6
    TARP Series F Preferred................................          7.5
    TARP Series E Warrants.................................          0.0
    TARP Series F Warrants.................................          0.0
Series C Shares (Held in Trust):
    Series C Convertible Preferred.........................        18.2
------------------------------------------------------------------------
* Note: This table does not include ML2 and ML3.
\747\ Value of FRBNY Revolving Credit Facility as of May 27, 2010.
  Series C valuation adjusted for equity market value as of June 7,
  2010.

    Until very recently, AIG had intended to repay FRBNY's 
investment with proceeds from the sale of its Asian 
subsidiaries, AIA and ALICO. On June 2, 2010, the announced 
sale of the larger of these two entities, AIA, to the British 
insurance giant Prudential for $35.5 billion,\748\ was 
cancelled due to differences over price (discussed further in 
Section I.3). Nevertheless, Treasury officials have indicated 
to the Panel that they believe that AIG will be able to realize 
value equivalent to the $35.5 billion negotiated sale price 
through an alternate strategy, perhaps involving an IPO on the 
Hong Kong Stock Exchange.\749\ However, there is a higher risk 
premium to this strategy given the potential for equity market 
and AIA operating risks (although operating results have 
improved in recent quarters) to weigh on an IPO valuation and 
subsequent secondary offerings to fully dispose of AIG's 
ownership interest.
---------------------------------------------------------------------------
    \748\ AIG Statement on $85 Billion Secured Revolving Credit 
Facility, supra note 501.
    \749\ Panel staff conversation with Jim Millstein, chief 
restructuring officer, U.S. Department of the Treasury (June 2, 2010). 
An AIA IPO was reportedly AIG's original divestiture strategy prior to 
the Prudential offer, and now appears to be the likely scenario since 
the planned sale to Prudential collapsed. See Andrew Peaple, AIA Needs 
Polishing Before IPO, Wall Street Journal (June 2, 2010) (online at 
online.wsj.com/article/
SB10001424052748703561604575281771117418324.html?mod=WSJ_Heard_LEFTTopNe
ws).
---------------------------------------------------------------------------
    Full repayment of Treasury's TARP investment and charting a 
course for a viable long-term strategy will demand additional 
actions that are not completely clear. Media reports and 
Treasury conversations with Panel staff affirm that the company 
intends to outline a more coherent strategy to repay its 
government assistance in the near future.\750\ Assuming the 
ALICO sale is finalized and an IPO or other strategic action 
for AIA is clarified in the third or fourth quarter of 2010, it 
is probably fair to assume that an exit strategy will emerge 
before 2011. Treasury candidly acknowledged the necessity for 
AIG to move forward with unveiling a strategy in the coming 
months.\751\ Working from the assumption that Treasury expects 
to recoup a substantial portion of its $49.1 billion cost basis 
(with full realization of its current investment value of $67.3 
billion an aspirational target), it is likely that Treasury 
will seek to convert its preferred interest into common equity 
shares (consistent with AIG boosting its balance sheet to 
support an investment grade credit rating), and then pursue a 
strategy aimed at selling the stake in the public markets over 
an extended time horizon. An exit that is perceived as overly 
hasty risks creating a run on the stock, as shareholders try to 
get out before the government converts its preferred stake to 
common equity, in order to avoid massive dilution.\752\
---------------------------------------------------------------------------
    \750\ Panel staff conversations with Jim Millstein, chief 
restructuring officer, U.S. Department of the Treasury (May 17, 2010 
and June 2, 2010). See also Joann S. Lublin and Serena Ng, Board Panel 
at AIG Hires Rothschild, Wall Street Journal (May 12, 2010) (online at
online.wsj.com/article/
SB10001424052748703565804575238760116921430.html).
    \751\ Panel staff conversation with Jim Millstein, chief 
restructuring officer, U.S. Department of the Treasury (June 2, 2010).
    \752\ Panel staff discussions with Treasury officials, AIG 
executives, and stock analysts did not yield a consensus as to what 
extent the market is pricing in the potential for significant dilution 
in AIG shares. Market clarity on this front is hindered by the stock's 
very limited public float.
---------------------------------------------------------------------------
            a. The Long Good-Bye
    The baseline approach is for Treasury to seek to exit AIG 
over several years. The model for this approach will likely be 
Citigroup.\753\ A conversion of the preferred shares into 
common equity may prove more difficult for Treasury to execute 
with AIG, though, given AIG's publicly traded float of $4 
billion and a government equity stake that could conceivably 
amount to approximately $70 billion (full conversion of Series 
C, E & F at current market prices).\754\ Thus, absent a capital 
raise by AIG to repay Treasury directly, a protracted wind-down 
of Treasury's stake seems inevitable.\755\ Presumably, some 
amount of Series C sales will commence ahead of the exchange of 
Treasury's E and F preferred shares for common equity in order 
to improve liquidity and avoid the government's stake in AIG 
moving above 80 percent.\756\
---------------------------------------------------------------------------
    \753\ The government's investment in Citigroup and the subsequent 
exit strategy is discussed in Section F.8, supra. The Panel's January 
2010 report contains a discussion of the government's Citigroup exit 
strategy, including the monetization of the preferred shares under the 
TARP Capital Purchase Program (CPP). See January Oversight Report, 
supra note 637, at 34-64.
    On December 22, 2009, Citigroup repaid $20 billion in TARP funds it 
received under the TIP. Citigroup issued $20.5 billion of new debt and 
equity to raise money to repurchase Treasury's $20 billion of TruPS 
through the selling of $17 billion of new common stock and issuing $3.5 
billion of other debt and equity. Office of the Special Inspector 
General for the Troubled Asset Relief Program, Quarterly Report to 
Congress, at 73 (Jan. 30, 2010) (online at www.sigtarp.gov/reports/
congress/2010/January2010_Quarterly_Report_to_Congress.pdf) 
(hereinafter ``SIGTARP Quarterly Report to Congress'').
    On July 30, 2009, Treasury agreed to exchange $25 billion in 
Citigroup preferred shares it had received under the Capital Purchase 
Program (CPP) for 7.7 billion shares of common stock priced at $3.25 
per share. U.S. Department of the Treasury, Exchange Agreement dated 
June 9, 2009 between Citigroup Inc. and United States Department of the 
Treasury, at Schedule A (June 9, 2009) (online at 
www.financialstability.gov/docs/agreements/08282009/
Citigroup%20Exchange%20Agreement.pdf). On March 29, 2010 Treasury 
announced its intention to sell the 7.7 billion in common shares in an 
``orderly and measured fashion'' over the course of 2010, subject to 
market conditions. U.S. Department of the Treasury, Treasury Announces 
Plan to Sell Citigroup Common Stock (Mar. 29, 2010) (online at 
www.financialstability.gov/latest/pr_03282010.html).
    On May 26, 2010, Treasury completed a sale of 19.5 percent of its 
holdings of Citigroup common stock. Treasury sold 1.5 billion shares 
for approximately $6.2 billion. U.S. Department of the Treasury, 
Treasury Announces Plan to Continue to Sell Citigroup Common Stock (May 
26, 2010) (online at www.financialstability.gov/latest/
pr_05262010b.html).
    \754\ As mentioned above, the Series C shares are convertible into 
common stock, while the E and F shares are not. Nevertheless, the 
exchange of the E and F shares for an equivalent dollar amount of 
common shares is a likely exit strategy. References to ``conversion'' 
hereafter refer both to the conversion of C shares and the exchange of 
E and F shares.
    \755\ On December 9, 2009, Bank of America repaid $45 billion in 
TARP funds ($25 billion from the Capital Purchase Program (CPP) and $20 
billion from the TIP. Bank of America repurchased its preferred shares 
using capital it raised in a securities offering plus excess cash it 
generated through normal business operations. In the securities 
offering, Bank of America raised a total of $19.3 billion in the 
securities offering by selling 1.29 billion shares (equivalent to 
common equity) for $15 each. SIGTARP Quarterly Report to Congress, 
supra note 753, at 55.
    \756\ See note 265, supra, for an explanation of why the government 
chose an ownership percentage of just under 80 percent.
---------------------------------------------------------------------------
    Although neither AIG nor Treasury has announced a timeline 
for the government's exit, assuming Treasury converts its 
preferred shares to common equity by early 2011, Treasury will 
likely remain a significant shareholder in AIG through 2012 as 
it sells down its stake over the next 12 months or so. This 
protracted timeline, of course, involves substantial equity 
market risk and will rely heavily on AIG building a sustainable 
franchise value over the medium term in order to support an 
increased supply of shares on the market (AIG's strategy and 
operations are examined in more detail in Section I.2 below).
            b. The Mechanics and Key Variables of Treasury's Likely 
                    Baseline Exit Strategy
    This baseline approach could conceivably yield a broad 
array of outcomes, depending on the equity market conditions 
and the residual value of the AIG franchise (as outlined in 
Section H.1 and H.2 above, with business outlook addressed in 
Section I.2 below). Mathematically, the key variable that will 
dictate the value realized by the government is not the price 
that Treasury converts its preferred stake into common equity, 
but rather the stock performance of the common shares 
subsequent to this conversion (although legacy shareholders are 
of course less diluted at a higher conversion price by the 
government). In order to recover its full investment, it is 
vital that Treasury be able to sell at or near the conversion 
price. By nature, this involves a period of considerable risk 
to Treasury's investment between conversion and sale.
    Strictly speaking, aside from the impact of increased 
dilution for legacy shareholders, the price at which the E and 
F shares are converted is irrelevant, since the conversion is 
based on the dollar amount of Treasury's investment, $49.1 
billion, rather than a fixed number of shares. For example, 
Treasury would receive twice as many new common shares at a 
conversion price of $18 as it would at $36. Similarly, the 
proceeds would be the same if the stock drops 50 percent after 
conversion at $36 versus a similar decline following conversion 
at $18.
    A stable stock price over the next 18 months would yield 
$49 billion to the government from the E and F shares (equal to 
its $49 billion investment), assuming full conversion and the 
forthcoming sale of common shares at equivalent share prices. 
However, should AIG's share price subsequently collapse by 50 
percent on the weight of dilution and uninspiring operating 
results from any price point following the conversion into 
common equity, Treasury would only see $25 billion in value 
from the E and F shares, $24 billion shy of its investment.
    Importantly, these scenarios do not reflect the value of 
the Series C shares, which are fully tethered to the current 
value of the share price. Unlike the E and F shares, the C 
shares convert into a fixed number of common shares--
approximately 533 million shares representing 79.8 percent 
ownership of AIG. In an ideal world, proceeds from the C 
shares, which were obtained at no cost to the taxpayer, will 
help Treasury recover its full investment and perhaps more. 
Thus, sales of the Series C shares at the conversion prices 
outlined below could conceivably yield anywhere from $3 billion 
to $20 billion in additional proceeds, helping mitigate the 
impact of a potential decline in the post-conversion share 
price of the preferreds.\757\
---------------------------------------------------------------------------
    \757\ Treasury is aware of the trade-offs and challenges involved 
in maximizing the value between the Series C and the E and F shares. 
See Testimony of Jim Millstein, supra note 44 (``[M]arket conditions 
may change before the trustees have the opportunity to sell that stock. 
And the very selling of that stock, given how much they have, will put 
significant downward selling pressure on the price of AIG's common 
stock'').
---------------------------------------------------------------------------
    Figure 29 shows the effects of three variables on the 
baseline exit strategy: (1) conversion of the E and F preferred 
shares to common at $36, $18, and $6 price points, (2) 
subsequent performance of the common shares following 
conversion (flat, down 50%, and down 75%), and (3) the exit 
value realized for the Series C shares ($36, $18, and $6).

          FIGURE 29: GOVERNMENT EXIT STRATEGY RETURN POTENTIAL
                  [$ Billions except stock price data]
------------------------------------------------------------------------
                                       E/F Stock Price at Conversion
                                  --------------------------------------
                                      $36.00       $18.00       $6.00
------------------------------------------------------------------------
Stock Price at Sale:*
    Flat.........................          $49          $49          $49
    Down 50%.....................           25           25           25
    Down 75%.....................           12           12           12
Memo: Series C Value.............           20           10           3
------------------------------------------------------------------------
* Note: Data illustrates the impact on the government's investment from
  a change in the price of AIG common stock after the conversion of the
  E/F shares to common stock and sale of the resulting common.

    Clearly, the manner in which the government exits these 
investments, and the market's reaction to this exit, will help 
determine the value that the government realizes. An investment 
horizon with an extended duration is probably the most 
conservative strategy, as it maintains optionality, while 
providing a clear path for recouping the government's 
investment. However, such an approach also entails significant 
market and operational risks over an extended period of time. 
Given these risks, the Panel believes that Treasury should 
explore options aimed at accelerated sales of smaller portions 
of its stake sooner rather than later, to help mitigate longer-
term equity market risks, and transfer some of the risk from 
the taxpayer to the public markets.
            c. Potential Fallback Options if Outlook Deteriorates
    Alternatively, should Treasury's confidence in a full 
payback waver, other options could include (1) strategic 
actions aimed at breaking up the company and pursuing selective 
bankruptcies of non-core and cash-draining businesses as 
necessary, or (2) a restructuring of the government's 
assistance to AIG to expedite an exit and preserve a minimal 
amount of franchise value. These approaches would involve the 
realization that AIG does not offer a sufficient stable of 
assets to create the requisite value to repay Treasury's 
investment. While the Panel is not advocating either of these 
scenarios (as the underlying fundamentals of the company do not 
appear to warrant such an aggressive approach at this 
juncture), a break-up or a partial restructuring in bankruptcy 
or through congressionally mandated resolution authority should 
be revisited in the future should AIG prove to be effectively 
insolvent.
    Should equity market conditions or AIG's corporate 
performance substantially deteriorate, Treasury may conclude 
that the best approach involves a more aggressive break-up 
strategy and/or strategic bankruptcies of certain business 
lines. A separate or complementary approach could involve 
relegating unprofitable subsidiaries to bankruptcy in order to 
spare the holding company the cost of subsidizing their 
operations in the future. This would alleviate some of the 
financial pressures on the company (and by extension, the 
taxpayer), particularly for operations that require significant 
external funding and may have limited potential sale value. 
ILFC and AGF may fall into this category.\758\ Under this 
approach, the government could avoid indirectly subsidizing 
money-losing subsidiaries and their creditors, as is currently 
the case, if the subsidiaries could be put into bankruptcy 
without affecting other operations or the holding company. This 
approach could not be applied to AIGFP and other subsidiaries 
whose obligations have been guaranteed by the holding company. 
One potential counterweight to this strategy is that selective 
bankruptcy for certain AIG subsidiaries might lead to a credit 
ratings downgrade of the holding company and key insurance 
subsidiaries, which would severely damage AIG's operations and 
its ability to raise capital to repay the government.\759\ 
Accordingly, this strategy would require the acquiescence of 
the rating agencies, which could prove problematic, given the 
expectation that holding companies do not let downstream 
subsidiaries default on their debt.
---------------------------------------------------------------------------
    \758\ See discussion in Section I(2)(d) below on outlook for key 
business units, including ILFC and AGF.
    \759\ ``The credit rating of AIG is an essential factor in 
establishing the competitive position of its insurance subsidiaries 
because it provides a measure of the insurance subsidiaries' ability to 
meet obligations to policyholders, maintain public confidence in the 
insurance companies' products, facilitate marketing of products, and 
enhance the companies' competitive positions. AIG's credit rating is 
derived from the performance of all its subsidiaries. If one subsidiary 
files for bankruptcy, this would adversely impact AIG's rating and 
would ultimately impact the insurance subsidiaries' businesses and 
credit ratings as well. Selective bankruptcy would likely result in 
policyholders and potential customers losing confidence in the 
viability of AIG's insurance subsidiaries, leading to increased policy 
cancellations or termination of assumed reinsurance contracts, which 
would prevent the companies from new offering products and services. 
Moreover, a downgrade in AIG's credit ratings may, under credit rating 
agency policies concerning the relationship between parent and 
subsidiary ratings, result in a downgrade of the ratings of AIG's 
insurance subsidiaries.'' AIG Form 10-K for FY09, supra note 50, at 20. 
See also Standard & Poor's briefing with Panel staff (May 1, 2010).
---------------------------------------------------------------------------
    If AIG appears to have a negative net worth, more drastic 
actions may make sense. AIG could spin off its valuable assets, 
such as Chartis and SunAmerica, by taking them public and 
seeding the companies with their own share bases. Proceeds from 
these transactions could then be used to pay off as much of the 
government investment as possible. Since this may not be enough 
to fully repay the government, the holding company, with the 
remaining bad assets and liabilities, could then be put through 
bankruptcy without affecting the policyholders or other clients 
of AIG. AIG's common equity, including anything left of the 
government's equity stake, would be made worthless. Private 
bondholders would likely take substantial losses, since most of 
the corporate value would have already been stripped away. If 
AIG is insolvent and the stock is worthless anyway, this 
strategy could salvage as much value as possible and place 
government interests before those of other creditors. It would 
also help motivate the employees of the spun-off firms, again 
helping to maximize value. This strategy would require a 
healthy market backdrop in order to facilitate investor 
interest in the spin-offs.
    Another stop-gap option, but potentially many times more 
problematic for obvious reasons, is a reworking of the 
government's Series C equity stake.\760\ The logic, according 
to several market participants, behind reducing the hurdle for 
paying back the government's investment is that--if losses are 
inevitable--a smaller piece of a bigger pie may be preferable 
to a bigger piece of a smaller pie. In practice, this approach 
would involve less dilution for non-government equity holders, 
which would in turn increase the value of the government's 
preferred stake when converted into equity. This higher equity 
price, however, would involve a substantial opportunity cost, 
as the government would forfeit its current holdings, 
representing a 79.8 percent stake in the company, with a value 
of approximately $18 billion, in the hope that this concession 
would drive a higher equity valuation following the conversion 
of its $49.1 billion preferred stake.
---------------------------------------------------------------------------
    \760\ Instead of giving up equity, the government could also 
restructure the entire basis of its involvement in AIG to something 
less onerous to the company. There is some precedent for this, since 
the Series D preferred was exchanged for Series E, which has terms that 
are more favorable to AIG. This would be less of a true exit strategy, 
than something akin to a bad debt workout, and would likely be 
influenced by the expectation that the government was poised to 
ultimately take a loss. This strategy would keep the government 
involved in AIG for some time to come.
---------------------------------------------------------------------------
    However, there are several complications to this approach 
beyond the front-loading of political and headline risks that 
would likely greet an announcement of this nature. For one, the 
conversion of the preferred shares would entail significantly 
higher execution risks vs. the potential break-up options 
discussed above. The longer duration of such a transaction and 
the uncertain outlook for AIG's equity market valuation could 
potentially magnify downside risks. Additionally, it is 
difficult to imagine that the AIG Credit Facility Trustees, who 
administer the Series C shares, would be keen to go along with 
such a strategy, unless a meaningful loss in their holdings was 
otherwise inevitable. That said, if such a transaction were to 
materialize, the endorsement of the Trustees, bound by a 
fiduciary duty to the taxpayer, could help counteract 
accusations that any concession amounted to a subsidy from the 
taxpayer to private sector equity and debt holders.

2. AIG's Plans for Return to Profitability

    As the analysis above indicates, Treasury is unlikely to 
exit AIG until the company provides evidence to the market that 
it is capable of functioning as a standalone investment grade 
entity, absent government support. Accordingly, until such a 
date, the value of Treasury's investment is subject to 
significant and protracted operational risks, in addition to 
underlying equity market conditions.\761\ A key variable in 
taxpayers recouping their investment pivots on the ability of 
AIG to execute on its strategy of maximizing the value of non-
core assets and producing improved operating results in its 
core businesses, paving the way for the firm to access the 
capital markets independent of government support.\762\
---------------------------------------------------------------------------
    \761\ Testimony of Jim Millstein, supra note 44 (``Whether Treasury 
ultimately recovers all of its investment or makes a profit, will in 
large part depend on the company's operating performance and market 
multiples for insurance companies at the time the government sells its 
interest'').
    \762\ Testimony of Robert Benmosche, supra note 28.
---------------------------------------------------------------------------
            a. Evolving Strategy
    The company's strategy is of course largely informed by the 
need to repay the government's $100.8 billion in assistance. 
AIG is seeking to balance asset sales and risk reduction with a 
credible and focused ongoing business strategy. This strategy 
has been some time in the making, as difficult market 
conditions and management turnover may have frustrated earlier 
efforts at charting a course for repaying the taxpayer prior to 
Mr. Benmosche's arrival at the firm in August of 2009.
    In the wake of the government's rescue in the fall of 2008, 
the math simply did not provide a way forward for the company 
(and, as became evident in the subsequent months, for the 
government). The terms of the government's rescue and the 
market backdrop provided little hope of a full recovery, beyond 
seeking to mitigate the magnitude of expected losses on the 
government's assistance and to reduce the systemic risk posed 
by the company.\763\ Potential buyers in the insurance sector 
suffered through significant valuation declines, dampening 
their appetite for acquisitions of AIG's most marketable 
assets. Cash purchases were of course problematic during this 
period, owing to the dearth of available funding, even to 
highly rated borrowers. Against this backdrop, core operating 
fundamentals of key insurance businesses suffered amidst the 
deteriorating market environment, further clouding the mergers 
and acquisitions outlook.
---------------------------------------------------------------------------
    \763\ In this respect, the government was very much like a bank 
seeking to mitigate its losses on a mortgage foreclosure. In turn, a 
better market backdrop creates a pathway to value maximization as 
opposed to loss mitigation.
---------------------------------------------------------------------------
    Thus, a greatly improved market backdrop and a longer-term 
investment mentality on the part of AIG's principal shareholder 
have facilitated a strategy aimed at repaying the government 
and cultivating a sustainable independent business strategy. 
The key components of AIG's recovery strategy are asset sales, 
risk reduction, and a renewed focus on longer-term business 
growth objectives. Specifically, in addition to asset sales, 
the firm is focused on strengthening its global property & 
casualty franchise and its domestic life insurance and 
retirement services operations, while continuing to manage down 
the firm's legacy exposure within AIGFP. In the meantime, there 
are currently many balls up in the air, given the pending sales 
of ALICO and other assets, the need for an alternate 
disposition plan for AIA, uncertain prospects and financing 
challenges for ILFC and AGF, and remaining residual AIGFP 
exposures in an adverse market backdrop. Additionally, the 
company must continue to make progress on streamlining its 
operations and untangling the cross-linkages throughout its 
vast operations. In turn, greater transparency into individual 
business lines will help facilitate more beneficial terms from 
the capital markets for financing core operations as well as 
facilitating the sale of non-core businesses at more attractive 
valuations. As noted, Treasury has stated that it expects the 
company to articulate an updated strategy in the next few 
months.\764\
---------------------------------------------------------------------------
    \764\ Panel staff conversation with Jim Millstein, chief 
restructuring officer, U.S. Department of the Treasury (June 2, 2010).
---------------------------------------------------------------------------
    As discussed in Section D.4, the fair value of the holdings 
of ML3 ($23.7 billion) is currently well in excess of the 
balance of the FRBNY loan outstanding to that SPV ($17.3 
billion) and the underlying CDOs remaining in the SPV may well 
continue to appreciate. But it is important to recognize the 
economic value of the assistance provided to the counterparties 
at the time that the Maiden Lane acquisitions of the CDOs were 
completed. This assistance did not consist merely of the $24.3 
billion share of the $29.3 billion that ML3 paid in November 
and December 2008 to acquire those CDOs. The terms of those 
sales to ML3 also provided the counterparties with the right to 
keep the $35 billion in collateral that AIGFP had posted up to 
that time under the CDS contracts that were extinguished when 
ML3 was created. Given the government's approximately 80 
percent stake in AIG, it is at least arguable that the loss of 
AIG's $35 billion in collateral provided another $28 billion in 
government assistance to the ML3 counterparties.\765\ Hence, 
from this perspective, more than $52 billion of the $62 billion 
par value received by those counterparties was direct or 
indirect government assistance, assistance which it is highly 
unlikely that ML3 will ever fully recover despite the rebound 
in the value of the CDOs since the time they were initially 
acquired by the SPV.
---------------------------------------------------------------------------
    \765\  the government's power to unilaterally demand that CDS 
counterparties return collateral to AIG may have been limited, 
presumably the full backing of the government for these contracts would 
have backstopped AIG's credit rating at a higher level, providing a 
foundation for the company to recover some part of the posted 
collateral as the reference CDOs recovered in value. See discussion in 
Section F.5.
---------------------------------------------------------------------------
            b. The Future AIG
    Putting this all together, AIG--under management and the 
government's baseline scenario--is likely to be a much 
different company in 2011 or 2012, with a core business in 
property and casualty insurance, supported by a domestic life 
and retirement services operation. These businesses today 
produce approximately $53 billion in revenue and $6 billion in 
pre-tax earnings, annualized for first quarter 2010 
results.\766\ After the company's restructuring and asset sales 
are complete, the vast majority of AIG's businesses will be 
housed within its global property-casualty and commercial 
insurance operation, which has been rebranded as Chartis, and 
its domestic life insurance and retirement services segment, 
rebranded as SunAmerica. It is expected that Chartis and 
SunAmerica will constitute the vast majority of AIG's revenue 
going forward, with the balance of company revenue coming from 
certain non-core operations. Figure 30 below shows the expected 
future business structure of AIG.
---------------------------------------------------------------------------
    \766\ Includes General Insurance (Chartis), Domestic Life Insurance 
& Retirement Services, and Foreign Life Insurance & Retirement 
Services. AIG Form 10-Q for the First Quarter 2010, supra note 731, at 
114.

                                    FIGURE 30: AIG FUTURE BUSINESS STRUCTURE
----------------------------------------------------------------------------------------------------------------
                                           Life Insurance &
     General Insurance  (Chartis)        Retirement Services       Financial Services        Asset Management
                                             (SunAmerica)
----------------------------------------------------------------------------------------------------------------
                                                    Function
----------------------------------------------------------------------------------------------------------------
Property/casualty insurance..........  Rebranded as Chartis...  Capital markets........  Investment advisory
Commercial/industrial insurance......  Individual and group     Consumer finance.......  Brokerage
Speciality insurance.................   life insurance          Insurance premium        Private banking
Reinsurance..........................   products.                finance.                Clients include AIG
                                       Retirement services....  Aircraft leasing.......   subsidiaries,
                                       Annuities..............                            institutional and
                                       Domestic operations                                individual investors
                                        rebranded as
                                        SunAmerica.
----------------------------------------------------------------------------------------------------------------
                                        Key Subsidiaries to be Retained
----------------------------------------------------------------------------------------------------------------
American Home Assurance Co...........  Lexington Insurance Co.  AIG Financial Products   AIG Investments
Chartis Overseas.....................  American General Life     (AIGFP) (but in a       AIG SunAmerica Asset
American International Underwriters     Insurance Co.            largely in-house         Management
 Insurance Co.                         VALIC..................   treasury/risk           AIG Advisor Group
American International Reinsurance     SunAmerica Annuity.....   management function).
 Co. (AIRCO).                          Western National.......
                                       American General Life
                                        and Annuity.
----------------------------------------------------------------------------------------------------------------
                                   Asset Sales (Completed/Pending/Potential)
----------------------------------------------------------------------------------------------------------------
Remaining Portion of Transatlantic     American Life Insurance  Most of AIGFP's assets.  AIG Investments--
 Holdings.                              Co. (ALICO).            AIG Consumer Finance      international asset
                                       American International    Group (AIGCFG).          management operations
                                        Assurance Co. (AIA).    International Lease      AIG Private Bank
                                       Nan Shan Life..........   Finance Corp..
                                                                American General
                                                                 Finance (AGF).
----------------------------------------------------------------------------------------------------------------

            c. Which Businesses Are Being Continued or Sold and Why?
    Since receiving government assistance, AIG has either 
completed or announced asset sales representing 29 percent of 
the firm's total assets, representing at $66 billion in gross 
proceeds.\767\ Current management is targeting several smaller 
incremental sales or divestitures that could ultimately bring 
total asset sales to more than 35 percent of legacy operations, 
a reduction in comparison to the aims of the previous 
management team, which had targeted the sale of businesses 
constituting 65 percent of the company.\768\
---------------------------------------------------------------------------
    \767\ Although these figures include the announced but since 
withdrawn sale of AIA to Prudential, an alternative disposition plan 
for this asset is likely to be announced in the coming months.
    \768\ GAO Report, supra note 18, at 42.
---------------------------------------------------------------------------
    For 2010, AIG is focused on executing the previously 
announced sales of its international life insurance operations, 
AIA and ALICO, often described as two of the company's crown 
jewels. The growth profile and strong profitability of these 
overseas life insurance businesses, in comparison with the more 
cyclical property & casualty arm, bolstered their 
attractiveness to potential buyers. Additionally, the property 
& casualty business was viewed as a better source of cash flow 
to the parent, given the annual payment streams generated by 
its customer base.\769\
---------------------------------------------------------------------------
    \769\ Panel staff conversation with Brian Schreiber, senior vice 
president, AIG Strategic Planning (Apr. 23, 2010). Life insurance 
policies are generally long-term contracts whereas many property and 
casualty policies are renewed on an annual basis.
---------------------------------------------------------------------------
    Barring a shift in the company's strategy, additional asset 
sales by AIG are unlikely to raise significant new sums of 
money, given that the company has already announced the sales 
of the big ticket items. Among businesses that are either in 
run-off mode, considered non-core, or may be slated for sale, 
ILFC and AGF appear to be the more prominent--although any sale 
is unlikely to move the needle meaningfully in terms of 
generating incremental cash to repay the government. Valuations 
for these two assets are likely to be tempered by the 
challenges within the aircraft leasing and low-income consumer 
credit market, respectively. Not coincidentally, these 
businesses are also the most reliant on the wholesale funding 
market, which is difficult for AIG to access under present 
circumstances. Additionally, some smaller properties, such as 
Star/Edison in Japan, may be put back on the market after 
failing to attract a buyer the first time around.
    AIG's aircraft leasing business, ILFC, continues to be 
hampered by broader economic conditions as well as a meaningful 
increase in financing costs. In the near term, AIG is seeking 
to sell aircraft portfolios to raise needed cash, although 
these sales often entail relinquishing the desirable aircraft 
within the fleet, which increases the remaining portfolio's 
average fleet age and lowers operating margins.\770\ AIG will 
likely exit this business when doing so is practical. In the 
meantime, there are few potential buyers for the entire fleet, 
necessitating piecemeal portfolio sales. Similar to ILFC, AGF 
is battling a challenging macroeconomic environment, 
exacerbated by rising funding costs. Given this backdrop, one 
could probably fairly characterize these businesses in their 
current state as depreciating assets.
---------------------------------------------------------------------------
    \770\ In April 2010, ILFC entered into an agreement with Macquarie 
Aerospace Limited to sell 53 aircraft with an aggregate book value of 
approximately $2.3 billion, which is expected to generate approximately 
$2 billion in gross proceeds during 2010. AIG Form 10-Q for the First 
Quarter 2010, supra note 731, at 12. In May 2010, AIG announced that it 
hired Mr. Henri Courpron as the new ILFC chief executive officer. AIG 
Statement on $85 Billion Secured Revolving Credit Facility, supra note 
501.

                               FIGURE 31: AIG ASSET SALES AS OF JUNE 7, 2010 \771\
                                              [Dollars in millions]
----------------------------------------------------------------------------------------------------------------
                                                                                                      Announced
                  Buyer                            Target Name               Announcement  Date       Deal Value
----------------------------------------------------------------------------------------------------------------
Public Shareholders \772\................  AIA Group Ltd..............  TBA........................      $32,500
MetLife Inc..............................  American Life Insurance      3/7/2010...................       15,545
                                            Company.
Investor group...........................  Nan Shan Life Insurance Co.  10/12/2009.................        2,150
                                            Ltd..
Zurich Financial Services AG.............  21st Century Insurance       4/16/2009..................        1,900
                                            Group (U.S. personal lines
                                            automobile insurance
                                            business).
Wintrust Financial Corp..................  Assets of A.I. Credit Corp.  7/28/2009..................          747
Munchener Ruckversicherungs..............  HSB Group, Inc.............  12/21/2008.................          666
Pacific Century Group....................  Portion of investment        9/5/2009...................          500
                                            advisory and asset
                                            management business.
BMO Financial Group......................  AIG Life Holdings (Canada),  1/13/2009..................          311
                                            ULC.
Aabar Investments PJSC...................  AIG Private Bank Ltd.......  12/1/2008..................          254
UBS AG...................................  Commodity index business of  1/19/2009..................          150
                                            AIG Financial Products
                                            Corp..
Top Ten Total............................                                                                 54,722
Others...................................                                                                    590
----------------------------------------------------------------------------------------------------------------
    Total................................                                                               $55,313
----------------------------------------------------------------------------------------------------------------
\771\ SNL Financial; AIG Form 10-Q for the First Quarter 2010, supra note 731, at 19; AIG Form 10-K for FY09,
  supra note 50, at 40, 47, 119; AIG Form 10-K for FY08, supra note 47, at 6, 63.
\772\ Recent press reports indicate the likely disposition strategy for AIA Group is now an IPO. $32.5 billion
  figure represents the mid-range estimate of the possible value.

            d. Key Business Challenges
    For the most part, market observers with whom the Panel 
staff spoke were quick to stress the positive attributes of 
many of AIG's insurance assets.\773\ While it is unclear to 
what extent AIG has compromised underwriting quality and 
pricing to help mitigate the unique challenges faced by the 
company in the current competitive environment, recent data 
support the resiliency of the firm's market share in core 
operations, particularly within Chartis (outlined in more 
detail below).\774\ AIG's management asserts that rebranding 
efforts and enhanced distribution platforms for its products 
should begin to contribute positively to the company's 
growth.\775\
---------------------------------------------------------------------------
    \773\ Panel staff conversations with sell-side and buy-side 
investors.
    \774\ Panel staff briefing with Robert Schimek, chief financial 
officer, Chartis (Apr. 23, 2010).
    \775\ Panel staff briefing with Robert Schimek, chief financial 
officer, Chartis (Apr. 23, 2010).
---------------------------------------------------------------------------
    There is some debate, however, among analysts with respect 
to the health of AIG's core franchise, with under-reserving for 
insurance claims most often cited as a potential drag on future 
earnings.\776\ Loss provisioning across the industry was 
described by one market participant as ``more art than 
science.'' In particular, several market observers raised 
questions regarding AIG's long-term provisioning practices 
across its core businesses.\777\ AIG has assured the Panel that 
its insurance subsidiaries have adequate reserves, and stated 
that its auditors and insurance regulators would not allow it 
to under-reserve.\778\ Several market experts were also quick 
to note that market share and revenue growth within the 
insurance industry can be finessed on a near-term basis by more 
lenient underwriting standards and generous pricing 
initiatives, the evidence of which may take several years to 
materialize in financial results. One market observer relayed 
complaints he has heard that AIG may be undercutting 
competitors by as much as 30 percent on the price of property & 
casualty insurance, though AIG, Treasury, and GAO have disputed 
this allegation.\779\ These alleged pricing practices raise 
questions about the impact of government backing on both risk 
taking within AIG and on the business dynamics facing AIG's 
competitors.
---------------------------------------------------------------------------
    \776\ For further discussion of the financial condition of the 
insurance company subsidiaries at the time of the government's 
intervention in AIG, see Section E.2 (AIG Insurance Company 
Subsidiaries), supra.
    \777\ For a detailed discussion, see Section B.4, supra.
    \778\ Panel and staff briefing with AIG CFO David Herzog, chief 
financial officer, AIG (May 17, 2010 and June 4, 2010).
    \779\ See Testimony of Jim Millstein, supra note 44; House 
Financial Services, Subcommittee on Capital Markets, Insurance, and 
Government Sponsored Enterprises, Written Testimony of Orice M. 
Williams, director, Financial Markets and Community Investment, 
Government Accountability Office, American International Group's Impact 
on the Global Economy: Before, During, and After Federal Intervention, 
at 16 (Mar. 18, 2009) (online at www.house.gov/apps/list/hearing/
financialsvcs_dem/gao_-_williams.pdf) (``[S]ome of AIG's competitors 
claim that AIG's commercial insurance pricing is out of line with its 
risks but other insurance industry participants and observers disagree. 
At this time, we have not drawn any final conclusions about how the 
assistance has impacted the overall competitiveness of the commercial 
property/casualty market'').
---------------------------------------------------------------------------
    More broadly, some investors voiced skepticism that the 
current management team is capable of overcoming what they 
viewed as significant legacy institutional practices that 
cultivated an array of cross-linkages throughout the firm. In 
particular, a legacy of intercompany funding arrangements 
(discussed in greater detail in Section B.4(d)), and how the 
unwinding of these arrangements may impact the holding 
company's debt load, is another area that skeptical analysts 
contend could impact value realization. Accordingly, AIG's 
outstanding debt load and certain valuation assumptions could 
be subject to potential revision given that AIG may need to 
borrow more from FRBNY's loan facility, particularly as cross-
segment lending arrangements expire, and private sector debt 
matures.
    The table below highlights a conservative estimate of the 
company's current obligations. Given that AIG has provided 
financial assistance to subsidiaries whose debt is not 
guaranteed by the parent company, such as AGF and International 
Lease Finance Corporation (ILFC), the full liability could be 
greater. Since the start of 2010, AIG has drawn down more than 
$5.3 billion in additional funds from the RCF, raising concerns 
among some market participants about the scope of the holding 
company's debt obligations, given that some of these funds were 
used to renew expiring subsidiary credit lines.\780\
---------------------------------------------------------------------------
    \780\ Federal Reserve H.4.1 Statistical Release, supra note 2. 
Federal Reserve H.4.1 Statistical Release, supra note 342.

                 FIGURE 32: TOTAL DEBT OUTSTANDING \781\
                          [Dollars in millions]
------------------------------------------------------------------------
                                     03/31/10    12/31/2009    03/31/09
------------------------------------------------------------------------
Debt Issued by AIG:
    FRBNY Credit Facility              $27,400      $23,435      $47,405
     (secured)...................
    Notes and bonds payable......        9,457       10,419       11,221
    Junior subordinated debt.....       11,699       12,001       11,520
    Junior subordinated debt             5,880        5,880        5,880
     attributed to equity units
     \782\.......................
    Loans and mortgages payable..          427          438          370
    MIP matched notes and bonds         12,642       13,371       13,953
     payable \783\...............
    Series AIGFP matched notes           3,868        3,913        4,296
     and bonds payable \784\.....
                                  --------------------------------------
Total AIG Debt...................       71,373       69,457       94,645
Total AIG Private Debt...........       43,973       46,022       47,240
Debt Guaranteed by AIG:..........
    Commercial paper and other           2,285        2,742        6,747
     short-term debt.............
    GIA..........................        8,353        8,257       10,716
    Notes and bonds payable......        1,916        2,029        3,538
    Loans and mortgages payable..          825        1,022        1,981
    Hybrid financial instruments.        1,706        1,887        1,257
                                  --------------------------------------
Total AIGFP Debt.................       15,085       15,937       24,239
AIG Funding commercial paper.....           --        1,997        5,509
AIGLH notes and bonds payable....          798          798          798
Liabilities connected to trust           1,339        1,339        1,299
 preferred stock.................
                                  --------------------------------------
    Total debt issued or               $88,595      $89,528    $126,490
     guaranteed by AIG...........
------------------------------------------------------------------------
\781\ AIG Form 10-Q for the First Quarter 2010, supra note 731, at 103;
  AIG Form 10-Q for the First Quarter 2009, supra note 367, at 64.
\782\ Upon each of the stock purchase dates of AIG's mandatory
  convertibles, AIG's obligations will be met with through a successful
  remarketing of the debt portion of the equity units, or upon a failed
  remarketing, through the surrendering of the outstanding debentures to
  satisfy the stock purchase contract portion of the equity units.
\783\ Debt maturities for the MIP are expected to be funded through cash
  flows generated from invested assets, as well as the sale or financing
  of the asset portfolio's in the program. However, mismatches and the
  timing of cash flows of the MIP, as well as any short falls do to
  impairments of MIP assets, would need to be funded by AIG parent. In
  addition, as a result of AIG's restructuring activities, AIG expects
  to utilize assets from its non-core businesses and subsidiaries to
  provide future cash flow enhancements and help the MIP meet its
  maturing debt obligations.
\784\ Approximately $813 million of AIGFP debt maturities through March
  31, 2011 are fully collateralized, with assets backing the
  corresponding liabilities; however mismatches in the timing of cash
  inflows on the assets and outflows with respect to the liabilities may
  require assets to be sold to satisfy maturing liabilities.

    For his part, Mr. Benmosche asserts that near-term 
fluctuations in AIG's borrowing from the RCF reflect short-term 
variances in the company's cash flows and are not indicative of 
an underlying appetite for increased government assistance. 
While he predicted further ups and downs in the firm's RCF 
balance as AIG taps its government credit line to meet its 
funding needs as legacy debt matures, he believes AIG's cash 
flows will eventually stabilize, allowing the firm to begin to 
repay its obligations. That said, the key yardstick for 
progress on this front will be when the firm is able to raise 
funding from private sources at attractive and sustainable 
levels of interest.\785\
---------------------------------------------------------------------------
    \785\ Testimony of Robert Benmosche, supra note 28.
---------------------------------------------------------------------------
            e. Overview of Core Insurance Businesses
    Based on core operating data in the lead-up to the crisis, 
AIG's life insurance and property & casualty subsidiaries--as 
measured by Return on Equity (ROE)--either performed on par or 
exceeded key industry benchmarks.
     Life Insurance. AIG has historically produced ROEs 
of 15 percent in its life insurance business. This compares 
favorably to 13-14 percent ROEs for the industry, though recent 
returns have been impacted by a more challenging market 
backdrop, with AIG underperforming the industry's 10-12 percent 
ROE during the 2008-2009 period. AIG's global life insurance 
returns have traditionally benefitted from its leading foothold 
in overseas markets, particularly in Asia (although these 
businesses are now in the process of being sold), where pricing 
and growth were considered more favorable than in the U.S. 
market. Within the United States, AIG's life insurance 
operations benefited from its vast scale, which helped the 
company offset less favorable growth and pricing trends in 
comparison to its overseas operations.
     Property & Casualty. Percentage returns for AIG's 
property & casualty business, historically in the mid-teens, 
have also declined in recent years (less than 10 percent in 
2008-2009). According to market participants, AIG's relative 
historic outperformance in this business was boosted by its 
product diversity and innovative underwriting, which provided a 
pipeline of higher-margin contracts. And consistent with the 
size of its platform, AIG benefited from better cost leverage 
in its operations. As noted above, several critics claim that 
AIG's returns, particularly in recent years, have benefitted 
from underreserving for future payouts, a practice that would 
presumably lower future returns when loss rates on legacy 
contracts exceed the reserve cushion.
    Figure 33 below outlines trailing 5-year ROEs for AIG's 
legacy U.S. life and P&C businesses. (Note that returns are 
lower than the historical results outlined above, given the 
absence of AIG's more profitable overseas operations, including 
its Asian life businesses (which are being sold) and the 
company's overseas P&C business lines (which will remain under 
the Chartis umbrella).

 FIGURE 33: AIG U.S. LIFE INSURANCE AND PROPERTY & CASUALTY ROE, 2005-
                               2009 \786\

      
---------------------------------------------------------------------------
    \786\ The underlying data for this graph pertains to return on 
equity (ROE) for AIG's U.S. Life and Property & Casualty insurance 
subsidiaries. The historical ROEs for the Property & Casualty 
subsidiary was provided by A.M. Best. The historical ROEs for the Life 
Insurance subsidiary was accessed through SNL Financial data service. 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



    Figure 34 below outlines market share data for the core 
U.S. life and P&C business. While AIG's U.S. P&C market share 
has remained fairly stable during the 2008-2009 period, life 
insurance has declined measurably. The relative performance 
disparity is not necessarily surprising given the variance in 
contract terms. P&C contracts are generally renewed annually, 
whereas life customers can terminate their policies at will, 
making the life business more sensitive (at least on a short-
term basis) to AIG's recent challenges.\787\
---------------------------------------------------------------------------
    \787\ AIG Form 10-K for FY09, supra note 50, at 109 (``AIG expects 
that negative publicity about AIG during the fourth quarter of 2008 and 
the first nine months of 2009, AIG's previously announced asset 
disposition plan and the uncertainties related to AIG will continue to 
adversely affect Life Insurance & Retirement Services operations for 
the remainder of 2009, especially in the domestic businesses. In 
addition, AIG's issues have affected certain operations through higher 
surrender activity, primarily in the U.S. domestic retirement fixed 
annuity business and foreign investment-oriented and retirement 
products. Surrender levels have declined from their peaks in mid-
September of 2008 and have begun to stabilize and return to pre-
September 2008 levels for most products and countries'').
---------------------------------------------------------------------------

   FIGURE 34: AIG U.S. LIFE INSURANCE AND PROPERTY & CASUALTY MARKET 
                         SHARE, 2005-2009 \788\

      
---------------------------------------------------------------------------
    \788\ The underlying data for this graph pertains to the 
consolidated market share of AIG's U.S. Life and Property & Casualty 
insurance subsidiaries in their respective markets. Data accessed 
through SNL Financial data service. 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



    However, business retention and growth trends have improved 
in recent quarters for AIG's U.S. life insurance operations, 
with business retention for the first quarter of 2010 the best 
since September 2008 (although, given the depth of AIG's 
problems in the aftermath of initial government assistance, it 
would be surprising if retention did not begin to improve in 
recent quarters).\789\
---------------------------------------------------------------------------
    \789\ Congressional Oversight Panel, Written Testimony of Robert 
Benmosche, president and chief executive officer, American 
International Group, Inc., COP Hearing on TARP and Other Assistance to 
AIG, at 12 (May 26, 2010) (online at cop.senate.gov/documents/
testimony-052610-benmosche.pdf).
---------------------------------------------------------------------------
    In the context of AIG's strategic outlook, the near-term 
operating environment for its core ongoing insurance businesses 
remains challenging. Summarizing from AIG's 2009 10-K.\790\
---------------------------------------------------------------------------
    \790\ AIG Form 10-K for FY09, supra note 50, at 39-40.
---------------------------------------------------------------------------
     Domestic Life Insurance & Retirement Services: 
Closely levered to improving economic and market backdrop, 
these businesses are expected to benefit from rebranding and 
improved distribution channels, as well as a reduction in low-
yielding excess liquidity as a result of a more stable market 
backdrop.
     General Insurance (Chartis): Pricing and ratable 
exposures (value and number of policies outstanding, influenced 
by asset values and economic growth) are both expected to 
decline in 2010, consistent with industry-wide expectations.
    Figure 35 below shows the ratios of payments to 
policyholders and operating expenses compared to premiums 
earned by AIG's property & casualty insurance business. This 
``Combined Ratio'' highlights the total of these costs compared 
to premiums (i.e., the lower the ratio the better). This ratio, 
which excludes investment activities, is a good barometer of 
the absolute and relative health of the business, although 
trends vary based on the underlying business cycle. With a few 
exceptions, AIG has generally reported a Combined Ratio below 
its peer group average. In 2009, however, AIG's Combined Ratio 
of 108 percent compared to an industry average of 101 percent. 
This increase could be partially a cyclical reserve build, 
exacerbated by recent challenges unique to AIG.

               FIGURE 35: UNDERWRITING COST RATIOS \791\

      
---------------------------------------------------------------------------
    \791\ AIG Form 10-K for FY09, supra note 50, at 74. AIG combined 
ratios prior to 2007 and average industry combined ratios accessed 
through SNL Financial data service. 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


            f. Success in Winding Down AIGFP Positions; how much of 
                    AIGFP's Operations will be Continued?
    AIG plans to exit the ``vast majority of the risk'' within 
AIGFP by year-end 2010. Public disclosure regarding the unit's 
holdings and Panel staff conversations with management indicate 
that this wind-down process has moved ahead at a rapid 
pace.\792\ The process has been aided by the improved market 
backdrop, with higher asset values and a healing credit market 
helping to maintain--and in some cases increase--the 
portfolio's value, in addition to facilitating sales. Further, 
given the current management team's desire to avoid disposing 
of assets at fire-sale prices, the economics from this process 
have also benefited from a longer time horizon (in the context 
of a recovery in many asset classes) and strengthened 
negotiating position.\793\
---------------------------------------------------------------------------
    \792\ AIGFP Chief Operating Officer Gerry Pasciucco briefing with 
Panel staff (Apr. 23, 2010).
    \793\ Testimony of Robert Benmosche, supra note 28; AIGFP Chief 
Operating Officer Gerry Pasciucco briefing with Panel staff (Apr. 23, 
2010).
---------------------------------------------------------------------------
    AIG's outstanding trade positions declined by 54 percent in 
2009. The notional amount of non-credit derivatives exposure 
fell by 49 percent in 2009, while credit derivatives declined 
39 percent during the year; overall, the firm's derivatives 
portfolio declined by 41 percent, from $1.6 trillion to $941 
billion. The pace of declines continued in the first quarter of 
2010, with notional amounts in the credit book down an 
incremental 26 percent, and overall trade positions declining 
by 11 percent.

FIGURE 36: WIND-DOWN OF AIGFP'S PORTFOLIO, THIRD QUARTER 2008 TO FIRST 
                           QUARTER 2010 \794\

      
---------------------------------------------------------------------------
    \794\ American International Group, Inc., The Restructuring Plan: 
AIG Financial Products Corp. Unwind Progress (online at 
www.aigcorporate.com/restructuring/windownofFP.html) (accessed June 9, 
2010). Due to FAS 161, FP is changing its methodology for computing 
notional, leading to a slight increase of previously reported values 
for Q3 (actual $1.9b) and Q4 2009 (actual $1.6b). The notional amount 
of derivatives outstanding for the first quarter of 2010 is $755.4 
billion.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



    While the company has sought to balance overly hasty exits 
from certain positions with a desire to reduce significantly 
AIGFP's risk exposures in an expedited manner, the underlying 
bias has been to dispose of assets as quickly as possible 
whenever possible. While difficult to verify (beyond the 
reduced volatility in quarter-over-quarter results), management 
asserted to Panel staff that this process has targeted the most 
complex risk first, which would suggest that its remaining 
exposures are not tainted by a ``survivor's bias.'' \795\ And 
from a systemic risk standpoint, as exposures have been sold or 
otherwise hedged, the capital markets portfolio's exposure to 
market volatility has declined approximately 80 percent since 
year-end 2008.\796\ The number of trading counterparties has 
declined approximately 43 percent during this period.
---------------------------------------------------------------------------
    \795\ AIGFP Chief Operating Officer Gerry Pasciucco briefing with 
Panel staff (Apr. 23, 2010).
    \796\ AIG presentation to COP, ``AIG Financial Products Corp. 
Unwind Progress.'' AIGFP's ``Gross Vega'', the sum of all individual 
positions' absolute exposures as if each position is not hedged, has 
declined from $1.30 billion to $0.22 billion, as of the first quarter 
of 2010.
---------------------------------------------------------------------------
    Accordingly, this reduction in exposure and counterparties, 
as well as the improved market backdrop, has significantly 
diminished--but not yet eliminated--AIGFP's vulnerability to a 
severe market disruption.\797\ The company noted that AIGFP's 
exposure to cash calls from counterparties due to a downgrade 
of its credit ratings declined from $20 to $22 billion at the 
beginning of 2009 to approximately $4 billion today.\798\
---------------------------------------------------------------------------
    \797\ Jim Millstein described the goal in his May 26, 2010 
testimony before the Panel: AIGFP's ``risk profile will need to be 
reduced to the level where potential losses are inconsequential to the 
parent company's financial condition. More specifically, investors must 
be satisfied that AIGFP does not pose a substantial threat to the 
Company's liquidity position, even in times of stress.'' Testimony of 
Jim Millstein, supra note 44, at 9-10.
    \798\ Testimony of Robert Benmosche, supra note 28; AIG Form 10-Q 
for the First Quarter 2010, supra note 731, at 158.
---------------------------------------------------------------------------
    Figure 37 below provides a more detailed view of the 
evolution of AIGFP's CDS portfolio, outlining the composition 
and losses from 2007 through the first quarter of 2010. AIGFP 
recorded a positive valuation gain in 2009 of $1.4 billion vs. 
a loss of $28.6 billion in 2008. Tighter credit spreads were no 
doubt a key factor in the modest gain, although the size of 
AIGFP's book declined dramatically following the cancelation of 
multi-sector CDS contracts associated with the ML3 
transaction.\799\ Even so, these results reflected losses 
within the legacy remnants of the much reduced multi-sector CDS 
portfolio ($669 million in 2009 vs. $25.7 billion in 2008). The 
negative impact of these legacy exposures was offset, however, 
by a positive swing in AIGFP's corporate CDO book ($1.9 billion 
gain in 2009 vs. $2.3 billion loss in 2008). First quarter 2010 
results reflected a modest valuation gain of $119 million 
across the entire credit portfolio.\800\ Since 2008, the 
biggest reductions have been achieved in the firm's regulatory 
capital swap portfolio, as would be expected given the relative 
size of this portfolio and the nature of the underlying 
contracts.\801\
---------------------------------------------------------------------------
    \799\ AIG Form 10-K for FY09, supra note 50, at 38.
    \800\ AIG Form 10-Q for the First Quarter 2010, supra note 731.
    \801\ See the discussion of regulatory capital swaps in Section 
B.3.

                                           FIGURE 37: AIGFP CDS PORTFOLIO, 2007 TO FIRST QUARTER OF 2010 \802\
                                                                  [Dollars in millions]
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                        Net Notional Amount                      Unrealized Valuation Gain (Loss)
                                                         -----------------------------------------------------------------------------------------------
                                                                    FY Ending 12/31            Q1 (3/31)            FY Ending 12/31            Q1 (3/31)
                                                         -----------------------------------------------------------------------------------------------
                                                             2007        2008        2009        2010        2007        2008        2009        2010
--------------------------------------------------------------------------------------------------------------------------------------------------------
Regulatory Capital:
Corporate loans.........................................   $229,313    $125,628     $55,010     $41,993          --          --          --          --
Prime residential mortgages.............................    149,430     107,246      93,276      65,844          --          --        $137         $33
Other...................................................         --       1,575       1,760       1,552          --      $(379)          35           6
    Total...............................................    378,743     234,449     150,046     109,389          --       (379)         172          39
Arbitrage:
Multi-sector CDOs.......................................     78,205      12,556       7,926       7,574    (11,246)    (25,700)       (669)         158
Corporate debt/CLOs.....................................     70,425      50,495      22,076      16,367       (226)     (2,328)       1,863         (7)
    Total...............................................    148,630      63,051      30,002      23,941    (11,472)    (28,028)       1,194         151
Mezzanine Tranches......................................      5,770       4,701       3,478       3,104          --       (195)          52        (71)
    Grand Total.........................................   $533,143    $302,201    $183,526    $136,434   $(11,472)   $(28,602)      $1,418       $119
--------------------------------------------------------------------------------------------------------------------------------------------------------
\802\ Form 10-K for FY09, supra note 50, at 130; AIG Form 10-K for FY07, supra note 41; AIG Form 10-Q for the First Quarter 2010, supra note 731.

    Looking ahead, AIG is not anticipating a swift exit from 
the balance of its positions within AIGFP, given that in many 
instances the risk/reward calculus favors holding certain 
assets to maturity.\803\ For example, AIGFP's regulatory 
capital book is expected to substantially roll off in the next 
12 months, as European financial institutions transition from 
the Basel I regulatory capital framework. AIG is confident that 
it will not have to make any payments associated with potential 
triggers or the expiration of these contracts.\804\ 
Additionally, other assets and hedges are byproducts of the 
insurance operations of the firm, and will not be wound down, 
absent a change in the underlying nature of AIG's insurance 
business.
---------------------------------------------------------------------------
    \803\ Panel conversation with AIGFP COO Gerry Pasciucco briefing 
with Panel staff (04/23/10);
    \804\ AIG Form 10-K for FY09, supra note 50, at 27 (``Given the 
current performance of the underlying portfolios, the level of 
subordination and AIGFP's own assessment of the credit quality of the 
underlying portfolio, as well as the risk mitigants inherent in the 
transaction structures, AIGFP does not expect that it will be required 
to make payments pursuant to the contractual terms of those 
transactions providing regulatory capital relief'').
---------------------------------------------------------------------------
    AIG's management asserts that AIGFP is effectively on the 
verge of entering run-off mode status in 2010, a phase that 
will require significantly less expertise to manage what is 
expected to be a portfolio across credit and non-credit asset 
classes of several thousand positions, in comparison to about 
14,000 today and 44,000 at the end of September 2008.\805\ 
Ultimately, the aim is to absorb the remaining portfolio into 
AIG. Ultimately, this business is expected to evolve into the 
treasury function of a financial company, a cost center (as 
opposed to a profit center) tasked with managing the capital 
markets exposures and funding needs of the overall business.
---------------------------------------------------------------------------
    \805\ AIGFP COO Gerry Pasciucco briefing with Panel staff (Apr. 23, 
2010); Testimony of Jim Millstein, supra note 44.
---------------------------------------------------------------------------

  FIGURE 38: NUMBER OF AIGFP'S TRADE POSITIONS, THIRD QUARTER 2008 TO 
                           FIRST QUARTER 2010


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


3. Treasury's Plan for Exit

    Consistent with other investments in financial 
institutions, Treasury describes itself as a ``reluctant 
shareholder'' in AIG, forgoing its ability to become involved 
in the company's day-to-day operations.\806\ Further, Treasury 
maintains that it will divest its holdings as soon as 
practicable; \807\ in its view, monetizing the investments in 
AIG on behalf of the taxpayer will take time. In addition, 
Treasury has a junior preference--below FRBNY--in recouping 
funds from AIG; thus, while recent news surrounding the sale of 
AIA and ALICO increases the likelihood of the FRBNY credit 
facility being paid back in full, some uncertainty continues to 
surround Treasury's investment.\808\ As of May 27, 2010, AIG 
and its affiliated entities' total obligations to FRBNY and 
Treasury were as follows:
---------------------------------------------------------------------------
    \806\ See Testimony of Jim Millstein, supra note 44, at 1; House 
Oversight and Government Reform Committee, Joint Written Testimony of 
Jill M. Considine, Chester B. Feldberg, and Douglas L. Foshee, 
trustees, AIG Credit Facility Trust, AIG: Where is the Taxpayer Money 
Going, at 5 (online at oversight.house.gov/images/stories/documents/
20090512165555.pdf); Written Testimony of Herb Allison, supra note 396, 
at 5.
    \807\ See Testimony of Jim Millstein, supra note 44, at 1; AIG 
Credit Facility Trust Agreement, supra note 377. See also January 
Oversight Report, supra note 637, at 28-32 (discussing Treasury's exit 
strategy for the disposal of assets held in relation to TARP). Written 
Testimony of Herb Allison, supra note 396, at 5.
    \808\ See further discussion of the relationship between Treasury 
and FRBNY in Section G.

FIGURE 39: OUTSTANDING GOVERNMENT ASSISTANCE TO AIG (AS OF MAY 27, 2010)
                                  \809\
                          [Dollars in billions]
Fed Revolving Credit Facility (outstanding principal)......       $26.1
Treasury Investment (SSFI)/AIGIP...........................        41.6
                                                            ------------
    Total..................................................        67.7
Maiden Lane III (amount outstanding and accrued interest)..        16.6
Maiden Lane II (amount outstanding and accrued interest)...        14.9
                                                            ------------
    Total..................................................        31.5
    Subtotal...............................................        99.2
Equity Capital Facility (drawdown).........................         7.5
                                                            ------------
Current Exposure...........................................       106.7
Preferred Interest in AIA and ALICO SPVs...................        25.6
                                                            ------------
    Total Exposure.........................................       132.3
Fed........................................................        83.2
Treasury...................................................        49.1
                                                            ------------
    Total..................................................       132.3
                                                                 (31.5)
                                                            ------------
Assistance on AIG's Balance Sheet..........................     $100.8
------------------------------------------------------------------------
\809\ Treasury Transactions Report, supra note 2, at 18; Board of
  Governors of the Federal Reserve System, Factors Affecting Reserve
  Balances (H.4.1) (online at www.federalreserve.gov/Releases/H41/
  Current/) (hereinafter ``Federal Reserve H.4.1 Statistical Release'')
  (accessed June 2, 2010).

    As illustrated above, certain investments in AIG do not 
require the company to either repurchase preferred shares at a 
particular liquidation preference or pay back drawdowns of 
capital facilities. These vehicles include both ML2 and ML3, as 
well as Series C convertible preferred stock, which is being 
held in the AIG Credit Facility Trust for the benefit of the 
U.S. Treasury. Loans extended to ML2 and ML3 are secured by the 
underlying assets in the portfolio and do not represent a 
direct obligation of AIG. The preferred stock, which is 
convertible into approximately 80 percent of AIG's common 
shares outstanding, is managed through a trust, as discussed 
above.\810\
---------------------------------------------------------------------------
    \810\ See Section D.6(b), supra.
---------------------------------------------------------------------------
    The government's current plan, a ``hold'' strategy, which 
appears to be the objective of Treasury and the Federal 
Reserve, may have several advantages.\811\ First, realizing the 
intrinsic value of CDOs and RMBS purchased by ML2 and ML3 will 
likely take time, given the difficulties in obtaining 
reasonable prices for these types of assets.\812\ Second, a 
more patient approach may increase AIG's ability to repay its 
obligations to the federal government as economic conditions 
continue to improve. ``The slower approach to restructuring 
could help AIG to generate more favorable values from its 
business portfolio than would be the case under rushed asset 
sales,'' Moody's Investors Service has noted.\813\ Third, in 
early 2010 Mr. Benmosche cautioned that corporate earnings will 
likely remain subject to ``continued volatility'' as the 
company continues its restructuring process. While 2010 first 
quarter earnings were much improved, it may be somewhat 
premature to conclude that the earnings volatility that 
occurred in 2009 is no longer a concern because claims relating 
to catastrophes such as the ones that the company faces from 
the earthquake in Chile, the explosion of an oil rig in the 
Gulf of Mexico and unrealized gains (losses) from its 
securities portfolios present near-term risks. This point is 
highlighted by the fact that the net loss attributable to AIG 
in the fourth quarter of 2009 was $8.9 billion. This came after 
the company posted net income of $1.8 billion and $455 million 
in the previous two quarters. As Figure 40 below shows, a true 
earnings trend has yet to emerge.
---------------------------------------------------------------------------
    \811\ A ``hold'' strategy does not necessarily imply that the 
government intends to hold its investments over the long-term but 
rather that the Federal Reserve and Treasury will dispose of these 
assets as soon as practical.
    \812\ FRBNY stated that this equity interest ``has the potential to 
provide a substantial financial return to the American people should 
the $85 billion loan, as anticipated, provide AIG with the intended 
breathing room to execute a value-maximizing strategic plan.'' Federal 
Reserve Bank of New York, Statement by the Federal Reserve Bank of New 
York Regarding AIG Transaction (Sept. 29, 2008) (online at 
www.newyorkfed.org/newsevents/news/markets/2008/an080929.html).
    \813\ See Moody's Investors Service, Issuer Comment: Moody's Sees 
AIG Holding its Ground Through 3Q09 (Nov. 9, 2009).

                                        FIGURE 40: AIG NET INCOME/(LOSS)
                                              [Dollars in millions]
----------------------------------------------------------------------------------------------------------------
     Q1 2008        Q2 2008     Q3 2008     Q4 2008     Q1 2009     Q2 2009     Q3 2009     Q4 2009     Q1 2010
----------------------------------------------------------------------------------------------------------------
$(7,805)           $(5,357)   $(24,468)   $(61,659)    $(4,353)      $1,822        $455    $(8,873)      $1,451
----------------------------------------------------------------------------------------------------------------

    While the restructuring process is under way, it remains to 
be seen if this is the best course of action for AIG and U.S. 
taxpayers. In a recent interview, Mr. Benmosche stated that 
``the most important thing is to raise enough money so that we 
can pay back the Federal Reserve.'' \814\ He goes on to suggest 
after the closing of the AIA and ALICO sales, formal talks 
could begin with the government over an exit, and cited the 
next 12 to 18 months as the period in which many issues would 
be addressed.\815\ As discussed above, the withdrawal of 
Prudential's offer to purchase AIA delays this timetable.
---------------------------------------------------------------------------
    \814\ Karan Iyer, Report: Benmosche Says AIG on Track to Repay 
Government, SNL Financial (Apr. 3, 2010) (online at www.snl.com/
interactivex/article.aspx?Id=10978787&KPLT=2).
    \815\ Id.
---------------------------------------------------------------------------
    When other goals that the company set forward for 2010 have 
been reached, such as closing the sales of Nan Shan and ALICO, 
the rate at which the government can decrease its exposure may 
become clearer, but will continue to depend upon the future 
profitability of AIG's core property & casualty insurance, and 
to a lesser extent, its domestic life and retirement services 
businesses. As discussed in Section I.2(d), AIG's property & 
casualty insurance business is in the midst of a soft market, 
and questions persist with respect to the adequacy of its 
reserves.
    In 2009, broad market and credit conditions prevented 
Treasury and AIG's management from articulating a credible 
government exit strategy from AIG. That may be changing, 
however. In total, Treasury has invested approximately $49 
billion in the insurer. Recent comments by the CEO and 
government officials indicate that a framework for Treasury to 
divest its holdings in the company could come later this year. 
This would be consistent with recent reports indicating that a 
board panel has hired Rothschild as an independent financial 
advisor, in addition to the advisors management has hired to 
aid in the restructuring efforts. Treasury also owns warrants 
in AIG; and although Treasury has not articulated how those 
warrants would be disposed of, one option would be the approach 
taken with financial institutions under the CPP.
    It remains to be seen whether the failure to close the AIA 
sale with Prudential diminishes the underlying value of the 
asset--investment banks advising AIG maintain that an IPO would 
result in an enterprise value greater than Prudential's revised 
offer of $30.4 billion--but the failure to close does delay the 
timing in which FRBNY is paid back. In turn, the timetable by 
which Treasury is paid back is pushed further into the future.

                       J. Executive Compensation


1. General \816\

    It is not surprising that the large group of companies that 
AIG owned (with an employee complement of over 100,000) \817\ 
would have many different compensation arrangements. The 
company told SIGTARP that, as of March 2009, it had 
``approximately 630 compensation plans,'' \818\ involving 
bonuses, retention awards, and deferred compensation schemes. 
Some plans covered employees of AIG itself and others covered 
employees of the subsidiaries.\819\
---------------------------------------------------------------------------
    \816\ Parts a and b of this discussion are based upon a SIGTARP 
report released in October 2009. Office of the Inspector General for 
the Troubled Asset Relief Program, Extent of Federal Agencies' 
Oversight of AIG Compensation: Varied and Important Challenges Remain 
(Oct. 14, 2009) (SIGTARP-10-002) (online at www.sigtarp.gov/reports/
audit/2009/Extent_ of_Federal_Agencies%27_Oversight 
_of_AIG_Compensation _Varied_and_Important_Challenges 
_Remain_10_14_09.pdf) (hereinafter ``SIGTARP Report on Oversight of AIG 
Compensation'').
    \817\ Data indicate that the AIG group of companies had 106,000 
employees as of June 30, 2009. SIGTARP Report on Oversight of AIG 
Compensation, supra note 816, at 7 note 7.
    \818\ SIGTARP Report on Oversight of AIG Compensation, supra note 
816, at 7.
    \819\ SIGTARP Report on Oversight of AIG Compensation, supra note 
816, at 7.
---------------------------------------------------------------------------
    Historically, the structure and management of AIG's 
compensation plans were decentralized, and no approval of plan 
grants or terms at the company's subsidiaries was required at 
the holding company level. That fact made it hard for 
government officials, and for AIG officials themselves, 
initially to comprehend the scope, ongoing cost, coverage, and, 
even more important, the amounts payable under those plans. The 
difficulties were compounded by the incompatibility of AIG's 
information systems.

2. Initial Government Involvement

    The FRBNY review of AIG's financial and management issues, 
which started in early October 2008, led to its concern about 
AIG's pending and future compensation plans, especially 
liabilities for payments of $1 billion in the nearly nine 
months following the installation of the RCF. That concern led 
to the reduction of the company's 2008 bonus pool by 30 percent 
compared to 2007. FRBNY has played a continuing role in working 
with the company on its overall compensation programs, and has 
become the most informed of those agencies involved in the 
rescue on AIG compensation issues.
    Treasury imposed specific compensation restrictions as part 
of its TARP investment. These restrictions applied to 57 then-
senior employees. They limited golden parachute payments, 
placed a ceiling on 2009 incentive compensation of 3.5 percent 
of 2008 base salary plus bonus, placed a ceiling on the size of 
senior executive bonus pools based on 2006-07 pools, and 
restricted payments of bonuses or cash awards out of TARP 
funds.\820\ SIGTARP found, however, that ``Treasury essentially 
relied on what it was told [about AIG's compensation 
arrangements] . . . and did not conduct direct oversight of 
AIG's executive compensation prior to March 19, 2009.'' \821\
---------------------------------------------------------------------------
    \820\ See American International Group, Inc., Fixed Rate Cumulative 
Perpetual Preferred Stock Offering, at section 4.10 (Nov. 25, 2008) 
(online at www.financialstability.gov/docs/agreements/
AIG_Agreement_11252008.pdf) (outlining the securities purchase 
agreement between AIG and Treasury).
    \821\ SIGTARP Report on Oversight of AIG Compensation, supra note 
816, at 22.
---------------------------------------------------------------------------
    FRBNY, on the other hand, even in the formal credit 
agreement creating the RCF, made no effort to condition future 
assistance on compensation restrictions for AIG senior 
management. Although such restrictions were arguably 
unnecessary after June 2009--when Treasury's executive 
compensation rules were placed in effect--no effort comparable 
to that undertaken by Treasury was made beforehand, despite the 
Reserve bank's superior knowledge of AIG's compensation 
arrangements. Whether or not the agreements were legally 
binding, it is not uncommon to renegotiate compensation 
packages as a condition of providing financing for a company.

3. The AIGFP Retention Payments

    In 2007 and 2008, AIGFP changed some of its compensation 
arrangements to create retention award agreements for employees 
whose deferred compensation had lost value because of AIG's 
financial reversals. According to AIG, the agreements, which 
provided for a total of approximately $475 million to be 
distributed over two years, were designed not to reward 
employees for their performance, but instead to keep employees 
in place so that they could ``wind down the complex trades and/
or continue AIGFP's general operations.'' \822\
---------------------------------------------------------------------------
    \822\ SIGTARP Report on Oversight of AIG Compensation, supra note 
816, at 12.
---------------------------------------------------------------------------
    In March 2009 AIG paid approximately $168 million in 
retention awards payments to roughly 400 AIGFP employees. (The 
remaining amounts are payable in 2010.) The payments, not 
surprisingly, generated much public criticism, both in Congress 
and the Administration. (Apparently, FRBNY learned of the AIGFP 
retention programs in November 2008, but did not tell Treasury 
about them until the end of February 2009.) SIGTARP concluded 
that ``Treasury's failure to discover the scope and scale of 
AIG's executive compensation obligations, in particular at 
AIGFP, potentially resulted in a missed opportunity to avoid 
the explosively controversial events and created considerable 
public and Congressional concern over the retention payments.'' 
\823\ At the same time, however, SIGTARP found that government 
and private lawyers--who reviewed the employment contracts on 
behalf of AIG, the FRBNY, and the Treasury Department--had 
concluded that the contracts were binding and that AIG was 
required by law to make the retention payments. But one of the 
conditions of Treasury's Equity Capital Facility was an 
agreement by AIG to pay a $165 million commitment fee within 
five years to Treasury on account of the retention agreement 
awards.\824\
---------------------------------------------------------------------------
    \823\ See, e.g., Testimony of Edward Liddy, supra note 91, at 3 
(``[I]t is regrettable that we have even reached this point. When the 
press first reported about the AIG Financial Products retention bonuses 
in late January, I called Mr. Liddy to express my concerns that paying 
out such sums to the very division that engaged in the risky behavior 
that warranted the government's bailout would rightly incite a public 
outcry * * * Unfortunately, my sound advice went unheeded, the company 
hid behind legal technicalities, and the public outcry that I predicted 
happened: AIG has become the subject of considerable public scorn, and 
the public's interest in providing ongoing, sustainable support to 
repair our struggling financial system has plummeted.'').
    \824\ U.S. Department of the Treasury, Securities Purchase 
Agreement, Dated as of April 17, 2009, Between American International 
Group, Inc. and United States Department of the Treasury, at Section 
1.2 (Apr. 17, 2009) (online at www.financialstability.gov/docs/
agreements/Series.F.Securities.Purchase.Agreement.pdf).
---------------------------------------------------------------------------
    The retention payments raise three difficult issues. The 
first is one of policy, namely whether the need to retain 
employees who understood and could unwind AIGFP's CDS trades to 
reduce AIG's continuing liabilities, outweighed the need to 
clean house at AIGFP. The second is why FRBNY did not push 
AIGFP to renegotiate the agreements, especially since AIGFP was 
the company whose operations had led to the crisis at the 
company. The third is the failure of FRBNY to tell Treasury 
about the retention program for more than three months and to 
consider the way to deal with the payments.

4. The Special Master

    Like all recipients of TARP assistance, AIG is subject to 
both statutory \825\ and regulatory \826\ executive 
compensation standards. In general, the rules apply to AIG's 
``top 5 most highly paid executives'' \827\ and various other 
employees.\828\ The rules (and the rules relating to the 
Special Master, discussed immediately below) apply until the 
date ``no obligation arising from the . . . assistance . . . 
remains outstanding.'' \829\
---------------------------------------------------------------------------
    \825\ The statutory standards are found in EESA section 111. The 
text of section 111 in force after February 17, 2009 is contained in 
section 7001 of the American Recovery and Reinvestment Act, Pub. L. No. 
111-5 (Feb. 17, 2009) (``ARRA''), which almost completely recast, and 
toughened, the original EESA language, EESA Sec. 111(a)(5). The fact 
that an institution's stock warrants remain outstanding does not in 
itself require continuation of the compensation restrictions. However, 
section 111 also applies during the period of the actual federal 
``ownership'' of the common stock of a TARP recipient. See 31 CFR 
Sec. 30.2.
    \826\ The regulatory standards are found in the Interim Final Rule, 
entitled ``TARP Standards for Compensation and Corporate Governance.'' 
31 CFR Sec. Sec. 30.0-30.17 (June 15, 2009) (online at 
ecfr.gpoaccess.gov/cgi/t/text/text-
dx?c=ecfr;sid=00de395363b27bcc941de94d3b128136;rgn=div5; 
view=text;node=31%3A1.1.1.1.28;idno=31;cc=ecfr).
    \827\ EESA Sec. 111(a)(1). The five executives, called ``senior 
executive employees,'' must each be an individual ``whose compensation 
is required to be disclosed under the Securities Exchange Act, ``and 
non-public company counterparts.'' Id.
    \828\ As set out in EESA section 111(b)(3)(A-F), they include: 
exclusion, for senior executive officers of compensation incentives to 
take ``unnecessary risks''; a required ability by the institution to 
recover (or ``clawback'') ``bonus, retention, or incentive 
compensation, for senior executive officers and the institution's 20 
next most highly-compensated employees, ``based on statements of 
earnings, revenues, gains, or other criteria . . . later found to be 
materially inaccurate;'' prohibition of any plan whose terms would 
``encourage manipulation of earnings . . . to enhance the compensation 
of any of its employees;) of compensation; a prohibition on golden 
parachute payments to a senior executive officer and any of the 
institution's next 5 most highly-compensated employees; a requirement 
that bonuses, incentive awards, or incentive compensation, for, in the 
case of an institution of AIG's size, senior executive officers and the 
next 20 most highly-compensated employees, except through ``long-term 
restricted stock'' that (i) cannot ``fully vest'' while obligations 
arising from TARP assistance are outstanding, and (ii) has a value no 
greater than one-third of the individual's total annual compensation. ; 
and creation of an independent compensation committee of the 
institution's board of directors to review compliance with the 
foregoing standards. (As a company listed on the New York Stock 
Exchange, AIG was already required to have an independent compensation 
committee of its board of directors.) An institution's board is also 
required to adopt a strict policy limiting ``perquisites,'' EESA 
section 111(d). Finally, Treasury must review any bonuses and other 
compensation paid to the senior executive officers and the next most 
highly paid employees of each entity that receives TARP assistance 
before February 17, 2009, to determine if the bonuses are (i) 
inconsistent with the purposes of section 111, (ii) inconsistent with 
the TARP, or (iii) contrary to the public interest. In any case in 
which Treasury makes that determination, it must ``seek to negotiate'' 
with both the institution and the recipient of the compensation for 
``appropriate reimbursements to the government.'' EESA section 111(f).
    \829\ EESA section 111(a)(5). The fact that an institution's stock 
warrants remain outstanding does not in itself require continuation of 
the compensation restrictions. Id. However, section 111 also applies 
during the period of the actual federal ``ownership'' of the common 
stock of a TARP recipient. See 31 CFR Sec. 30.2.
---------------------------------------------------------------------------
    Under Treasury's implementing regulations, AIG's 
compensation arrangements are subject to an additional set of 
more restrictive rules. Because AIG is one of the companies 
deemed to have received ``exceptional financial assistance,'' 
\830\ it is one of the companies subject to the jurisdiction of 
the Special Master for TARP Executive Compensation, Kenneth R. 
Feinberg, for the same period as that in which the general 
rules apply.\831\ The Special Master, who is appointed by the 
Treasury Secretary,\832\ must (i) agree to the amount and type 
of compensation to be paid to AIG's 25 most senior executives, 
and (ii) fix parameters for setting compensation for other 
individuals whom relevant SEC rules classify as AIG executive 
officers, and for the company's next 100 most highly-paid 
employees.
---------------------------------------------------------------------------
    \830\ The term ``exceptional financial assistance'' means any 
financial assistance provided under the SSFI, the TIP, the Automotive 
Industry Financing Program, and any new program designated by the 
Secretary as providing exceptional financial assistance. 31 CFR 
Sec. 30.1.
    \831\ For 2009, AIG was one of seven companies subject to the 
approval requirement; Bank of America, Chrysler, Chrysler Financial, 
Citigroup, General Motors, and GMAC were the others. The number shrunk 
to five for 2010, because Bank of America and Citigroup repaid the TARP 
assistance that had placed them in the group of institutions subject to 
the mandatory approval rules. On May 17, 2010, Treasury announced that 
Chrysler Financial had exited the TARP after its parent company, 
Chrysler Holding, repaid an outstanding loan of $1.9 billion. On May 
14, 2010. As a result, that company is also no longer required to 
comply with the TARP executive compensation restrictions, for periods 
after May 14; Treasury staff has indicated that the rules do not permit 
the company to adjust its post-repayment compensation to make up for 
amounts that might have been paid or earned, but for the relevant caps, 
for the period before repayment.
    \832\ Mr. Feinberg is a Washington lawyer whose specialty is 
mediation, resolution of multi-party claims, and administration of 
settlement funds. He was, for example, Special Master of the September 
11th Victims Compensation Fund, Special Master in the Agent Orange, 
asbestos, Dalkon shield and DES (pregnancy medication) cases, 
administrator for the Memorial Fund created after the shootings at 
Virginia Tech and the fund created by the settlement of SEC claims 
against AIG (arising from pre-2008 conduct), and, on behalf of several 
insurance companies, manager of resolution of claims disputes arising 
from Hurricane Katrina claims. Feinberg was appointed Special Master in 
June 2009.
---------------------------------------------------------------------------
    The Special Master reviewed the company's compensation 
proposals and made a determination of appropriate compensation 
levels (i.e., those levels that he would approve). In his 
review, he applied the following standards:\833\ (i) base cash 
salary should not exceed $500,000 except in ``appropriate cases 
for good cause shown,'' (ii) executives should receive the bulk 
of their compensation in the form of units of ``restricted 
stock,'' (iii) total compensation should be comparable to total 
compensation for similarly situated employees in similar 
companies, (iv) employees could be eligible for long-term 
incentive awards if they achieve certain performance 
objectives, and (iv) all incentive compensation had to be 
subject to a ``clawback'' if it were subsequently discovered 
that it was paid on the basis of materially inaccurate 
information.\834\
---------------------------------------------------------------------------
    \833\ Letter from Kenneth R. Feinberg, special master for TARP 
executive compensation, U.S. Department of the Treasury, to Robert 
Benmosche, president and chief executive officer, American 
International Group, Inc., Proposed Compensation Payments and 
Structures for Senior Executive Officers and Most Highly Compensated 
Employees (Oct. 22, 2009) (online at www.treas.gov/press/releases/docs/
20091022%20AIG%20Letter.pdf). He also applied similar standards in 
reviewing the compensation structures of covered employees 26-100 in 
both 2009 and 2010. The standards are consistent with those applied to 
the other institutions within the Special Master's jurisdiction.
    \834\ The general executive compensation rules limit executive 
compensation to no more than 1/3 of an employee's total compensation 
and require that it be paid in restricted stock, that is, stock whose 
vesting and ultimate sale are extended over time. The ``clawback'' 
provision is also part of the general rules.
---------------------------------------------------------------------------
    Due to employee turnover, the Special Master set the 
compensation of only 13 senior AIG executives for 2009 and 22 
such executives for 2010. For 2009, the highest compensation 
figure approved for the ``Top 25'' employees was $10.5 million 
and the lowest was $100,000. For 2010, the highest was $10.5 
million, and the lowest was $312,500.\835\ In addition, the 
Special Master sought to recoup a portion of March 2009 
retention awards. After AIGFP employees satisfied their pledge 
to return $45 million of the retention payments they received 
in 2009, the Special Master permitted AIG to pay these 
employees ``non-cash compensation'' in 2010. He also determined 
that with only one exception, all AIGFP executives who received 
retention awards in 2010 would have their 2010 salaries frozen 
at the levels he set in 2009.\836\
---------------------------------------------------------------------------
    \835\ FRBNY has worked with Treasury and the Special Master, to 
some extent, especially by providing information based on its knowledge 
of AIG's compensation arrangements and practices.
    \836\ U.S. Department of the Treasury, Letter from Kenneth R. 
Feinberg, Proposed Compensation Payments and Structures for Senior 
Executive Officers and Most Highly Compensated Employees, at A10 
(``Covered Employees 1-25'') (Mar. 23, 2010) (online at 
www.financialstability.gov/docs/
20100323%20AIG%202010%20Top%2025%20Determination%20(3-23-10).pdf).
---------------------------------------------------------------------------
    An illustration of the Special Master's approach is 
provided by the level of compensation he approved for Mr. 
Benmosche, who became AIG's CEO in mid-2009. Staff of the 
Special Master's office has cited several factors to support 
that figure: (i) Mr. Benmosche was new to the company and had 
in no way been involved in the conditions that led to the 
company's difficulties, (ii) Mr. Benmosche was an experienced 
insurance executive, (iii) a certain compensation level was 
necessary to attract the sort of experienced individual willing 
to tackle a situation such as AIG's, (iv) that level was in the 
range of what is paid to individuals holding comparable 
positions at comparable companies, and, perhaps most important, 
(v) $7.5 of the $10.5 million in Mr. Benmosche's package was 
composed of long-term equity that will have value only if his 
efforts were successful.
    The company allegedly has chafed against the determinations 
of the Special Master in some cases, and a few senior 
executives have left the company because of proposed limits on 
their compensation.\837\ The Chairman's Message at the 
beginning of the 2009 AIG Annual Report notes that:

    \837\ On December 11, 2009, The New York Times reported that five 
of AIG's top executives, including general counsel Anastasia Kelly, had 
exercised a ``right to severance'' afforded to them by a company 
executive plan that permitted them to claim severance if their pay and 
responsibilities were reduced. At least three of the five subsequently 
withdrew their claims. Mary Williams Walsh and Louise Story, A.I.G. 
General Counsel Set to Depart Over Pay, The New York Times (Dec. 10, 
2009) (online at dealbook.blogs.nytimes.com/2009/12/11/aig-general-
counsel-is-set-to-depart-amid-talks-on-pay/).

          The Board has been intently focused on . . . dealing 
        with the pay guidelines and restrictions imposed by the 
        Special Master, who has ultimate authority over a 
        number of major compensation decisions. While we can 
        pay the vast majority of people competitively, on 
        occasion, these restrictions and his decisions have 
        yielded outcomes that make little business sense. For 
        example, in some cases, we are prevented from providing 
        market competitive compensation to retain some of our 
        own most experienced and best executives. This hurts 
        the business and makes it harder to repay the 
        taxpayers.\838\
---------------------------------------------------------------------------
    \838\ American International Group, Inc., AIG 2009 Annual Report, 
at 2 (Feb. 26, 2009) (online at www.aigcorporate.com/investors/
2010_April/2009AnnualReport.pdf) (emphasis added).

    The SIGTARP Executive Compensation Report reports that 
``AIG documents indicate that dozens of Directors and Officers 
have resigned across the Commercial Insurance, Worldwide Life 
Insurance, Investments, and Financial Products businesses.'' 
\839\ The losses are apparently ``especially acute'' at AIGFP, 
but the Report does not indicate how many of the affected 
individuals were subject to the Special Master's 
determinations.\840\
---------------------------------------------------------------------------
    \839\ SIGTARP Report on Oversight of AIG Compensation, supra note 
816, at 19.
    \840\ SIGTARP Report on Oversight of AIG Compensation, supra note 
816, at 20.
---------------------------------------------------------------------------
    The Special Master has generally rejected such assertions 
from the companies under his jurisdiction. In testimony before 
the House Committee on Financial Services on February 25, 2010, 
he stated:

          I'm dubious about that claim. Now, I will say this, 
        first, the determinations we have made were only made 
        last October, last December. We don't see any exit of 
        individuals from these companies.
          Whatever individuals were exiting these companies, I 
        suggest exited long before compensation determinations 
        were made by this office. There were quite a few 
        vacancies when I took over this assignment. But I don't 
        see exiting. We have to take that into account. It 
        certainly impacts our decisions on compensation. But 
        I'm rather dubious about that claim.\841\
---------------------------------------------------------------------------
    \841\ House Committee on Financial Services, Testimony of Kenneth 
R. Feinberg, special master for TARP executive compensation, U.S. 
Department of Treasury, Compensation in the Financial Industry--
Government Perspectives (Feb. 25, 2010) (online at www.house.gov/apps/
list/hearing/financialsvcs_dem/hr_021810.shtml). One of the principles 
governing the Special Master's work is to the need to retain 
competitiveness to permit repayment of TARP assistance. 31 CFR 
Sec. 30.16(b)(1)(ii) (``The compensation structure, and amount payable 
where applicable, should reflect the need for the TARP recipient to 
remain a competitive enterprise, to retain and recruit talented 
employees who will contribute to the TARP recipient's future success, 
and ultimately to be able to repay TARP obligations.'').
---------------------------------------------------------------------------

5. Effect on AIG's Future

    Analysts and rating agencies have cited executive turnover 
as one cause for concern about the future strength of AIG. 
FRBNY apparently shares this concern.\842\
---------------------------------------------------------------------------
    \842\ SIGTARP Report on Oversight of AIG Compensation, supra note 
816, at 19.
---------------------------------------------------------------------------
    AIG divisional management, in conversations with Staff, has 
provided a mixed assessment of government compensation 
constraints, indicating that this is more of an issue at the 
firm-wide or holding company level. A firm-wide manager 
described the issue as a ``huge time sink'' for senior managers 
and asserted that there is no question that the company has 
seen executives depart as a result of the compensation 
constraints. Another firmwide manager acknowledged that AIG had 
lost some people but had also managed to hold on to a lot more. 
And, again, only the most senior and well-paid employees of AIG 
are subject to the Special Master's jurisdiction. Chartis, for 
example, has very few such employees. In any case, retention of 
key employees is likely to pivot on the perceived long-term 
direction of the firm.
    The fixing of salary levels at a company in AIG's situation 
is not easy. Still, AIG is supported largely by public funds. 
The Panel continues to hold the view, expressed in its GMAC 
report, that the appropriate and necessary levels of 
compensation for executives of companies that depend on federal 
assistance for their operation raises significant unanswered 
questions.

                             K. Conclusion


1. AIG Changed a Fundamental Market Relationship

    By providing a complete bailout that called for no shared 
sacrifice among AIG and its creditors, FRBNY and Treasury 
fundamentally changed the rules of America's financial 
marketplace.
    U.S. policy has long drawn a distinction between two 
different types of investments. The first type is ``safe'' 
products, such as checking accounts, which are highly regulated 
and are intended to be accessible to even unsophisticated 
investors. Banks that offer checking accounts must accept a 
substantial degree of regulatory scrutiny, offer standardized 
features, and pay for FDIC insurance on their deposits. In 
return, the bank and its customers benefit from an explicit 
government guarantee: within certain limitations, no checking 
account in the United States will be allowed to lose even a 
penny of value.
    By contrast, ``risky'' products, which are more loosely 
regulated, are aimed at more sophisticated players. These 
products often offer much higher profit margins for banks and 
much higher potential returns to investors, but they have never 
benefited from any government guarantee. The risks--and the 
rewards--have always been borne solely by private parties.
    Before the AIG bailout, the derivatives market appeared to 
fall cleanly in the second category. Yet by bailing out AIG and 
its counterparties, the federal government signaled that the 
entire derivatives market--which had been explicitly and 
completely deregulated by Congress through the Commodities 
Futures Modernization Act \843\--would now benefit from the 
same government safety net provided to fully regulated 
financial products. In essence, the government distorted the 
marketplace by transforming highly risky derivative bets into 
fully guaranteed transactions, with the American taxpayer 
standing as guarantor.
---------------------------------------------------------------------------
    \843\ For a further discussion of AIG's regulatory scheme, see 
Section B.2, supra.
---------------------------------------------------------------------------
    The Panel believes that the moral hazard problem unleashed 
by making whole AIG's counterparties in unregulated, 
unguaranteed transactions has turned out to be a key act in 
undermining the credibility of America's system of financial 
regulation and the credibility of the specific efforts at 
addressing the financial crisis that followed, including the 
entirety of the TARP program.

2. The Powerful Role of Credit Rating Agencies

    It is clear from the analysis in this report that 
considerations about credit rating agencies were central to 
FRBNY's, and later Treasury's, decisions to assist AIG, and 
shaped many of the decisions that had to be made during the 
course of the rescue. Indeed, it is no exaggeration to say that 
concerns about rating downgrades drove government policy in 
regard to AIG.
    As the market's most widely followed judges of financial 
soundness, credit rating agencies wield immense power, whether 
they consciously use it or not. In this case, government 
decisionmakers felt compelled to follow a particular course of 
action out of a justifiable fear of what credit rating agencies 
might do if they acted otherwise. The fact that this small 
group of private firms was able to command such deference from 
the federal government raises questions about their role within 
the marketplace and how effectively and accountably they have 
wielded their power.

3. The Options Available to the Government

    FRBNY and Treasury justify AIG's extraordinary bailout by 
saying that they faced a ``binary choice'' between allowing AIG 
to fail, which would have resulted in chaos, or rescuing the 
entire institution, including all of its business partners. The 
Panel rejects this reasoning. The evidence suggests that 
government had more than two options at its disposal, and that 
some of the alternatives would not have resulted in the payment 
in full of the counterparties and other AIG creditors.
    In interviews and meetings with participants on all sides 
in these events, the Panel has identified a key decision point: 
the period between Sunday afternoon, September 14, 2008, and 
Tuesday morning, September 16, 2008. This was the period during 
which FRBNY sought to encourage a private effort to lend 
sufficient funds to AIG to address its liquidity crisis, while 
at the same time trying to determine what the consequences 
would be of the bankruptcy of AIG's holding company. Secretary 
Geithner characterized the decision as to whether or not to 
press JPMorgan and Goldman Sachs further to support AIG as an 
existential decision, showing both the importance and the 
difficulty of that moment.
    The key events in this effort at a private sector solution 
began with the convening of a meeting at FRBNY at 11 a.m on 
Monday, September 15, 2008, led on the lender side by 
representatives of JPMorgan Chase and Goldman Sachs. 
Representatives from Morgan Stanley, who was retained to assist 
the government, were also present. President Geithner helped 
open the meeting and indicated that FRBNY expected the parties 
to find a private sector solution for AIG, which at that point 
involved lending AIG approximately $75 billion. While the 
meeting continued for some time, and the parties to the meeting 
left with a commitment to keep working, by late afternoon 
President Geithner had concluded the chances of their putting 
together a private sector rescue package were slipping.
    Early in the morning on September 16, 2008, an attorney for 
JPMorgan Chase contacted FRBNY and informed FRBNY that JPMorgan 
Chase and Goldman Sachs would be unable to put together a 
rescue plan for AIG. It appears no further efforts were made to 
pursue a private sector solution, or to pursue a mixed FRBNY-
private sector solution. In particular, there were no efforts 
by FRBNY to speak to the CEOs of JPMorgan Chase or Goldman 
Sachs about the urgency of crafting a private sector solution 
for AIG.
    The Panel is concerned that the government put the effort 
to organize a private AIG rescue in the hands of only two 
banks--banks with severe conflicts of interest as they would 
have been among the largest beneficiaries of a taxpayer 
bailout. By failing to bring in other players, the government 
neglected to use all of its negotiating leverage. There is no 
doubt that a private rescue would have been difficult, perhaps 
impossible, to arrange, but if the effort had succeeded, the 
impact on market confidence would have been extraordinary, and 
the savings to taxpayers would have been immense.
    Further, even after the Federal Reserve and Treasury had 
decided that a public rescue was the only choice, they still 
could have pursued options other than paying every creditor and 
every counterparty at 100 cents on the dollar. Arrangements in 
which different creditors accept varying degrees of loss are 
common in bankruptcy proceedings or other negotiations when a 
distressed company is involved, and in this case the government 
failed to use its significant negotiating leverage to extract 
such compromises. As Mr. Bienenstock of Dewey & LeBoeuf 
testified to the Panel, ``FRBNY was saving AIG with taxpayer 
funds due to the losses sustained by the business divisions 
transacting business with these creditor groups, and a 
fundamental principle of workouts is shared sacrifice, 
especially when creditors are being made better off than they 
would be if AIG were left to file bankruptcy.'' As such, ``it 
was very plausible to have obtained material creditor discounts 
from some creditor groups as part of that process without 
undermining its overarching goal of preventing systemic 
impairment of the financial system and without compromising the 
Federal Reserve Board's principles.''
    The Panel believes that FRBNY's approach was driven by 
three considerations.
    The first consideration was a matter of central banking 
philosophy: was it the role of FRBNY to attempt to use all the 
tools at its disposal to induce entities it regulated to do 
something they did not want to do in the interests of systemic 
stability? The Panel believes that FRBNY at that moment did not 
see such inducement as its role. The Panel believes that in 
such a crisis, with the stability of the financial system and 
the integrity of the regulatory system in jeopardy, that 
FRBNY's role was to do just that: to ensure that those private 
parties that benefited from the stability of the financial 
system would contribute to its preservation.
    The second consideration was moral hazard. The key actors 
in FRBNY, as well as Chairman Bernanke, have all expressed 
their sense that AIG deserved to fail, that rescuing AIG 
created a moral hazard problem for other large firms. The Panel 
believes the Federal Reserve System fully and properly 
considered this downside to rescuing AIG. However, AIG was not 
the only financial market participant rescued by the AIG 
bailout. As noted above, however, the Federal Reserve's rescue 
of AIG also rescued AIG's counterparties, and the Panel does 
not believe that this aspect of the moral hazard problem was 
given proper weight.
    The third consideration, and a potentially decisive one all 
by itself, was the question of whether there was enough time to 
work further on a private sector solution or a mixed public-
private solution, as well as a related question as to whether 
any private sector institution or group of institutions was 
strong enough in the midst of an accelerating crisis to 
participate on the scale necessary. The record appears to be 
clear that in the absence of outside funding AIG would have 
been insolvent by the end of the day on September 16, 2008. In 
the end, FRBNY provided immediate funding that night.
    Ultimately, it is impossible to stand in the shoes of those 
who had to make decisions during those hours, to weigh the 
risks of accelerated systemic collapse against the profound 
need for the financial firms that FRBNY was rescuing along with 
AIG to share in the costs and the risks of that rescue, and to 
weigh those considerations not today in an atmosphere of 
relative calm, but in the middle of the night in the midst of a 
financial collapse. All the Panel can do is observe the costs 
to the public's confidence in our public institutions from the 
failure to share the burden of the AIG rescue with AIG's 
counterparties in the financial sector.

4. The Government's Authorities in a Financial Crisis

    The Federal Reserve and Treasury have explained the 
haphazard nature of the AIG rescue by noting that they lacked 
specific tools to handle the collapse of such a complex, 
multisector, multinational financial corporation. To some 
extent this argument is a red herring: the relevant authorities 
should have monitored AIG more closely, discovered its 
vulnerability earlier, and sought any needed new authorities 
from Congress in advance of the crisis. Even after AIG began to 
unravel, the Federal Reserve and Treasury could have used their 
existing authority more effectively.
    Even so, it is worth noting that the government has no 
well-defined legal process to wind down a company like AIG in 
the same way that it winds down banks through the FDIC 
resolution process or nonfinancial companies through 
bankruptcy. As a result, the Federal Reserve and Treasury had 
to repurpose powers that were originally intended for other 
circumstances, leading to a bailout that was improvised, 
imperfect, and in many ways deeply unfair.
    It is similarly worth noting that OTS approached AIG from a 
bottom-up perspective, focused primarily on ensuring that no 
harm would be done to the thrift, as opposed to taking a top-
down approach that reviewed the overall safety and soundness of 
the holding company. Given that AIG's thrift represented well 
under 1 percent of the holding company's assets, this approach 
seems misguided at best and raises questions about whether this 
is the most effective way to review complex companies and their 
systemic risks.

5. Conflicts

    The rescue of AIG illustrates the tangled nature of 
relationships on Wall Street. People from the same small group 
of law firms, investment banks, and regulators appear in the 
AIG saga (and many other aspects of the financial crisis) in 
many roles, and sometimes representing different and 
conflicting interests. The lawyers who represented banks trying 
to put together a rescue package for AIG became the lawyers to 
FRBNY, shifting sides in a matter of minutes. Those same banks 
appear first as advisors, then potential rescuers, then as 
counterparties to several different kinds of agreements with 
AIG, and ultimately as the direct and indirect beneficiaries of 
the government rescue. Many of the regulators and government 
officials (in both Administrations) are former employees of the 
entities they oversee or that benefited from the rescue.
    These links have led to many allegations that the rescue 
was orchestrated in order to assist friends and former 
colleagues of those leading the rescue. Although Panel staff 
has spent significant time reviewing hundreds of thousands of 
pages of documents from the time of the rescue, to date they 
have found no evidence of any such concerted effort. It is 
nonetheless indisputable that the friends and former colleagues 
of those who directed the AIG rescue are among the many 
beneficiaries of the rescue.
    The government has justified its decision to draw from a 
limited pool of lawyers and advisors by citing the need for 
expertise from Wall Street insiders familiar with AIG. Even so, 
the government entities should have recognized that at a time 
when the American taxpayers were being asked to bear 
extraordinary burdens, they had a special responsibility to 
ensure that their actions did not undermine public trust by 
failing to address all potential conflicts and the appearance 
of conflicts that could arise. The need to address conflicts 
and the appearance of conflicts, by government actors, 
counterparties, lawyers and all other agents involved in this 
drama, was treated largely as a detail that could be subjugated 
to the primary goal of keeping the financial system up and 
running. This was wrong.
    Even setting aside concerns about actual or apparent 
conflicts of interest, the limited pool of people involved in 
AIG's rescue raises a broader concern. Everyone involved in 
AIG's rescue had the mindset of either a banker or a banking 
regulator. The discussions did not include other voices that 
might have brought different ideas and a broader view of the 
national interest. It is unsurprising, then, that the American 
public remains convinced that the rescue was designed by Wall 
Street to help fellow Wall Streeters, with less emphasis given 
to protecting the public trust.
    The Panel recognizes that government officials were 
confronting an immediate crisis and had to act in haste. Yet it 
is at moments of crisis that the government has its most acute 
obligation to protect the public interest by avoiding even the 
appearance of impropriety. As Mr. Baxter of FRBNY told the 
Panel, ``If we should go through this again, we [would] need to 
be more mindful of how our actions can be perceived. The lesson 
learned for me personally here is that we need to be mindful of 
that and perhaps change our behavior as a result of the 
perception, not the actuality.''
                                ANNEXES


Annex I: Where the Money Went

Annex II: Detailed Timeline of Events Leading up to the Rescue of AIG

Annex III: What are Credit Default Swaps?

Annex IV: Legal Authorities

Annex V: Securities Lending

Annex VI: Details of Maiden Lane II Holdings

Annex VII: Details of Maiden Lane III Holdings

Annex VIII: Comparison of Effect of Rescue and Bankruptcy

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


 ANNEX II: DETAILED TIMELINE OF EVENTS LEADING UP TO THE RESCUE OF AIG


Mid to late 2007:

AIG:

     Texas Department of Insurance discovers during an 
examination that AIG's life insurance subsidiaries' securities 
lending program had been purchasing RMBS with the cash 
collateral. The insurance regulators instruct AIG to unwind the 
program. They inform the regulators of AIG's other life 
insurance subsidiaries.
     In November 2007, at the AIG Supervisory College, 
the Texas Department of Insurance informs OTS and the other 
non-insurance regulators of the securities lending issue.

Mid-July through August 2008:

AIG:

     AIG CEO Robert Willumstad reviews AIG's businesses 
and measures to address the liquidity concerns in AIG's 
securities lending portfolio and the ongoing collateral calls 
with respect to AIGFP's CDS portfolio.
          --AIG asks a number of investment banking firms to 
        discuss possible solutions to these issues.
          --In late August, AIG engages JP Morgan to assist in 
        developing alternatives, including a potential 
        additional capital raise.
     FRBNY records reflect that Mr. Willumstad has one 
conversation with FRBNY President Geithner regarding possible 
access to the Federal Reserve's discount window.
     On August 11, OTS holds an introductory meeting 
with FRBNY at FRBNY's request. FRBNY examiners had long sought 
such a meeting with the OTS to open a dialogue with them about 
AIG and its operations, and to discuss issues that the FRBNY 
examiners had seen with respect to the monoline financial 
guarantors. An OTS examiner attends on behalf of OTS.
     Mr. Willumstad announces plans to hold an investor 
meeting on September 25, 2008 to present the results of his 
review.
     At the end of August, the credit rating agencies 
advise Mr. Willumstad of their plans to reassess AIG's ratings 
(even though they had previously agreed to wait).

Early September 2008:

AIG:

     AIG faces increasing stress on its liquidity due 
to securities lending requirements and cash collateral demands 
from its AIGFP CDS portfolio.
     AIG meets with representatives of the major rating 
agencies to discuss Mr. Willumstad's strategic review as well 
as the liquidity issues arising from AIG's securities lending 
program and AIGFP's CDS portfolio.
    September 7, 2008: Fannie Mae and Freddie Mac are placed 
into government conservatorship.
    September 8-12, 2008: AIG
     AIG's common stock price declines from $22.76 to 
$12.14.
     The company reports that as of July 31, 2008, S&P, 
Moody's, and Fitch had placed its senior long-term debt on 
negative outlook.
     Mr. Willumstad meets with S&P, Moody's, and Fitch, 
and they all but announce that they would be downgrading AIG in 
the very near future.
    September 9, 2008: Mr. Willumstad calls President Geithner 
and asks to meet with him. In a short meeting, they discuss the 
potential for AIG to become a primary dealer in order to gain 
access to the Federal Reserve's discount window. President 
Geithner tells Mr. Willumstad that AIG does not meet the 
requirements to be a primary dealer and that he will get back 
to him.
    September 11, 2008: President Geithner notifies Secretary 
Paulson and Chairman Bernanke that Lehman Brothers is unlikely 
to open for business on Monday, September 15, 2008.
    September 12, 2008: AIG
     S&P places AIG on CreditWatch with negative 
implications and notes that upon completion of its review, it 
could affirm the company's current rating of AA- or lower the 
rating by one to three notches.
     AIG understands that both S&P and Moody's would 
re-evaluate AIG's ratings early in the week of September 15.
     AIG's subsidiaries, ILFC and AGF, are unable to 
replace all of their maturing commercial paper with new 
issuances of commercial paper. Therefore, the AIG parent 
advances loans to them to meet their commercial paper 
obligations.
     Mr. Willumstad and other senior AIG officials meet 
with some private equity investors over lunch to discuss the 
serious challenges AIG is facing.
     Mr. Willumstad calls President Geithner at FRBNY 
to inform him that the company is facing potentially fatal 
liquidity problems. Mr. Willumstad's concerns are two-fold:
          (1) AIG had lent out investment-grade securities for 
        cash collateral, which was invested in illiquid MBSs. 
        Consequently, AIG would not be able to liquidate its 
        assets to meet the demands of its counterparties.
          (2) AIG is facing a downgrade in its credit rating 
        the next week, perhaps coming as soon as Monday, 
        September 15. Depending on the severity of the 
        downgrade, it would prompt additional collateral calls 
        ranging between $13 billion to $18 billion.
     Mr. Willumstad meets with private equity investors 
and investment bankers during the course of the day.
     AIG's common stock price falls from $22.76 on 
September 8 to $12.14 on September 12.
     AIG's general counsel and CFO call the New York 
Insurance Department to inform it of its liquidity problem, and 
to ask for assistance.
     Later that day, FRBNY analysts come to AIG to look 
into, discuss, and ask questions about liquidity issues arising 
from the AIGFP portfolio.
     Mr. Willumstad informs President Geithner that he 
needs to raise $20 billion, and with the advice of its 
financial advisor JPMorgan Chase, the company sets out to raise 
$20 billion over the weekend (in order to allow AIG to meet its 
obligations as they came due in anticipation of collateral 
calls related to looming downgrades).
     Mr. Willumstad calls Warren Buffett during the 
evening, who apparently expresses some interest in some of 
AIG's businesses if they were for sale, but does not want to 
invest in the AIG parent because it is ``too complicated.''
     During the evening an FRBNY employee emails 
William Dudley and others at FRBNY about ``panic'' at hedge 
funds about AIG: ``I am hearing worse than [Lehman.] Every bank 
and dealer has exposure to them . . . People I heard from worry 
they can't roll over their funding. . . . Estimate I hear is 2 
trillion balance sheet.''
     Staff from FRBNY (along with staff from the 
Federal Reserve Board of Governors who participated by 
telephone) met with AIG senior executives on Friday. At this 
meeting, AIG stated that it had $8 billion cash in its holding 
company, and if there was no downgrade, enough liquidity to 
last for the next two weeks. AIG estimated that it might have 
to pay out $18.6 billion over the next week if, as expected, 
its ratings were downgraded the following week. A description 
of this meeting was sent to President Geithner, Dudley, and 
others, late Friday night.
     On Friday, AIG informed Treasury and the New York 
state insurance regulators of its severe liquidity problems, 
principally due to increasing demands to return cash collateral 
under its securities lending program and collateral calls on 
AIGFP's CDS portfolio.
     On Friday, President Geithner called together 
representatives of 12 major financial institutions to 
participate in discussions regarding a private-sector 
consortium rescue for Lehman Brothers at a meeting that began 
at 6:45 p.m. and continued through the weekend. On Friday, the 
financial institutions discussed committing funds to finance 
$40 billion of Lehman's real estate assets. Over the course of 
the weekend, the institutions did commit to financing. 
Barclays, however, was no longer prepared to complete the 
purchase.
    September 13-14, 2008: AIG
     Mr. Willumstad, along with his CFO, Vice Chairman, 
and JPMorgan Chase bankers held a call with FRBNY staff and BOG 
staff to update them on the status of the company's efforts to 
address its liquidity needs. At this point, Mr. Willumstad is 
fairly optimistic that assistance from New York State is 
forthcoming (in the form of New York State authorization for 
AIG to transfer $20 billion in liquid assets from its 
subsidiaries to use as collateral for daily operations). AIG 
said it had a plan over the next six to 12 months to sell 
approximately $40 billion in assets, including domestic and 
foreign life insurance subsidiaries; these assets equaled 35-40 
percent of the company. AIG said that in addition to the 
aforementioned assistance from the New York State Insurance 
Department, it needed bridge financing, and was interested in 
tapping Federal Reserve lending facilities. Federal Reserve 
officials who were on the call got the impression that AIG had 
not approached private financial institutions about obtaining 
this financing, likely because AIG felt that it would be turned 
down. The phone call also included a discussion of the Federal 
Reserve's emergency lending authority under Section 13(3) of 
the Federal Reserve Act. The Federal Reserve officials stated 
that 13(3) lending would send a negative signal to the market, 
and told AIG that they ``should not be particularly 
optimistic,'' given the history and hurdles of 13(3) lending.
     Treasury, Federal Reserve, New York State 
Insurance Department and other experts meet to consider how to 
respond to AIG's problems and determine if it is systemically 
important (while aware that the private sector was already 
working on a solution to AIG's liquidity problems). State 
insurance regulators provide information on the condition of 
AIG's insurance subsidiaries, including the potential impact of 
RMBS portfolio losses on the subsidiaries' capital base.
     The New York Insurance Department has a conference 
call with AIG on Saturday morning, and then goes to AIG's 
offices where they spend the remainder of the weekend where 
they can provide assistance and expedite any needed regulatory 
actions.
     AIG accelerates the process of attempting to raise 
additional capital and discusses capital injections and other 
liquidity measures with private equity firms, sovereign wealth 
funds, and other potential investors. AIG also meets with 
Blackstone Advisory Services LP to assist in developing 
alternatives, including a potential additional capital raise. 
However, once AIG concludes that it needs $40 billion by 
Saturday evening (the increased estimate is partly based on the 
increasing likelihood of a Lehman bankruptcy, which would 
substantially increase the pressure on AIG due to additional 
collateral calls and a likely decline in the value of its 
investment portfolio), investors lose interest because they do 
not think it would be a sound investment given AIG's financial 
condition.
     By Saturday evening, Mr. Willumstad concludes that 
the only solution is for the government to guarantee AIG's 
balance sheet through a loan or line of credit. Mr. Willumstad 
calls President Geithner at FRBNY during the evening and 
estimates that AIG needs $40 billion, twice the amount he had 
mentioned earlier.
          --To raise this amount, Mr. Willumstad notes that he 
        needs government support. Geithner says that this would 
        not be possible.
     On Sunday, Christopher Flowers, founder of the 
private equity firm J.C. Flowers & Company proposes that his 
firm and Allianz (the German insurance company) buy AIG for $2 
a share (they propose to acquire the assets of the subsidiaries 
but seek to be insulated from the liabilities of the parent). 
Flowers and Allianz would each contribute $5 billion in new 
capital, but Flowers' offer is conditioned on receiving 
government support, New York State authorization for AIG to 
transfer $20 billion in assets from its subsidiaries to use as 
collateral for daily operations, and the replacement of AIG's 
top management with Allianz executives.
          --Mr. Willumstad does not believe the proposal is 
        credible.
     Sunday mid-day, staffers at FRBNY were preparing 
to brief President Geithner on the pros and cons of providing 
AIG access to the Federal Reserve's Discount Window, ``this is 
to inform [Geithner] in his discussions with Chairman Bernanke 
w/r/t the option and impact of lending to AIG.''
     At 3:49 p.m. on Sunday, President Geithner (and 
other FRBNY officials) receive a staff memo describing the pros 
and cons of lending to AIG, a spreadsheet provided by AIG 
detailing the firms with the largest exposures to AIG (that was 
not complete as it dealt only with derivatives and lending 
exposures), and a presentation describing what FRBNY knows on 
AIG subsidiaries based on publicly available information.
     On Sunday afternoon/evening, Mr. Willumstad 
returns to FRBNY and tells the regulators that he is out of 
ideas and that without government support, the company would 
not survive.
     Also on Sunday evening, FRBNY officials meet with 
JPMorgan Chase, AIG's financial advisor, and no AIG 
representatives are present.
     Late Sunday night, President Geithner felt that 
``it still seemed inconceivable that the Federal Reserve could 
or should play any role in preventing AIG's collapse.''
    September 15, 2008:
    Bank of America/Merrill Lynch: Bank of America announces 
its intent to purchase Merrill Lynch for $50 billion
    Lehman Brothers: Lehman Brothers files for Chapter 11 
bankruptcy protection

Money Market Mutual Funds:

     According to Secretary Geithner's 1/27/10 House 
Oversight testimony, an escalating bank run and broad 
withdrawal of funds from money market funds starts on Sunday 
evening, September 14-15, 2008, severely disrupting the 
commercial paper market.
     Reserve Primary Fund (which had increased its 
purchases of Lehman securities from November 2007 through the 
summer of 2008 and held $785 million in Lehman short-term debt, 
meaning that 1.2 percent of its assets were in Lehman debt, by 
September 2008) contacts FRBNY to express concern about 
Lehman's effect on the money market industry and on the Primary 
Fund.
          --That morning, the Primary Fund faces $5.2 billion 
        in redemption requests, and these increase to $16.5 
        billion by the early afternoon.
          --By the end of the day, redemption orders for the 
        Reserve Primary Fund total $25 billion.
     By early afternoon, State Street, the fund's 
custodian bank, calls to report that the huge number of 
redemptions caused the Primary Fund's account to be overdrawn, 
and the bank is suspending overdraft privileges. Investors 
seeking to withdraw funds could not immediately access their 
money.

AIG:

     Just after midnight and into the early morning, 
FRBNY staff consider whether AIG could receive support from the 
FHLB as a backstop for the insurance subsidiaries.
     During the morning, President Geithner calls Mr. 
Willumstad to advise him that he has asked JPMorgan Chase and 
Goldman Sachs to lead a private consortium effort to assist 
AIG.
     FRBNY staff meets and discusses systemic risks 
posed by the possible bankruptcy of AIG (bank exposures, 
implications for the insurance subsidiaries, and wider economic 
knock-on effects).
     As of Monday morning, FRBNY staff was pushing a 
private sector solution.
     At 11:30 a.m., Mr. Willumstad and other AIG 
officials, at the request of President Geithner, meets with 
representatives of Goldman Sachs, JPMorgan, Morgan Stanley, the 
New York State Insurance Department, FRBNY, and Treasury at 
FRBNY to discuss the creation of a $75 billion secured lending 
facility to be syndicated among a number of large financial 
institutions. President Geithner says that there would be no 
government help, meaning that there has to be an industry and 
private solution.
          --Goldman Sachs and JPMorgan immediately begin the 
        financing attempt.
          --Mr. Willumstad, along with Dan Jester from 
        Treasury, calls the credit rating agencies to ask them 
        to delay downgrading AIG, to no avail.
          --After the meeting, Mr. Willumstad and other AIG 
        officials return to AIG and prepare for a bankruptcy 
        filing.
     AIG is again unable to access the commercial paper 
market for its primary commercial paper programs, AIG Funding, 
ILCF, and AGF. AIG advances loans to ILFC and AGF to meet their 
funding obligations.
     AIG experiences returns under its securities 
lending programs which lead to cash payments of $5.2 billion to 
securities lending counterparties.
     In the late afternoon, S&P downgrades AIG's long-
term debt rating by three notches, and Moody's and Fitch 
downgrade AIG's long-term debt rating by two notches, causing 
AIG to need to post additional collateral.
          --As a result, AIGFP estimates that it needs more 
        than $20 billion to fund additional collateral demands 
        and transaction termination payments in a short period 
        of time.
          --Due to the downgrades, AIG has 48 hours under its 
        contracts to post collateral. This means that AIG would 
        run out of cash by Wednesday, September 17, default on 
        its obligations, and be placed into bankruptcy.
          --(By the end of September, AIG had drawn down $61 
        billion on the Federal Reserve's RCF, due to the impact 
        of the downgrades, changes in market levels, and other 
        factors).
     Traders, aware of AIG's mounting collateral calls 
and the ongoing meetings at FRBNY, unload their stock. AIG's 
common stock price falls to $4.76 per share (a 61 percent drop 
in one day).
     New York Governor David Paterson (acting on the 
recommendation of New York State Superintendent of Insurance 
Eric Dinallo) authorizes AIG to transfer $20 billion in assets 
from its subsidiaries to use as collateral for daily 
operations. In exchange, the parent company will give the 
subsidiaries less-liquid assets.
     According to Mr. Willumstad, AIG is largely out of 
business by the evening.
    September 16, 2008: 

AIG:

     At 1:44 a.m., President Geithner receives a staff 
memo weighing the pros and cons of a proposal to temporarily 
reinsure AIGFP's stable value wraps so that AIGFP could be 
unwound in a manner that contains the negative economic and 
psychological impact on plan participants. This would require 
an act of Congress.
     At 2 a.m., FRBNY officials receive word that AIG's 
plans for the secured lending facility with Goldman Sachs and 
JPMorgan fail. The FRBNY knew as of this time that there was no 
viable private sector solution to AIG's liquidity problems.
     At 3:13 a.m., FRBNY staff forward to President 
Geithner and other FRBNY officials receive a memo that assesses 
the systemic impact of an AIG bankruptcy, how the bankruptcy 
process might unfold, and the impact of an AIG failure on 
financial counterparties, market liquidity, and related 
spillover effects. The memo concludes that it ``could be more 
systemic in nature than Lehman due to the retail dimension of 
its business . . . [that] intervention needs to insulate the 
retail activities (inc. those in the parent, like stable value 
wraps) in a way that inspires confidence among the public to 
avoid a potential crisis of confidence. Coordination issues 
among state regulators could make this difficult.''
     FRBNY, Treasury, and Federal Reserve officials 
present their assessment of the AIG situation to the Federal 
Reserve Board at a meeting that began at 8 a.m., which 
authorizes FRBNY to provide liquidity to AIG in the form of an 
$85 billion revolving credit facility under Section 13(3) of 
the Federal Reserve Act.
     Mr. Willumstad calls President Geithner during the 
morning to inform him of his plans to draw down the remaining 
AIG credit lines that morning (because it could not make the 
required representations to its lenders), but President 
Geithner advises him not to do so. Nonetheless, Mr. Willumstad 
authorizes the draw-downs.
     The downgrades coupled with the sharp decline in 
AIG's common stock price to $4.76 on the previous day (and the 
fear of an anticipated AIG bankruptcy) result in counterparties 
withholding payments from AIG and refusing to transact with AIG 
even on a secured short-term basis, resulting in AIG being 
unable to borrow in the short-term lending markets.
     To provide liquidity, both ILFC and AGF draw down 
on their existing revolving credit facilities, resulting in 
borrowings of approximately $6.5 billion and $4.6 billion, 
respectively.
     At 11 a.m., President Geithner calls Mr. 
Willumstad and tells him that he is working on a solution and 
will get back to him.
     Insurance regulators notify AIG that it will no 
longer be permitted to borrow funds from its insurance company 
subsidiaries under a revolving credit facility that AIG 
maintains with certain of its insurance subsidiaries acting as 
lenders. Subsequently, the insurance regulators require AIG to 
repay any outstanding loans under that facility and to 
terminate it. (The intercompany facility is terminated 
effective September 22, 2008).
     AIG requests to draw on its $15 billion line of 
credit. JPMorgan was the lead agent on the line and held 
approximately $800 million of exposure. FRBNY staff following 
whether line is funded, if other participant banks invoke MAC 
clause, and how it affects other exposures and collateral 
requirements for AIG.
     At 2 p.m., FRBNY calls Mr. Willumstad and asks him 
to send a group of AIG attorneys over to FRBNY.
     At approximately 3:30 p.m., the FRBNY sends AIG 
the terms of a secured lending agreement that it is prepared to 
provide. AIG anticipates an immediate need for cash in excess 
of its available resources. (Those liquidity problems (and 
AIG's actual draws on the Federal Reserve's RCF) went from $0 
to $14 billion on September 16th, to $28 billion by the end of 
the next day, and to almost $40 billion by the end of the 
week).
     At 4:42 p.m., President Geithner and Secretary 
Paulson call Mr. Willumstad and outline the terms of FRBNY's 
secured lending agreement. Mr. Geithner advises him that he has 
two choices: accept the terms or file for bankruptcy. Secretary 
Paulson tells Mr. Willumstad that there is ``no negotiation'' 
and that ``this is the only offer.''
     Secretary Paulson also notes that another 
condition is that Mr. Willumstad would be replaced (AIG 
subsequently elects Edward M. Liddy as chairman and CEO). While 
President Geithner and Secretary Paulson push Mr. Willumstad to 
get an answer quickly (largely because of the impact on the 
capital markets), Mr. Willumstad tells them the AIG Board will 
have to review and make a decision on its own.
     At Board meeting that starts at 5 p.m. and lasts 
several hours, AIG's Board of Directors approves borrowing from 
FRBNY based on a term sheet that sets forth the terms of the 
secured credit agreement and related equity participation.
     At 6 p.m., Secretary Paulson and Chairman Bernanke 
conduct a briefing on the AIG rescue for House and Senate 
leadership in Senator Majority Leader Reid's conference room.
     Mr. Willumstad calls FRBNY at 8 p.m. to notify 
them of the AIG Board's acceptance.

Money Market Mutual Funds:

     Redemption requests at the Reserve Primary Fund 
reach $24.6 billion by 9 a.m.
     By 3:45 p.m., total redemption requests reach 
about $40 billion, and FRBNY declines to provide assistance in 
meeting shareholder redemptions.
     The net asset value of shares in the Reserve 
Primary Money Fund falls below $1 as of 4 p.m., primarily due 
to losses on Lehman Brothers commercial paper and medium-term 
notes.
     Money market redemption requests reach $33.8 
billion (compared with a total of $4.9 billion for the entire 
previous week).
    September 17, 2008:
    Secretary Paulson has a conversation with Jeffrey Immelt, 
CEO of General Electric, who tells him that the capital markets 
are ``very bad'' and that the commercial paper markets are 
under significant stress.
    The cost of buying default protection against Morgan 
Stanley and Goldman Sachs had soared overnight.

Money Market Mutual Funds:

     Putnam announces that it would close and liquidate 
the $12.3 billion Institutional Prime Money Market Fund, even 
though it does not own any Lehman or AIG securities and 
maintains its one dollar share value.
     Investors liquidate $169 billion from prime funds 
and reinvest $89 billion into government funds between 
September 15 and September 17.
    Yields on 3-month Treasury notes dip below zero as 
investors seek the safety of short-term Treasury bonds.
    Dow Jones average drops 449 points, falling 7 percent in 
only 3 days of trading.
    At 6 p.m., Chairman Bernanke meets with Federal Reserve 
Vice Chairman Donald Kohn and Federal Reserve Governor Kevin 
Warsh, Mr. Alvarez of the Federal Reserve Board, and 
Spokesperson Michelle Smith (with President Geithner and 
Secretary Paulson conferencing in via phone). Chairman Bernanke 
concludes that they ``have to go to Congress and get some 
authority.''
    September 18, 2008:
    After consulting with Treasury and Federal Reserve staff as 
well as President Bush and Vice President Cheney, Secretary 
Paulson, Chairman Bernanke, and SEC Chairman Christopher Cox 
meet with House and Senate leadership in Speaker Pelosi's 
conference room for 90 minutes, requesting the ``authority to 
spend several hundred billion.''
    SEC announces a temporary emergency ban on short selling in 
the stocks of 799 financial stocks.
    September 19, 2008:
    Troubled Asset Relief Program: Treasury submits draft 
legislation to Congress for authority to purchase troubled 
assets.
    Federal Reserve announces plans to purchase federal agency 
discount notes (short-term debt obligations issued by Fannie 
Mae, Freddie Mac, and Federal Home Loan Banks) from primary 
dealers.
    During the evening, Morgan Stanley's CFO receives a call 
from the head of the firm's Tokyo office, reporting that 
Mitsubishi U.F.J., a large Japanese bank, is interested in 
negotiating a stake. (Morgan Stanley ultimately sells 21 
percent of the company to Mitsubishi for $9 billion).

Money Market Mutual Funds:

     Federal Reserve announces the creation of the 
Asset-Backed Commercial Paper Money Market Mutual Fund 
Liquidity Facility (AMLF) to extend non-recourse loans at the 
primary credit rate to U.S. depository institutions and bank 
holding companies to finance their purchase of high-quality 
asset-backed commercial paper from money market mutual funds.
     Treasury announces a temporary guarantee program 
that would make available up to $50 billion from the Exchange 
Stabilization Fund to guarantee investments in participating 
money market mutual funds.
     By September 19, withdrawal requests had climbed 
to 95 percent of the Reserve Primary Fund's $62 billion 
portfolio, necessitating approval from the SEC to delay 
redemption payments beyond the seven-day requirement.
    September 20, 2008: A Chinese delegation, led by Gao 
Xiqing, the vice chairman of the C.I.C., arrives in NY to meet 
with Morgan Stanley executives.
    September 21, 2008: Federal Reserve approves applications 
of Goldman Sachs and Morgan Stanley to become bank holding 
companies.
    September 22, 2008: AIG enters into the Fed Credit 
Agreement (for the RCF provided on September 16) in the form of 
a 2-year secured loan and a Guarantee and Pledge Agreement with 
FRBNY.
    September 23, 2008: Goldman Sachs announces that Mr. 
Buffett is buying $5 billion of preferred stock.
    September 24, 2008: Goldman Sachs raises another $5 billion 
in a public offering of common stock.
    September 25, 2008: Washington Mutual is closed by OTS and 
taken over by the FDIC.
    September 29, 2008: The House votes down EESA legislation, 
and the Dow Jones industrial drops 778 points.
    October 3, 2008: Congress passes EESA and President Bush 
then signs it into law.
    October 7, 2008: Federal Reserve creates the CPFF.
    October 8, 2008: Federal Reserve and other central banks 
lower short-term rates.
    Ongoing Activities: Federal Reserve expanded the scope and 
scale of its swap lines with central banks in order to provide 
liquidity in U.S. dollars to overseas markets (September 18, 
2008; September 24, 2008; September 26, 2008; October 14, 2008; 
October 29, 2008).
               ANNEX III: WHAT ARE CREDIT DEFAULT SWAPS?


                   A. Credit Default Swaps Generally

    Credit default swaps (CDSs) are privately-negotiated 
bilateral contracts that obligate one party to pay another in 
the event that a third party cannot pay its obligations.\844\ 
In essence, the purchaser of protection pays the issuer of 
protection a fee for the term of the contract and receives in 
return a promise that if certain specified events occur, the 
purchaser of protection will be made whole. If a credit event 
\845\ does not occur during the term of the contract, the 
issuer will have no obligation to the purchaser and retains the 
fees paid. If a credit event occurs during the term of the 
contract, the contract is settled--either by cash, in which the 
parties agree on a market value for the reference obligation, 
or by physical settlement, in which the protection seller 
provides the ``deliverable obligations'' specified by the 
contract--and the purchaser of protection discontinues the 
payment. The term of the contract is negotiable, and although 
five years is the most common term, maturities from a few 
months to ten years or more are possible. Fees are usually paid 
quarterly and are expressed in basis points per annum on the 
notional amount of the CDS.\846\ Providers of protection credit 
are dominated by banks and insurance companies, while banks, 
security houses, and hedge funds are the predominant protection 
buyers.\847\ Among these parties, CDS dealers maintain matched 
books, whereby protection sold and protection bought are 
balanced, and net exposure can be low.\848\ These dealers are 
typically large, global banks, and they try to profit from the 
spreads between buying and selling protection.\849\ Because a 
dealer is in the middle of a transaction, the success of the 
dealer's hedge is dependent on relative parity between the 
protection bought and the protection sold. Figure 41 shows an 
example of such a hedge.
---------------------------------------------------------------------------
    \844\ International Swaps and Derivatives Association, AIG and 
Credit Default Swaps (Nov. 2009) (online at www.isda.org/c_and_a/pdf/
ISDA-AIGandCDS.pdf) (hereinafter ``ISDA Paper on AIG and Credit Default 
Swaps'').
    \845\ Credit events are typically constructed around the issuer of 
the reference obligation, and can include bankruptcy, failure to pay, 
acceleration of payments on the issuer's obligations, default on the 
issuer's obligations, restructuring of the issuer's debt, and similar 
events. Written Testimony of Robert Pickel, supra note 38, at 1.
    \846\ The notional amount is the amount of protection provided by 
the CDS: for example, if a party enters into a CDS to purchase 
protection on a $100 million exposure, the notional amount would be 
$100 million. William K. Sjostrum, Jr., The AIG Bailout, Washington and 
Lee Law Review, Vol. 66, at 943 (Nov. 9, 2009) (online at 
papers.ssrn.com/sol3/
papers.cfm?abstract_id=1346552) (hereinafter ``Sjostrum Law Review 
Article''). Although notional amount is often used to describe CDS 
exposure, it is not a precise description of the actual exposure of an 
entity under a CDS. The price of protection also depends on the 
riskiness of the underlying obligation and increases as the risk 
associated with the underlying obligation increases. See House 
Committee on Agriculture, Written Testimony of Erik Sirri, director, 
Division of Trading and Markets, U.S. Securities and Exchange 
Commission, The Role of Credit Derivatives in the U.S. Economy, 110th 
Cong. (Oct. 15, 2008) (online at www.sec.gov/news/testimony/2008/
ts101508ers.htm) (hereinafter ``Written Testimony of Erik Sirri'').
    \847\ Francis A. Longstaff, Sanjay Mithal, and Eric Neis, Corporate 
Yield Spreads: Default Risk Or Liquidity? New Evidence from the Credit 
Default Swap Market, Journal of Finance, Vol. 60, No. 5, at 2216-17 
(Oct. 2005) (online at ksuweb.kennesaw.edu/dtang/CRM/
LongstaffMithalNeis2005JF_YieldSpreads.pdf).
    \848\ ISDA Paper on AIG and Credit Default Swaps, supra note 844.
    \849\ See Sjostrum Law Review Article, supra note 846, at 943; 
Written Testimony of Erik Sirri, supra note 846. Some, but not all of 
these parties are regulated entities. Banks, investment banks and 
investment companies are regulated entities, although insurance 
companies are subject to state regulation in the U.S. and hedge funds 
are at present minimally regulated. For a list of ISDA members, see 
International Swaps and Derivatives Association, Membership (online at 
www.isda.org/membership/isdamemberslist.pdf) (accessed June 8, 2010).
---------------------------------------------------------------------------

                    FIGURE 41: CREDIT DEFAULT SWAPS


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]



    CDSs are built around a debt reference security or a pool 
of reference securities--called the reference obligation or 
obligations--and are memorialized by a standardized agreement 
prepared by the International Swaps and Derivatives Association 
(ISDA). These agreements, known as ISDA Master Agreements, set 
forth a variety of terms pursuant to which CDS counterparties 
can choose the events and terms that will govern their 
transactions.\850\ The Master Agreement sets forth not only the 
payment terms and credit events for a given CDS but also 
establishes the general relationship between the parties, 
including events of default and termination events for the 
Master Agreement between the parties.\851\ Transactions are 
commonly documented pursuant to either a ``1992 Multicurrency 
Cross-Border ISDA Master Agreement'' (the 1992 Agreement) or a 
``2002 ISDA Master Agreement'' (the 2002 Agreement).\852\ Each 
of these agreements consists of preprinted standard provisions 
and a schedule. While the Master Agreements remain in their 
standard pre-printed form, the parties may use the schedule to 
make elections and vary any of the provisions in the Master 
Agreement.\853\ In addition to the Master Agreement and the 
schedule, each transaction under a Master Agreement is 
separately memorialized by a confirmation. According to ISDA, 
the confirmation of a transaction evidences that transaction, 
and each transaction is incorporated into the ISDA Master 
Agreement.\854\ The Master Agreement provides that in the event 
of a disagreement between the terms of the schedule and the 
Master Agreement, the schedule shall govern, and in the event 
of a disagreement between the confirmation and the schedule, 
the confirmation shall govern with respect to the particular 
transaction.\855\ The ISDA documentation also includes a 
``credit support annex'' (CSA) that, if used, governs 
collateral arrangements and requirements between the parties. 
The CSA provides for a variety of calculations that determine 
the collateral taker's ``exposure,'' which is a technical term 
that sets forth the amount payable from one party to another if 
all transactions under the relevant ISDA Master Agreement were 
being terminated as of the time of valuation, calculated using 
estimates at mid-market of the amounts that would be paid for 
replacement transactions.\856\ After a credit event, CDSs can 
be cash-settled or physically-settled. If the CDS is 
physically-settled, it will specify ``deliverable obligations'' 
(usually pari passu with the reference obligations) that the 
protection seller is required to buy at par from the protection 
buyer. If the CDS is cash-settled, the parties agree on a 
market value for the reference obligation.\857\ After an event 
of default or termination event under the relevant master 
agreement, the entire relationship governed by that master 
agreement will close out, meaning that the agreement will 
terminate and amounts owed under the contract will be 
paid.\858\ Parties may also (and often do) write multiple 
contracts under a single master, and if they can use `` close-
out netting'' (whereby a variety of contracts can be set off 
against each other), all transactions under that ISDA Master 
Agreement are viewed as a single agreement between the 
counterparties.\859\
---------------------------------------------------------------------------
    \850\ Written Testimony of Robert Pickel, supra note 38, at 1.
    \851\ Those events of default in the preprinted ISDA Master 
Agreement are: failure to pay or deliver; breach of agreement; credit 
support default; misrepresentation; default underspecified transaction; 
cross default; bankruptcy; and merger without assumption. Termination 
events in the preprinted ISDA Master Agreement are illegality; tax 
event; force majeure (only in the 2002 Agreement); tax event upon 
merger; credit event upon merger; and additional termination event. 
Parties may vary or to supply the standardized terms, or may 
incorporate other events. International Swaps and Derivatives 
Association, Market Review of OTC Derivative Bilateral 
Collateralization Practices, at 9 (Mar. 1, 2010) (online at 
www.isda.org/c_and_a/pdf/Collateral-Market-Review.pdf) (hereinafter 
``Market Review of OTC Derivative Bilateral Collateralization 
Practices'').
    \852\ Most of AIG's CDSs were documented pursuant to the 1992 
Agreement.
    \853\ Market Review of OTC Derivative Bilateral Collateralization 
Practices, supra note 851, at 9.
    \854\ International Swaps and Derivatives Association, Frequently 
Asked Questions, at No. 31 (online at www.isda.org/educat/faqs.html#31) 
(hereinafter ``ISDA Frequently Asked Questions'') (accessed June 8, 
2010).
    \855\ See International Swaps and Derivatives Association, 1992 
Agreement and 2002 Agreement, at Section 1b (Inconsistency) (copies of 
Master Agreements provided by ISDA).
    \856\ As described further below, AIG's CSA would ultimately prove 
critical to AIG's melt-down. In the calculation of the CSA, 
``exposure'' is combined with the Independent Amounts (a lump sum 
payable) and then the Threshold, the uncollateralized amount discussed 
further herein, is subtracted. Market Review of OTC Derivative 
Bilateral Collateralization Practices, supra note 851, at 11.
    ISDA also provides a variety of other standardized documents, such 
as definitions. The Master Agreement is typically governed by New York 
State or English law, because New York and London are the primary 
trading centers for CDSs. The same version of the Master Agreement 
would be used for both jurisdictions. The credit support annex, 
however, differs depending on whether it is the New York form or the 
English form. See Edmund Parker and Aaron McGarry, The ISDA Master 
Agreement and CSA, Butterworths Journal of International Banking and 
Financial Law (Jan. 2009) (online at www.mayerbrown.com/publications/
article.asp?id=8431&nid=6) (hereinafter ``ISDA Master Agreement and 
CSA'').
    \857\ Sjostrum Law Review Article, supra note 846, at 949. If the 
protection buyer does not have the securities, it must obtain them in 
the market.
    \858\ International Swaps and Derivatives Association, The 
Importance of Close-Out Netting, ISDA Research Notes, No. 1 (2010) 
(online at www.isda.org/researchnotes/pdf/Netting-ISDAResearchNotes-1-
2010.pdf) (hereinafter ``The Importance of Close-Out Netting'').
    \859\ ISDA Frequently Asked Questions, supra note 854, at No. 31 
(accessed June 8, 2010); The Importance of Close-Out Netting, supra 
note 858.
---------------------------------------------------------------------------
    While the ISDA Master Agreement is a common framework used 
by institutions for initiating, documenting, and closing out 
CDS contracts, there can be substantial variation in the actual 
terms of contracts.\860\ There are approximately 800 member 
institutions--all sophisticated market players--registered with 
ISDA,\861\ and as noted above, some of these are dealers that 
take different sides of the same trade.\862\ CDSs can also be 
used for multiple purposes, including hedging, speculation, and 
arbitrage.\863\ Accordingly, although the ISDA Master 
Agreement--the CDS base documentation--is theoretically 
standardized, as the contracts are privately negotiated among 
sophisticated parties for various reasons, terms can vary 
greatly. Further, CDSs are not listed on any exchange, and are 
traded in the over-the-counter market between large financial 
institutions without any required documentation or 
recordkeeping to track who traded, how much, and when.\864\ As 
a result, not only is variation among the CDS agreements 
substantial but the market overall is also opaque. The lack of 
transparency is further compounded by documentation problems 
that have repeatedly plagued the CDS market. For example, a 
2007 GAO report described backlogs of confirmations and poorly 
documented assignments of CDS contracts, compounded by 
overreliance on manual systems.\865\ Similarly, after the 
Lehman bankruptcy, a variety of ISDA documentation difficulties 
came to light. These included the tendency of some parties to 
enter into derivative transactions without actually signing a 
Master Agreement first.\866\
---------------------------------------------------------------------------
    \860\ Navneet Arora, Priyank Gandhi and Frances A. Longstaff, 
Counterparty Credit Risk and the Credit Default Swap Market (Jan. 2010) 
(online at v3.moodys.com/microsites/crc2010/papers/
longstaff_counterparty.pdf) (hereinafter ``Counterparty Credit Risk and 
the Credit Default Swap Market'').
    \861\ Counterparty Credit Risk and the Credit Default Swap Market, 
supra note 860.
    \862\ Written Testimony of Erik Sirri, supra note 846.
    \863\ Sjostrum Law Review Article, supra note 846. CDSs can play a 
similar role in the market to bond insurance, which began as municipal 
bond insurance but during the 1990s expanded to encompass insurance on 
a variety of complex products. See House Financial Services, 
Subcommittee on Capital Markets, Insurance, and Government Sponsored 
Enterprises, Written Testimony of Eric Sirri, director, Division of 
Trading and Markets, U.S. Securities and Exchange Commission, The State 
of the Bond Insurance Industry, 110th Cong. (Feb. 14, 2008) (online at 
www.house.gov/apps/list/hearing/financialsvcs_dem/ht021408.shtml). 
Insurance products, however, are regulated, unlike the credit default 
swap market, which generally reduces flexibility.
    \864\ Written Testimony of Erik Sirri, supra note 846.
    \865\ U.S. Government Accountability Office, Credit Derivatives 
Confirmation Backlogs Increased Dealers' Operational Risks, but were 
Successfully Addressed after Joint Regulatory Action (Jun. 2007) (GAO-
07-716) (online at www.gao.gov/new.items/d07716.pdf).
    \866\ See ISDA Master Agreement and CSA, supra note 856.
---------------------------------------------------------------------------
    Although CDSs are used, in many cases, to decrease exposure 
to a given credit default risk, entering into a CDS necessarily 
increases an institution's exposure to counterparty credit 
risk. Counterparty credit risk is the risk that the seller of 
the protection will be incapable or unwilling to make payment 
due under a closed CDS contract after a credit event. 
Typically, in order to minimize or mitigate counterparty credit 
risk, the CDS may include a CSA that requires the posting of 
collateral from the protection seller to the protection 
buyer.\867\ Collateral postings and margin calls are negotiated 
between the parties. According to ISDA, 97 percent of trades in 
credit derivatives are covered by collateral arrangements, and 
over three quarters of all derivatives of any type are 
collateralized.\868\ As noted above, however, the wide 
variation among terms in CDSs means that the parties are not 
obligated to collateralize CDSs and there are no particular 
commercial terms that need to be established. Fundamentally, 
collateralization terms are commercial and credit-risk-
management decisions subject to negotiation between the 
parties.\869\
---------------------------------------------------------------------------
    \867\ Sjostrum Law Review Article, supra note 846.
    \868\ Market Review of OTC Derivative Bilateral Collateralization 
Practices, supra note 851, at 7.
    \869\ Market Review of OTC Derivative Bilateral Collateralization 
Practices, supra note 851, at 7.
---------------------------------------------------------------------------

                     B. AIG's Credit Default Swaps

    AIG has been described as ``unique'' among large CDS market 
participants inasmuch as its book consisted almost completely 
of ``sold'' protection: AIG, unlike a dealer, did not hold 
offsetting positions in CDSs.\870\ Because its models 
anticipated that none of the particular underlying reference 
securities on which AIG wrote protection would ever cause a 
credit event, AIG anticipated that the CDSs it wrote would 
expire, and AIGFP would pocket the premiums without further 
obligation.\871\ AIG wrote CDSs on Super Senior, ``high 
grade,'' and mezzanine tranches of multi-sector CDOs. These 
CDOs were securities with a pool of underlying assets that 
included mortgages from multiple sectors, including residential 
mortgages, commercial mortgages, credit card receivables, and 
other similar assets. Some of these assets were sub-prime 
mortgages, which deteriorated at substantially higher rates 
than were accounted for in AIG's model.\872\
---------------------------------------------------------------------------
    \870\ ISDA Paper on AIG and Credit Default Swaps, supra note 844.
    \871\ Sjostrum Law Review Article, supra note 846. See also House 
Committee on Agriculture, Written Testimony of Henry Hu, Allan Shivers 
Chair in the Law of Banking and Finance, University of Texas School of 
Law, The Role of Credit Derivatives in the U.S. Economy (Oct. 13, 2008) 
(online at agriculture.house.gov/testimony/110/h81015/Hu.pdf).
    \872\ Sjostrum Law Review Article, supra note 846. The vast 
majority of these were physically-settled contracts, which obligated 
the counterparty to deliver the reference obligation at close-out.
---------------------------------------------------------------------------
    Although the deterioration in the credit quality of the 
CDOs caused the estimated spreads on the CDSs written on those 
CDOs to widen and resulted in unrealized losses for AIG, it was 
the collateral posting obligations embedded in the CDSs that 
caused AIG to begin to experience a liquidity crunch.\873\ 
According to AIG's quarterly report for the period ended 
September 30, 2009, counterparties' collateral calls against 
AIGFP related to the multi-sector CDO portfolio were largely 
driven by deterioration in the market value of the reference 
obligations, and the large majority of its obligations to post 
collateral were associated with arbitrage transactions relating 
to multi-sector CDOs.\874\ As discussed above, 
collateralization provisions are almost universal for credit 
derivatives, although the terms of any given credit support 
annex are privately negotiated among counterparties. For many 
of AIG's multi-sector CDS contracts, the collateral required 
was determined based on the change in value of the underlying 
cash security representing the super senior risk layer subject 
to credit protection, rather than on the changing value of the 
derivative. Accordingly, AIG could be obligated to post 
collateral based not on a widening spread for the CDS itself, 
but rather on price changes in the underlying reference 
security.\875\
---------------------------------------------------------------------------
    \873\ Sjostrum Law Review Article, supra note 846.
    \874\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 118.
    \875\ AIG Form 10-Q for Third Quarter 2008, supra note 23.
---------------------------------------------------------------------------
    In addition to these collateralization provisions keyed to 
the value of the reference obligation, however, many of AIG's 
contracts also contained a ``ratings trigger.'' A ``ratings 
trigger'' in a CSA creates an obligation to post additional 
collateral in the event that the party affected experiences a 
ratings downgrade. Ratings triggers are not particular to AIG 
CDS contracts: in a recent ISDA survey, almost all market 
participants reported using ratings triggers when computing 
their Threshold, which is the amount of exposure a party is 
willing to bear uncollateralized. ISDA states that market 
participants often specify the Threshold as a fixed amount, 
although Thresholds may decrease (and accordingly reduce 
exposure) with decreases in credit rating.\876\
---------------------------------------------------------------------------
    \876\ AIG has no information as to whether its rating triggers were 
common in the market, and it noted that when it was involved in these 
deals, it was generally a thin market. It is therefore difficult to 
determine whether AIG's CSAs were unusual. As described further below, 
other market participants require triggered Thresholds.
---------------------------------------------------------------------------
    AIG broke down its description of its collateral calls into 
(1) regulatory capital transactions; (2) arbitrage portfolio 
for multi-sector CDOs; and (3) arbitrage portfolio for 
corporate debt/CLOs. AIG's ratings triggers were complex and 
varied from contract to contract,\877\ but some or many of them 
contained various requirements to post collateral in the event 
of ratings triggers, and in its survey ISDA identifies the 
variable threshold as a particular issue for AIG.\878\ For its 
regulatory capital transactions subject to a CSA, the majority 
of the contracts used formulae unique to each transaction or 
counterparty that depended on credit ratings (including AIG's 
credit ratings and, occasionally, the ratings of notes that 
were issued with respect to different tranches of the 
transaction), loss models from rating agencies, or changes in 
spreads on certain credit indices (although they did not depend 
on the value of any underlying reference obligation).\879\ For 
some of AIG's regulatory capital contracts, AIG was required to 
enter into a CSA in the event its credit rating dropped below a 
specified threshold, and after September 2008 AIG was required 
to implement a CSA or alternative collateral arrangement for a 
majority of the regulatory capital transactions for which it 
was obligated to put a CSA in place if its ratings 
dropped.\880\ For its multi-sector CDO arbitrage portfolio, 
AIG's calculation of exposure modified the standard CSA 
provisions and substituted instead a formula based on the 
difference between the net notional amount of the transaction 
and the market value of the relevant underlying CDO security 
(as opposed to the replacement value of the transaction).\881\ 
The arbitrage portfolio also required transaction-specific 
thresholds, which varied based on the credit ratings of AIG 
and/or the reference obligations.\882\
---------------------------------------------------------------------------
    \877\ Sjostrum Law Review Article, supra note 846.
    \878\ Market Review of OTC Derivative Bilateral Collateralization 
Practices, supra note 851, at 7.
    \879\ AIG Form 10-K for FY07, supra note 41.
    \880\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 119.
    \881\ Replacement value is an alternative form of valuing the 
amounts due under a closed-out contract that the 2002 Agreement added 
to the measures in the 1992 Agreement. See Mayer Brown Rowe & Maw, 2002 
ISDA Master Agreement, at 1 (2002) (online at www.mayerbrown.com/
publications/article.asp?id=332&nid=6) (``If transactions under the 
1992 Agreement are terminated following an Event of Default or a 
Termination Event, a close-out amount is calculated in accordance with 
the payment measure elected by the counterparties. The two optional 
payment measures in the 1992 Agreement are Market Quotation and Loss. A 
new payment measure, `Replacement Value,' has been developed to replace 
both of these existing methods. This new measure incorporates many 
aspects of both existing methods of calculating the early termination 
payment while seeking to give the Non-defaulting Party discretion and 
flexibility in determining the value of any terminated transactions 
(subject always to the requirement of good faith and commercial 
reasonableness)''). See generally International Swaps and Derivatives 
Association, 2005 ISDA Collateral Guidelines (2005) (online at 
www.isda.org/publications/pdf/2005isdacollateralguidelines.pdf).
    \882\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 119. 
According to AIG, the multi-sector CDO portfolio includes 2a-7 Puts, 
pursuant to which holders of securities are required, in certain 
circumstances, to tender their securities to the issuer at par. AIG's 
contracts provide that if an issuer's remarketing agent is unable to 
resell the securities so tendered, AIGFP must (except under certain 
circumstances) purchase the securities at par. At both March 31, 2010 
and December 31, 2009, there was $1.6 billion net notional amount of 
2a-7 Puts issued by AIGFP outstanding. AIG Form 10-Q for the First 
Quarter 2010, supra note 731, at 55.
---------------------------------------------------------------------------
    According to its quarterly report, as of September 30, 2008 
the collateral calls derived largely from counterparties 
relating to multi-sector CDOs, and to a lesser extent, with 
respect to regulatory capital relief purposes and in respect of 
corporate debt/CLOs.\883\ Since most of the collateral posting 
requirements that befell AIG starting in June, 2007 derived 
from the difference between the notional amount of the CDS and 
the market value of the reference obligation,\884\ is worth 
noting that the ratings triggers were not the proximate cause 
of the initial collateral calls. Rather, the collateral calls 
resulted from the significant and substantial deterioration in 
the value of the reference obligations around which the CDSs 
were built. The ratings triggers, however, came in to play when 
AIG was already struggling, and magnified its difficulties. 
AIG's variable thresholds were not necessarily unique to AIG, 
although AIG has since been identified as an object lesson for 
the procyclical dangers of credit-rating triggered collateral 
posting requirements. Through such ratings triggers, an 
individual institution's efforts to reduce its exposure to a 
struggling counterparty can have significant systemic 
effects.\885\
---------------------------------------------------------------------------
    \883\ AIG Form 10-Q for Third Quarter 2008, supra note 23, at 119.
    \884\ Sjostrum Law Review Article, supra note 846.
    \885\ Bank for International Settlements, The Role of Margin 
Requirements and Haircuts in Procyclicality, at 11 (Mar. 2010) (online 
at www.bis.org/publ/cgfs36.pdf?noframes=1) (``While triggers can 
effectively protect creditor interest against idiosyncratic shocks, 
they exacerbate procyclicality when the counterparty involved is 
systemically important and faces financial distress. This was 
forcefully demonstrated when the credit rating of the insurance company 
AIG was downgraded, triggering significant amounts of collateral 
payments that ultimately were met through government intervention''); 
Market Review of OTC Derivative Bilateral Collateralization Practices, 
supra note 851, at 45.
    (``Recommendation 10: The use of credit-based Thresholds that 
reduce as credit ratings decline or credit spreads widen should be 
carefully considered. Parties that elect to use these elements in 
collateral arrangements should recognize that they may have a 
ratcheting effect that reduces credit risk to one party while 
simultaneously increasing liquidity demands on the other party if the 
latter suffers credit deterioration. Accordingly, both parties should 
ensure that they have in place appropriate monitoring to (a) detect and 
respond to credit deterioration in their counterparty and (b) forecast 
and manage the liquidity impact of their own credit deterioration. 
Alternatively, the use of fixed thresholds and/or frequent margin calls 
should also be considered, and all collateral structures should be 
considered in the context of guarantees and other credit risk mitigants 
that may be available.'')
---------------------------------------------------------------------------
    Since September 2008, AIG has been in the process of 
unwinding AIGFP's CDS contracts. As of November 17, 2009, AIG's 
total CDS exposure had fallen about 32 percent since the end of 
2008, from $302 billion to $206 billion.\886\ In the quarter 
ended March 31, 2010, AIG reported that it continued to wind 
down its CDS portfolio. Among other things, its regulatory 
capital portfolio shrank according to its terms: these 
contracts as part of their terms and after could be terminated 
by counterparties at no cost to AIGFP after regulatory events 
such as the implementation of Basel II.\887\ The arbitrage 
portfolio is composed of CDSs with long-term maturities, and at 
present AIG is unable to predict or estimate when the final 
payments will be made.\888\ AIG is, functionally, either 
attempting to sell its positions or is allowing them to expire 
according to their terms. Some of its positions are such that 
it will be unable to sell them--for example there is no market 
for the regulatory capital hedges--and AIGFP must therefore 
allow them to expire according to their terms or close them out 
if a credit event occurs.
---------------------------------------------------------------------------
    \886\ SIGTARP Report on AIG Counterparties, supra note 246, at 25.
    \887\ AIG Form 10-Q for the First Quarter 2010, supra note 731, at 
55.
    \888\ AIG Form 10-Q for the First Quarter 2010, supra note 731, at 
57.
                      ANNEX IV: LEGAL AUTHORITIES


         A. The Bankruptcy Rules That Would Have Applied to AIG

    Generally, when a company files for bankruptcy, its 
creditors will be subject to an automatic stay or an injunction 
that prevents the creditors from taking further action to 
collect on their debts.\889\ Thus, the debtor's assets will be 
protected while negotiations take place with creditors. 
Creditors will be grouped by their level of priority, and 
creditors of the same priority level will receive equal 
treatment under the bankruptcy plan.\890\ Often, unsecured 
creditors will be forced to take substantial discounts on what 
they are owed, and equity holders lose the entire value of 
their investments. Creditors can request relief from the 
automatic stay in certain situations such as foreclosing on 
collateral if the creditor is fully secured or offsetting 
certain obligations with the debtor.\891\ If a 
creditor has received favorable treatment while the debtor was 
insolvent (generally assumed within 90 days of the bankruptcy 
filing), the bankruptcy trustee will be able to undo this 
favorable treatment through various avoidance actions such as 
preferential transfer, constructive fraudulent conveyance, and 
actual fraudulent conveyance actions.\892\ The trustee also has 
the power to assume or reject executory contracts (i.e., 
contracts in which the parties have not completed performance) 
and to ignore contractual provisions that allow for 
modification or termination of contractual rights or 
obligations based on the debtor's financial condition or 
bankruptcy filing.\893\ These provisions, among others, provide 
a legal structure for the orderly reorganization or liquidation 
of businesses in need of bankruptcy protection. However, the 
complex structure of AIG combined with a variety of provisions 
in the United States Bankruptcy Code giving additional 
protection or favorable treatment to the counterparties to 
AIG's various financial instruments would have complicated the 
bankruptcy process for AIG.
---------------------------------------------------------------------------
    \889\ See 11 U.S.C. 362(a). It should be noted that the overall 
bankruptcy structure presented in this paragraph applies to both 
Chapter 7 and Chapter 11 of the Bankruptcy Code.
    \890\ See 11 U.S.C. 507.
    \891\ See 11 U.S.C. 362(d), 553(a).
    \892\ See, e.g., 11 U.S.C. 547 (providing that the trustee may 
avoid preferential transfers), 548 (providing that the trustee may 
avoid fraudulent transfers).
    \893\ 11 U.S.C. 365(e)(1).
---------------------------------------------------------------------------
    U.S. bankruptcy courts do not have jurisdiction over all 
types of debtors and would not have had jurisdiction over all 
of AIG's companies or subsidiaries. The AIG corporate structure 
includes a parent company and at least 223 subsidiaries that 
engage in a wide range of business activities in over 130 
countries or jurisdictions. These activities include domestic 
and foreign insurance-related activities, the issuance of 
commercial paper to finance operations, mortgage lending, and 
the structuring and sale of a variety of standard and 
customized financial products (e.g., CDSs or securities 
lending).\894\ AIG's domestic insurance companies, bank, 
foreign insurance companies, and other foreign companies 
without sufficient ties to the United States would not be able 
to seek protection under U.S. bankruptcy law.\895\ This 
complicates a potential bankruptcy filing for AIG in two ways. 
First, AIG would have to ascertain which of its companies could 
file a bankruptcy petition, presumably Chapter 11 
(reorganization) rather than Chapter 7 (liquidation), and then 
decide which of its companies would do so.\896\ This can be an 
intensive and time consuming process and would involve a 
careful analysis of the corporate structure, financial 
condition of each company or subsidiary, the existence of 
intercompany lending arrangements or guarantees, the applicable 
law, the likely outcome of the bankruptcy filing, and the 
practical consequences of such a filing on current or future 
consumers, suppliers, creditors, and investors. Second, AIG 
would have to consider the impact of a bankruptcy filing on the 
subsidiaries that did not or could not file, their various 
regulators, the relevant markets (e.g., capital markets or the 
derivatives market), and the general public.
---------------------------------------------------------------------------
    \894\ See GAO Report, supra note 18.
    \895\ See 11 U.S.C. 109(a) (requiring debtors to have a U.S. 
connection), (b)(2) (excluding domestic insurance companies and certain 
banks from Chapter 7), (b)(3) (excluding foreign insurance companies 
from Chapter 7), (d) (making these Chapter 7 exclusions applicable to 
Chapter 7).
    \896\ The decision of which subsidiaries would file for bankruptcy 
is done on an entity-by-entity basis and requires board resolution. If 
the subsidiary is wholly owned by the parent company, this decision 
will be influenced by the parent company because the parent company 
appoints the board of directors.
---------------------------------------------------------------------------
    The impact of a bankruptcy filing on the insurance 
subsidiaries could provide particular concern because of the 
size of AIG's insurance business and the potential impact on 
its various policyholders. And, there is at least some concern 
that a number of the insurance subsidiaries were not 
sufficiently capitalized to handle the liquidity pressures from 
the securities lending program on their own.\897\ There is some 
uncertainty as to what would have happened to AIG's various 
insurance subsidiaries if the parent company had filed; 
however, a few general conclusions can be drawn. Upon filing, 
the insurance regulators would not necessarily have changed 
their approach to AIG's insurance subsidiaries. The insurance 
regulators had been monitoring the activities and financial 
condition of the insurance subsidiaries prior to September 2008 
and believed that they were solvent or sufficiently 
capitalized.\898\ The insurance regulators would have been 
concerned about the impact of the filing on the subsidiaries' 
books of business and would have monitored the behavior of 
policyholders such as heightened surrender activity for life 
insurance policyholders and decreased renewal rates for 
shorter-term commercial and property insurance policies.\899\ 
However, it is likely that the insurance regulators would have 
seized the insurance subsidiaries, or put them under a stricter 
form of supervision, regardless of their financial condition in 
order to more effectively protect the subsidiaries from the 
bankruptcy process.\900\
---------------------------------------------------------------------------
    \897\ AIG's Insurance Subsidiaries, supra note 591, at 6. For 
additional discussion of the government assistance provided to the AIG 
insurance subsidiaries, see Section E. The insurance subsidiaries 
received capital contributions from the parent company to offset 
realized losses from the sale of RMBS as part of the securities lending 
transactions ($5 billion), to maintain capital surplus levels upon 
unrealized losses in the RMBS investments, and to make up the shortfall 
in securities lending arrangements when collateral levels were below 
100 percent ($434 million). Panel conference call with Texas Department 
of Insurance (May 24, 2010).
    \898\ Conference call with the National Association of Insurance 
Commissioners and representatives from the New York, Pennsylvania, and 
Texas insurance departments (Apr. 27, 2010). The supervisors have 
informed the Panel staff that they would not necessarily have seized 
the subsidiaries and mentioned the Chapter 11 reorganization of Conseco 
Inc. in 2003 as a practical example of a holding company bankruptcy 
that did not necessitate insurance regulator intervention. Panel staff 
conversation with Texas Department of Insurance (May 24, 2010); Panel 
staff conversation with NAIC (Apr. 27, 2010).
    \899\ Current insurance customers may have been concerned about 
their policies, deciding to take their business elsewhere or taking out 
the cash surrender value of their life insurance policies. And, the 
insurance subsidiaries may not have been able to attract new customers 
because of fear about the subsidiary's financial condition or the 
ability to make contractual insurance payments.
    \900\ If the AIG insurance subsidiary was solvent at the time of 
the filing, the supervisor would choose to first closely watch and 
monitor its position. Panel staff call with New York Insurance 
Department (June 3, 2010). It is likely, however, that the supervisor 
would seize even the healthy subsidiaries in order to protect them from 
the bankruptcy. Panel staff conversation with Jay Wintrob, the CEO of 
the SunAmerica Financial Group (May 27, 2010). If the regulators had 
placed the insurance subsidiaries into some form of rehabilitation, 
they would have had more power in the bankruptcy (e.g., by exercising 
additional regulatory authority to operate, reorganize, or liquidate 
the subsidiaries), and they would have been able to more fully assess 
the financial condition of the subsidiaries because of greater access 
to their books and records. But see Panel staff call with New York 
Insurance Department (June 3, 2010) (the regulators would not have 
seized the subsidiaries because they were well capitalized).
---------------------------------------------------------------------------
    Because insurance is regulated by the states, each state 
could have slightly different legal processes for taking 
greater oversight or control of its insurance subsidiaries. For 
example, in Texas, the Commissioner of Insurance has the option 
of placing a company under supervision.\901\ Supervision does 
not involve an actual seizure of the company, but it provides 
the Commissioner with greater powers to direct the actions of 
the company ``without immediate resort to the harsher remedy of 
receivership.''\902\ In the case of AIG, supervision would have 
been confidential.\903\ Once the Commissioner has put a company 
under supervision, it may later be converted to 
receivership.\904\ If the Commissioner determines that a 
receivership is appropriate, then he or she may put the company 
into receivership by commencing a delinquency proceeding in 
Texas state court.\905\ Texas has other tools in its arsenal. 
For example, the Commissioner can take action against a company 
whose financial condition is ``hazardous,'' requiring it to 
increase its capital and surplus.\906\
---------------------------------------------------------------------------
    \901\ Tex. Ins. Code Ch. 441; 28 Tex. Admin Code Sec. 8. A 
conservatorship under Texas law is similar, but imposes more stringent 
requirements on the Commissioner. For example, supervision is ex parte, 
but conservatorship requires notice and hearing or consent by the 
company.
    \902\ Tex. Ins. Code Ch. 441.001(f).
    \903\ It is confidential when there is the protection of a guaranty 
fund. Tex. Ins. Code Ch. 441.201(f). AIG might have been required by 
auditors, ratings agencies, or disclosure laws to disclose a 
supervision.
    \904\ Tex. Ins. Code Ch. 443.057(8).
    \905\ Tex. Ins. Code Ch. 443.005, 443.057. Texas law provides 22 
grounds under which the Commissioner files for rehabilitation or 
liquidation. These grounds include impairment, insolvency, and when the 
``insurer is about to become insolvent.'' Tex. Ins. Code Ch. 443.057.
    \906\ Tex. Ins. Code Ch. 404.003; 404.053.
---------------------------------------------------------------------------
    The New York Insurance Department has 15 grounds for 
putting a domestic insurance company into rehabilitation or 
liquidation.\907\ These grounds include insolvency.\908\ If the 
New York Superintendent needed to put a solvent subsidiary into 
rehabilitation to protect it from actions taken in a 
bankruptcy, he or she could do so by finding ``after 
examination, [the insurer] to be in such condition that its 
further transaction of business will be hazardous to 
policyholders, creditors, or the public.''\909\ In order to put 
a company into rehabilitation, the superintendent, represented 
by the attorney general, will need to get a court order.\910\
---------------------------------------------------------------------------
    \907\ NY Ins. Code Sec. 7402.
    \908\ NY Ins. Code Sec. 7402(a).
    \909\ NY Ins. Code Sec. 7402(e).
    \910\ NY Ins. Code Sec. 7417.
---------------------------------------------------------------------------
    The state insurance regulators would have worked with each 
other as well as with the bankruptcy court, company management, 
and bankruptcy counsel to ensure that actions taken during the 
parent company's bankruptcy would not adversely affect the 
insurance subsidiaries (actively participating in bankruptcy 
hearings and filing relevant court orders). For example, the 
insurance regulators would have to approve the taking of 
material amounts from the insurance subsidiaries (cash or other 
assets) or the purchase of the insurance subsidiary by a third 
party. The regulators would have unwound the securities lending 
agreements and brought the insurance subsidiaries' share of the 
collateral in the investment pool onto their balance sheet. 
During the course of the bankruptcy, if the regulators believed 
that there was sufficient harm to the insurance subsidiaries or 
that liquidity or insolvency concerns had emerged, they would 
place the relevant insurance subsidiaries under heightened 
supervision or into conservation, rehabilitation, or 
liquidation, if they had not yet done so. In the worst case 
scenario, the regulators would have seized the insurance 
subsidiaries, ceased paying the surrender values of life 
insurance policies (stopping a run on the life insurance 
companies, if one had developed), sealed off the company, and 
preserved the assets to pay off the liabilities.
    Seizure of the insurance subsidiaries could have caused 
protracted delays in paying claims to policyholders. In the 
past, smaller insurance receiverships have taken up to 10 to 20 
years to pay all claims. It could also have caused significant 
stress to other, solvent insurance companies. When an insurance 
company goes into receivership, claims that cannot be paid out 
of the company are paid by the state guarantee fund. State 
guarantee funds are funded through assessments on the solvent 
insurance companies in the state. These assessments have annual 
caps that, based on AIG's size, likely would have been hit, 
requiring additional assessments the following year. These 
assessments could have caused substantial strain on these 
solvent insurance companies.\911\
---------------------------------------------------------------------------
    \911\ Panel staff conversation with industry experts (May 14, 
2010).
---------------------------------------------------------------------------
    If the parent company of AIG and some of its eligible 
subsidiaries decided to file a bankruptcy petition, the 
bankruptcy laws would not have protected AIG from heightened 
liquidity problems, the almost complete loss of value of its 
derivative portfolio, the loss of key sources of short-term 
funding, or the loss of assets that had been posted as 
collateral prior to the bankruptcy filing. In general, 
bankruptcy is fundamentally different for financial companies 
whose business relationships and financial transactions depend 
on trust or confidence. For this reason, a bankruptcy filing 
would have been a death warrant for AIG as a financial company 
because neither financial institutions nor others will do 
business with a company if they fear that default is a 
possibility. Further, the Bankruptcy Code includes a number of 
safe harbors that would have exempted counterparties to various 
``financial instruments''--defined broadly to include AIG's 
CDSs and repurchase agreements--from the automatic stay, the 
prohibition on modifying or terminating contracts based on a 
bankruptcy filing, and various avoidance actions related to 
pre-bankruptcy collateral transfers.\912\
---------------------------------------------------------------------------
    \912\ See 11 U.S.C. 362(b)(6), (b)(7), (b)(17), (b)(27), (o) 
(exempting various financial participants or holders of commodities 
contracts, forward contracts, securities contracts, repurchase 
agreements, swap agreements, and master netting agreements from the 
automatic stay); 11 U.S.C. 555, 556, 559, 560, 561, 553, 365(e)(1) 
(providing that counterparties to securities contracts, forward 
contracts, commodities contracts, repurchase agreements, swap 
agreements, and master netting agreements cannot be prevented from 
exercising any contractual right to liquidate, terminate, or accelerate 
their contracts or from offsetting or netting out any termination 
value, payment amounts, or other obligations); 11 U.S.C. 546(e)-(g), 
(j) (providing that the trustee cannot avoid transfers made in relation 
to securities contracts, commodity contracts, forward contracts, 
repurchase agreements, swap agreements, and master netting agreements 
based on sections 544 (strong arm provision), 545 (statutory liens), 
547 (preferences), or 548(a)(1)(B) and 548(b) (constructive fraudulent 
transfers); 11 U.S.C. 548(c), (d)(2) (impairing the trustee's ability 
to bring actual fraudulent transfer actions by protecting 
counterparties to the extent that they gave value and providing that 
transfers related to margin payments or transfers related to 
repurchase, swap, and master netting agreements are always for value). 
For definitions of these terms, see 11 U.S.C. 101(22A) (defining 
``financial participant''), (25) (defining ``forward contract''), (26) 
(defining ``forward contract merchant''), 47 (defining ``repurchase 
agreement''), 46 (defining ``repo participant''), 53B (defining ``swap 
agreement''), 53C (defining ``swap participant''), 38A (defining 
``master netting agreement''), 38B (defining ``master netting agreement 
participant''). The bankruptcy court in the Lehman Brothers case has 
recently clarified that this option has temporal limitations or must be 
exercised ``fairly contemporaneously with the bankruptcy filing'' and 
that the safe harbors only protect those actions listed in the 
provisions. See Wilbur F. Foster, Jr., Adrian C. Azer, and Constance 
Beverly, Court Explores Termination Rights Under Bankruptcy Code 
Section 560, Pratt's Journal of Bankruptcy Law, at 505-506 (Nov./Dec. 
2009).
---------------------------------------------------------------------------
    In combination, these provisions would have cut off AIG's 
top-level overnight or short-term funding through repurchase 
agreements. If AIG had filed for bankruptcy, the counterparties 
to these derivative instruments would have called their loans, 
rather than allowing them to roll over (similar to a revolving 
credit line), and would have withdrawn funds or seized 
collateral.\913\ And, the counterparties to AIG's CDS 
agreements would have terminated or closed out their contracts 
(terminating their payment obligations), seized any collateral 
posted prior to the filing, attempted to purchase replacement 
positions, and asserted a claim for any deficiency or 
unrecovered amounts. The deficiency claims asserted by the 
counterparties, if any, would have been subject to the discount 
negotiated for unsecured creditors in the bankruptcy plan.
---------------------------------------------------------------------------
    \913\ See 11 U.S.C. 362(b)(7), (b)(27); 11 U.S.C. 553, 559, 561.
---------------------------------------------------------------------------
    Although bankruptcy proceedings would have provided a legal 
mechanism to reorganize or liquidate the AIG parent company and 
its derivative portfolio, such proceedings would not have 
addressed the potential impact on its insurance subsidiaries, 
their regulators, or their customers. Bankruptcy proceedings 
also would not have addressed the impact of AIG's filing (or 
general default on its obligations) on the counterparties to 
its various derivative contracts or to the financial system as 
a whole. All of the counterparties to AIG's derivative 
contracts would have closed out their contracts creating some 
level of market panic as the counterparties attempted to 
mitigate their damages by seizing previously posted collateral, 
selling securities, or purchasing replacement positions and as 
the counterparties adjusted their financial statements to 
properly reflect newly calculated risk levels or asset values. 
However, such external considerations are outside the scope of 
the bankruptcy law. The extent to which an AIG filing would 
have destabilized the capital markets and whether the markets 
would have been able to recover from such a filing in a timely 
manner or without severe disruptions is unclear. However, it is 
clear that there was no resolution authority in place that 
could manage both the resolution of AIG and the systemic 
consequences of an AIG failure.

              B. Section 13(3) of the Federal Reserve Act

    Section 13(3) of the Federal Reserve Act provides three 
express limitations on the Federal Reserve's emergency lending 
authority: (1) the Board of Governors must determine that 
unusual and exigent circumstances exist, by the affirmative 
vote of at least five members, (2) the loans must be secured to 
the satisfaction of the Federal Reserve Bank, and (3) the 
Federal Reserve Bank authorized to make the loans must have 
obtained evidence that adequate credit was not available from 
other banking institutions.\914\
---------------------------------------------------------------------------
    \914\ 12 U.S.C. 343. For additional explanation of Section 13(3), 
see Section C.4.
---------------------------------------------------------------------------
    In general, the Federal Reserve and FRBNY satisfied these 
three express limitations when providing assistance to AIG in 
the form of four credit facilities: the RCF, SBF, ML2, and ML3. 
The Board of Governors authorized each of the facilities after 
determining that unusual and exigent circumstances existed by 
the affirmative vote of at least five members, meeting the 
first prong.\915\ The Board authorized the general structure or 
terms of the facilities and the maximum amounts that could be 
borrowed from FRBNY. FRBNY also reviewed the assets being 
pledged as collateral for adequacy and determined that the 
collateral secured the facilities to its satisfaction, meeting 
the second prong.\916\ Finally, FRBNY used the authorization 
provided by the Board of Governors to finalize the specific 
terms and to enter into the facilities after verifying that 
adequate credit was not available to AIG from other banking 
institutions, meeting the third prong.\917\ Where necessary, 
the Federal Reserve and FRBNY relied on their legal authority 
to take actions that were incidental to their lending 
authority. For example, FRBNY relied on its incidental powers 
to require the equity kicker of 79.9 percent of AIG's stock 
(given to Treasury), to set up the SPVs for the Maiden Lane 
facilities, and to accept preferred equity in AIA and ALICO in 
partial forgiveness of AIG's outstanding obligations.\918\ The 
following discussion will provide an analysis of the Board's 
decision regarding the general structure of the facilities as 
well as the adequacy of the collateral accepted as security.
---------------------------------------------------------------------------
    \915\ See Federal Reserve Press Release, supra note 266; Federal 
Reserve Press Release, supra note 320; Federal Reserve Press Release 
Announcing Restructuring, supra note 330; Treasury and the Federal 
Reserve Announce Participation in Restructuring, supra note 518; Board 
of Governors of the Federal Reserve System, Minutes: Financial 
Markets--Extension of credit to American International Group, Inc. 
(Sept. 16, 2008), Board of Governors of the Federal Reserve System, 
Minutes: American International Group, Inc.--Proposal to provide a 
securities lending facility (Oct. 6, 2008).
    \916\ Panel staff conversation with Federal Reserve Board staff 
(May 27, 2010).
    \917\ Panel staff conversation with Federal Reserve Board staff 
(May 27, 2010).
    \918\ Panel staff conversation with Federal Reserve Board staff 
(May 27, 2010).
---------------------------------------------------------------------------
    The structure of the revolving credit facility fits most 
neatly into the Federal Reserve's Section 13(3) lending 
authority. Section 13(3) authorizes the Federal Reserve to 
``discount . . . notes, drafts, and bills of exchange.'' \919\ 
The term ``discount'' has been interpreted broadly to refer to 
any purchase of paper (or essentially any advance of funds in 
return for a note) with previously computed interest.\920\ The 
RCF provided for the advance of funds by FRBNY to AIG in return 
for an interest-bearing note or credit agreement.\921\ The 
quality of the assets pledged as collateral to secure the 
facility and the requirement that AIG ``gift'' almost 80 
percent of its stock to Treasury as an ``equity kicker'' 
(pursuant to its incidental powers) raise more difficult 
questions.
---------------------------------------------------------------------------
    \919\ 12 U.S.C. 343.
    \920\ Panel staff conversation with Federal Reserve Board staff 
(May 27, 2010). See also Small and Clouse (2004) (stating that Section 
13(3) provides virtually no restrictions on the form a credit 
instrument must take in order to be eligible for discount because the 
terms ``notes, drafts, and bills of exchange'' include most forms of 
written credit instruments); Board of Governors of the Federal Reserve 
System, Federal Reserve Bulletin, at 269 (Mar. 1958) (providing that 
``the judicial interpretations of the word `discount' show that the 
term is used very broadly. In practice the term `bank discount' is 
applied broadly to transactions by which a bank computes interest in 
advance so that there is the possibility of compound interest, and it 
seems that any purchase of paper is a `discount' in that sense since it 
permits such advance computation and compounding.''). The purchase of 
paper--including notes, promissory notes, drafts, and bills of 
exchange--recourse or non-recourse--does not necessarily have to be at 
an amount less than the principal amount of the paper. Id.
    \921\ FRBNY provided funds to AIG in return for a series of demand 
notes until FRBNY and AIG entered into a Credit Agreement that 
established the credit facility (the existing demand notes were 
canceled and the amounts due were transferred to the facility). See 
Board of Governors of the Federal Reserve System, Report Pursuant to 
Section 129 of the Emergency Economic Stabilization Act of 2008: 
Secured Credit Facility Authorized for American International Group, 
Inc. on September 16, 2008, at 4 (online at www.federalreserve.gov/
monetarypolicy/files/129aigseccreditfacility.pdf) (hereinafter 
``Federal Reserve Report Pursuant on Secured Credit Facility Authorized 
for AIG''). For additional information on the Revolving Credit 
Facility, see Section D.1.
---------------------------------------------------------------------------
    FRBNY accepted the unencumbered assets of AIG, including 
AIG's stock in its regulated insurance subsidiaries, as 
collateral for the $85 billion credit facility.\922\ The 
Federal Reserve relied on information collected by the private 
consortium (that attempted but ultimately failed to provide 
capital to AIG) and on a third-party evaluation to estimate the 
value of the pledged assets.\923\ Although reasonable minds can 
certainly differ on the value of a company or its assets, 
especially a company as complicated as AIG with market 
conditions as disrupted as they were, there are some aspects of 
an AIG asset valuation worth noting.
---------------------------------------------------------------------------
    \922\ See Federal Reserve Press Release, supra note 266; Federal 
Reserve Report Pursuant on Secured Credit Facility Authorized forAIG, 
supra note 921, at 5-7. For additional information on the Revolving 
Credit Facility, see Section D.1. It should be noted that the assets 
pledged as collateral did not include securities loaned by the 
insurance subsidiaries to various counterparties (the counterparties 
owned the loaned securities), the RMBS purchased with the cash 
collateral from the counterparties to the securities lending agreements 
(they were encumbered and thus unable to provide security), or the CDOs 
or underlying reference securities to CDS contracts issued by AIG (they 
were owned or intermediated by the CDS counterparties).
    \923\ Morgan Stanley, which had been hired as an advisor to FRBNY, 
provided information on the value of the potential collateral to the 
private consortium. Ernst & Young advised the Federal Reserve Board and 
FRBNY on the valuation of potential collateral. The latter evaluation 
was completed before the credit agreement was signed, but not before 
the Federal Reserve announced the Revolving Credit Facility on 
September 16 and the first overnight loans were made. The overnight 
loans made before the credit agreement was signed were secured by AIG 
securities that the Reserve Bank valued as satisfactory for the amount 
of credit extended (roughly $37 billion). Panel staff conversation with 
Federal Reserve Board staff (June 8, 2010); Panel staff conversation 
with Federal Reserve Board staff (May 27, 2010); Federal Reserve Report 
Pursuant on Secured Credit Facility Authorized for AIG, supra note 921, 
at 4.
---------------------------------------------------------------------------
    Although FRBNY determined that the $85 billion RCF was 
secured to its satisfaction, only days before a private sector 
consortium apparently concluded that AIG did not have 
sufficient assets to secure a $75 billion loan.\924\ In 
addition, the valuation of some of the assets--including the 
stock in AIG's insurance subsidiaries--may have been higher 
because of the Federal Reserve's support to AIG. The Federal 
Reserve was entitled to take into account the impact of its 
intervention on the value of the collateral it was taking. In 
the event that AIG later defaulted, however, the consequences 
that the government was trying to avoid (bankruptcy of the 
parent company, seizure of the insurance subsidiaries, or both) 
may have occurred, driving down the value of the insurance 
subsidiaries (and the stock in the insurance subsidiaries that 
were pledged as collateral to secure the RCF).
---------------------------------------------------------------------------
    \924\ Although both the Federal Reserve and the private consortium 
were evaluating assets of AIG, it is not clear whether they were 
evaluating the exact same assets or collateral package. For additional 
discussion of the private sector consortium, see Sections C.1 and C.2.
---------------------------------------------------------------------------
    The requirement that AIG provide an ``equity kicker'' in 
return for the RCF (as part of its incidental powers) is also 
unique as a requirement for government or central bank 
assistance. Although ``equity kickers'' are common requirements 
in commercial loans--and the requirement to provide 79.9 
percent of AIG stock was one of the proposed terms for the 
private consortium--such ``equity kickers'' are not common for 
central banks and have never before been required by the 
Federal Reserve as a condition for a loan.\925\
---------------------------------------------------------------------------
    \925\ Panel staff conversation with Federal Reserve Board staff 
(May 27, 2010).
---------------------------------------------------------------------------
    Like the $85 billion RCF, the subsequent $37.8 billion SBF 
fits neatly into the Federal Reserve's lending authority under 
Section 13(3). As part of this facility, FRBNY can replace 
existing securities lending counterparties of AIG.\926\ If the 
counterparties wish to exit the program, FRBNY will borrow the 
investment grade debt obligations from AIG that had been loaned 
to those counterparties (the borrowed obligations serving as 
collateral for the transaction) in return for cash collateral 
``with an interest rate of 100 basis points above the average 
overnight repo rate offered by dealers on the relevant 
collateral type.'' \927\ Further, in comparison to the assets 
pledged as collateral for the RCF, the assets pledged as 
collateral for the SBF are less risky and more easily valued, 
including only investment grade debt obligations such as 
corporate debt obligations, agency pass-through certificates, 
and obligations of foreign and local governments. As mentioned 
above, these assets were not eligible to be pledged as 
collateral for the RCF because they had already been loaned to 
the securities lending counterparties.\928\
---------------------------------------------------------------------------
    \926\ For additional information on AIG's securities lending 
program, see Section B.3 and Annex V, and for additional information on 
the Securities Borrowing Facility, see Section D.1.
    \927\ Securities Borrowing Facility for AIG, supra note 264, at 3. 
Broken down, securities lending agreements have two parts: (1) the 
borrower purchases the securities (in this case fixed income debt 
obligations) from the lender for a certain price (in this case cash 
collateral ``with an interest rate of 100 basis points above the 
average overnight repo rate offered by dealers on the relevant 
collateral type'') and (2) the borrower agrees to sell and the lender 
agrees to purchase equivalent securities for the same price as the 
original transfer upon the demand of either party. In addition to the 
debt obligations pledged as collateral, the advances were made with 
recourse to AIG (providing additional security for the loans).
    \928\ Securities Borrowing Facility for AIG, supra note 264, at 3.
---------------------------------------------------------------------------

3. Maiden Lane II

    The ML2 facility provides a less straightforward fit with 
the Federal Reserve's authority under Section 13(3) because of 
its more complicated structure. FRBNY created a wholly-owned 
SPV (ML2). The Federal Reserve authorized FRBNY to loan up to 
$22.5 billion to the SPV under a senior note (and AIG loaned $1 
billion to the SPV under a subordinated note). The SPV then 
purchased RMBS from AIG insurance subsidiaries (related to the 
securities lending program) at their fair market value as of 
October 31, 2008.\929\
---------------------------------------------------------------------------
    \929\ Federal Reserve Report on Restructuring, supra note 329, at 
5, 7-8. For additional discussion of the ML2 facility, see Sections D.3 
and F.4.
---------------------------------------------------------------------------
    The Federal Reserve Board staff explained that FRBNY 
created the SPV using its incidental powers for practical 
purposes. The SPV provided a convenient structure to segregate 
the RMBS assets and make the ML2 facility more transparent (by 
making it easier to identify the owner of the assets and to 
generally control, value, audit, and report on the assets). 
Thus, placing the assets into the SPV was ``incidental'' to 
purchasing those assets at a discount.\930\ Technically, an SPV 
is a ``person,'' even if wholly owned by the bank that created 
it (in this case, FRBNY); thus, it could be the recipient of a 
loan under Section 13(3). In substance, however, FRBNY was 
lending money to itself under Section 13(3) and then using the 
funds to purchase RMBS.\931\ The Federal Reserve Board staff 
further explained that you can ``look through'' the SPV to see 
that FRBNY was discounting the RMBS assets. Each RMBS was 
itself a promissory note or debt obligation so FRBNY was 
essentially purchasing a note or debt obligation at a discount 
(a practice that fits more neatly under its 13(3) lending 
authority).\932\
---------------------------------------------------------------------------
    \930\ Panel staff conversation with Federal Reserve Board staff 
(May 27, 2010). It should be noted that the RMBS assets in ML2 are 
consolidated onto the Federal Reserve's balance sheet (so the SPV 
structure was not used as a means to achieve an off balance sheet 
transaction with AIG.
    \931\ FRBNY loaned to ML2 under a senior note. The loan accrued 
interest (at a rate of 1-month LIBOR plus 100 basis points) and was 
fully secured by the RMBS portfolio. The loan was non-recourse, meaning 
that payment could only be collected from the RMBS assets. Panel staff 
conversation with Federal Reserve Board staff (May 27, 2010); Federal 
Reserve Report on Restructuring, supra note 329, at 7
    \932\ The RMBS were third party notes; third parties were required 
to make payments to AIG. AIG sold this payment stream to FRBNY.
---------------------------------------------------------------------------
    The Federal Reserve Board staff characterized this loan as 
a ``haircut'' because FRBNY loaned $19.5 billion in cash in 
return for RMBS with a par value of $40 billion (a haircut of 
around 50 percent). This loan, however, did not require a 
``haircut'' in the normal sense of the term. The securities 
lending counterparties were not required to take a haircut or 
make concessions; AIG paid these counterparties in full with 
the help of the funds provided by FRBNY. The fact that the par 
value of the RMBS (which served as collateral for the loan) was 
almost twice the amount of the loan supports the Board's 
conclusion that the loan was overcollateralized.

4. Maiden Lane III

    The 13(3) analysis of the ML3 facility is more complicated 
because in ML3, FRBNY purchased the debt obligations from the 
counterparties to AIG's CDS contracts, rather than from AIG or 
its subsidiaries.\933\ Even though the termination of the CDS 
contracts and the purchase of the CDOs from the CDS 
counterparties benefited AIG (an institution that could not 
obtain credit from alternative banking institutions), ML3 did 
not involve a loan to AIG or a purchase of notes or debt 
obligations owned by AIG. ML3 involved a loan to an SPV wholly 
owned by the FRBNY or a purchase of notes or debt obligations 
from CDS counterparties of AIG (institutions that likely could 
obtain adequate credit from other banking institutions). Thus, 
whether one respects the separate corporate status of the SPV, 
or looks through the SPV, the purchases were made for the 
benefit of, but not from, institutions that were otherwise 
unable to obtain credit, unless one regards the SPV itself as 
being unable to do so.
---------------------------------------------------------------------------
    \933\ The 13(3) analysis for ML3 is otherwise similar to the ML2 
analysis. FRBNY created a wholly-owned special purpose vehicle or SPV 
(ML3). FRBNY then loaned up to $30 billion to the SPV under a senior 
note (and AIG loaned $5 billion to the SPV under a subordinated note). 
The SPV purchased CDOs from the CDS counterparties at their market 
value as of October 31, 2008. Like the RMBS purchased by ML2, the CDOs 
were promissory notes or debt obligations. And, FRBNY's loan to ML3 was 
overcollateralized; FRBNY loaned $24.3 billion to ML3 in return for 
CDOs with a par value of $62 billion. For additional discussion of the 
terms and reasons for the ML3 facility, see Section D.4. See also 
Federal Reserve Report on Restructuring, supra note 329, at 8-9.
---------------------------------------------------------------------------
    Even so, however, one can see the structure in one of three 
ways: as a third party agreement to benefit AIG (a purchase of 
a discounted note ``for'' AIG, which is all the statute 
requires), a restructuring of the original loan made by the 
Federal Reserve using its incidental powers to buttress section 
13(3), or a purchase by an SPV that could not otherwise obtain 
credit (an admittedly weak characterization).
                      ANNEX V: SECURITIES LENDING

    Securities lending was developed as a means for investors 
to maintain a long position in a stock while enhancing the 
stock's ability to generate profit. Securities lenders are 
usually large institutional investors such as mutual funds, 
pensions, endowments, and insurance companies. Securities 
borrowers may be hedge funds, broker-dealers, or trading desks. 
The borrowed securities are most often used to cover a short 
sale but may be used for other types of arbitrage or balance 
sheet management.
    In a typical securities lending transaction, the owner 
lends the security to the borrower in exchange for a fee.\934\ 
The borrower must also post collateral, often cash amounting to 
102 to 105 percent of the market value of the security on the 
day it is lent. While the security is on loan, the borrower 
holds title to the security and its voting rights. In reality, 
the security is often sold by the borrower immediately and the 
proceeds from the sale used as the collateral. That is, the 
security is lent and sold, and the proceeds posted as 
collateral as one nearly simultaneous transaction.
---------------------------------------------------------------------------
    \934\ This is often accomplished through an agent, who may also 
hold and manage the collateral on behalf of the lender.
---------------------------------------------------------------------------
    The lender may use the collateral for investments and may 
take as its fee a percentage of the profits made from such 
investments. As the value of the loaned security fluctuates, 
the collateral held by the lender may be adjusted to reflect 
the value of the security plus the additional 2 to 5 percent 
margin--if the value of the security increases, the borrower 
must post more collateral; if the value falls, the lender 
returns a portion of the collateral. To repay the loan and 
claim the collateral, the borrower must give the lender the 
same number and type of security that was borrowed. The primary 
risk to a borrower is therefore the possibility that the 
security will increase in value and the borrower will have to 
buy replacement securities at a price higher than the original 
securities were sold.
    Lenders usually invest the borrower's collateral in 
overnight investments or in other low-risk securities. There is 
a chance, however, that a lender will make an imprudent 
investment and lose some of the collateral's value. In that 
case, the lender will have to make up the difference between 
the investment's current value and the collateral owed to the 
borrower. In some cases, the lender may be unable to return the 
collateral upon request and may therefore become indebted to 
the borrower. Additionally, if the collateral is invested in 
securities whose value falls rapidly, the lender may face a 
double bind: it must return a large portion of the collateral 
but it may find the market for the securities in which the 
collateral is invested has lost significant liquidity, making 
it difficult to sell the investments and redeem the 
collateral.\935\
---------------------------------------------------------------------------
    \935\ This appears to be what happened to at least one securities 
lender in the wake of Lehman's failure and the near-collapse of AIG in 
late 2008. BP Corp. North America, Inc. v. Northern Trust Investments, 
N.A., 2008 WL 5263695 (N.D. Ill., Dec. 16, 2008).
---------------------------------------------------------------------------
    Until the credit crunch of late 2008, securities lending 
was viewed as a low-risk activity; since the start of the 
current crisis, that view has come into question.
              ANNEX VI: DETAILS OF MAIDEN LANE II HOLDINGS


Description of Holdings

    ML2 was formed to acquire non-agency (i.e., not eligible 
for purchase by Fannie Mae and Freddie Mac) RMBS from the 
reinvestment pool of the securities lending portfolio of 
several regulated U.S. insurance subsidiaries of the American 
International Group, Inc. (the ``AIG Subsidiaries''). At the 
time (Q4 2008), 47.1 percent of the securities were rated AAA; 
52 percent of the face value of the securities had subprime 
collateral.

Valuation of Holdings as of December 2008

    On December 12, 2008, ML2 purchased from the AIG subs non-
agency RMBS with an approximate fair value of $20.8 billion, 
determined as of October 31, 2008. The purchase was financed 
with a $19.5 billion loan from FRBNY, $1.0 billion purchase 
price payable to the AIG subsidiaries, and a $0.3 billion 
adjustment due to changes between the announcement and 
settlement date. The $20.8 billion fair value determination 
relies largely on Levels 2 and 3 mark to market accounting 
(GAAP) methodology. Level 2 relies upon quoted prices for 
similar securities to those being valued. Level 3 employs 
model-based techniques that use assumptions not observable in 
the market, including option pricing models and discounted cash 
flow models.

Valuation of Holdings--Latest Estimate

    On May 27, 2010 the net portfolio holdings of ML2 was $15.9 
billion and the outstanding principal amount of the loan 
extended by FRBNY plus accrued interest was $14.8 billion.

        FIGURE 42: SECURITIES SECTOR DISTRIBUTION FOR ML2 \936\

      
---------------------------------------------------------------------------
    \936\ Credit and Liquidity Programs and the Balance Sheet, supra 
note 324.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


        FIGURE 43: SECURITIES RATING DISTRIBUTION FOR ML2 \937\

      
---------------------------------------------------------------------------
    \937\ Credit and Liquidity Programs and the Balance Sheet, supra 
note 324.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


             ANNEX VII: DETAILS OF MAIDEN LANE III HOLDINGS


Description of Holdings

    ML3 was formed on October 14, 2008, to acquire asset-backed 
(ABS) collateralized debt obligations (CDOs) from certain 
third-party counterparties of AIGFP. The acquisition took place 
in two stages: the first on November 25, 2008 and the second on 
December 18, 2008. The majority of the CDOs were categorized as 
high grade CDOs; CDOs backed by commercial real estate, 
mezzanine CDOs, and other ABS made up the remaining portion. On 
December 31, 2008, the ratings composition of ML3 was the 
following: AAA (18.1%), AA+ to AA- (27.0%), A+ to A- (9.0%), 
BBB+ to BBB- (12.6%) and BB+ and Lower (33.2%).

Valuation of Holdings as of December 2008

    The fair value of the assets as of year-end 2008 was $26.7 
billion. The fair value of the FRBNY Senior Loan was $24.4 
billion. These fair values were determined based largely upon 
Level 3 mark to market accounting methodology.

Valuation of Holdings--Latest Estimate

    On May 27, 2010, the net portfolio holdings of ML3 were 
$23.4 billion while the FRBNY outstanding principal loan amount 
plus accrued interest was $16.6 billion.

        FIGURE 46: SECURITIES SECTOR DISTRIBUTION FOR ML3 \938\

      
---------------------------------------------------------------------------
    \938\ Credit and Liquidity Programs and the Balance Sheet, supra 
note 324.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


        FIGURE 47: SECURITIES RATING DISTRIBUTION FOR ML3 \939\

      
---------------------------------------------------------------------------
    \939\ Credit and Liquidity Programs and the Balance Sheet, supra 
note 324.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


       ANNEX VIII: COMPARISON OF EFFECT OF RESCUE AND BANKRUPTCY


              FIGURE 50: SECURITIES LENDING COUNTERPARTIES
------------------------------------------------------------------------
           Bankruptcy                   Rescue            Difference
------------------------------------------------------------------------
                  Collateral Status: Overcollateralized
------------------------------------------------------------------------
AIG insurance subsidiaries would  SL CPs received     The financial
 remain liable to SL CPs for any   cash collateral     result would have
 unpaid obligations.               payments (either    been the same if
                                   through             the AIG parent
                                   collateral calls    company had filed
                                   or upon             for bankruptcy or
                                   termination) in     as a result of
                                   full, on demand,    the rescue.
                                   or at the          However, the SL
                                   termination of      CPs were better
                                   AIG's SL program.   off as a result
                                  The impact on the    of the rescue
                                   SL CPs is the       because they did
                                   same regardless     not have to sell
                                   of whether the      the lent
                                   funds were          securities
                                   provided to AIG     (incurring
                                   through the         related costs and
                                   Federal Reserve     expenses) to
                                   credit facilities   satisfy the
                                   or the ML2          amount of unpaid
                                   transaction.        obligations.
AIG parent company would not
 provide further capital to
 provide liquidity to SL
 collateral pools or to offset
 insurance subsidiary losses
 from the sale of impaired
 assets (RMBS) (guarantees would
 likely be rejected in
 bankruptcy and downstream
 payments would likely stop,
 unless creditors and DIP
 believed it would maximize
 value of stock in insurance
 subsidiaries).
If AIG subsidiaries were unable
 to provide cash collateral (for
 collateral calls or early
 termination payments), SL CPs
 could sell the lent securities
 to satisfy any unpaid
 obligations (and use any excess
 to pay reasonable costs and
 expenses).
------------------------------------------------------------------------
                 Collateral Status: Undercollateralized
------------------------------------------------------------------------
AIG insurance subsidiaries would
 remain liable to SL CPs.
AIG parent company would not      SL CPs received     SL CPs received
 provide further capital to        cash collateral     more as a result
 provide liquidity to SL           payments (either    of the rescue
 collateral pools or to offset     through             than they would
 the insurance subsidiaries'       collateral calls    have received if
 losses from the sale of           or upon             the AIG parent
 impaired assets (RMBS) to         termination) in     company had filed
 satisfy required collateral       full, on demand,    for bankruptcy.
 payments.                         or at the           The SL CPs did
                                   termination of      not have
                                   AIG's SL program.   sufficient
                                  The impact on the    collateral to
                                   SL CPs is the       satisfy any
                                   same regardless     unpaid
                                   of whether the      obligations, and
                                   funds were          it is unlikely
                                   provided to AIG     that they would
                                   through the         have been able to
                                   Federal Reserve     collect any
                                   credit facilities   shortfall because
                                   or the ML2          of the
                                   transaction.        termination of
                                                       downstream
                                                       payments from the
                                                       AIG parent
                                                       company and
                                                       likely
                                                       intervention by
                                                       the state
                                                       insurance
                                                       regulators.
If AIG subsidiaries were unable
 to provide cash collateral (for
 collateral calls or
 termination), SL CPs could sell
 the lent securities to recover
 some of the unpaid obligations
 and assert a claim for any
 shortfall.
The SL CPs' ability to collect
 on their deficiency claims
 would depend on the actions of
 the state insurance regulators.
 If the regulators seized the
 insurance subsidiaries, the SL
 CPs would likely have received
 nothing for their deficiency
 (or would have received a
 minimal amount after all of the
 policyholders were paid in
 full, a potentially substantial
 delay). If the regulators did
 not seize the insurance
 subsidiaries, the subsidiaries'
 ability to pay would depend on
 their financial condition or
 solvency at the time of the
 claim.
------------------------------------------------------------------------


                      FIGURE 51: CDS COUNTERPARTIES
------------------------------------------------------------------------
           Bankruptcy                   Rescue            Difference
------------------------------------------------------------------------
 Collateral Status: Fully collateralized; owner of reference securities
                                 (CDOs)
------------------------------------------------------------------------
CDS CPs would have been able to
 terminate their CDS contracts,
 seize previously posted
 collateral, and offset or net
 out other obligations. CDS CPs
 would have received the
 estimated value of the CDS
 contract on the date of the
 bankruptcy filing because they
 were fully collateralized (the
 market value of the CDOs plus
 posted collateral equaled the
 value of the CDS contract).The insurance on the CDOs would
 have disappeared, and the CDS
 CPs would have had continued
 exposure to declines in the
 market value of the CDOs.
                                  CDS CPs terminated  The value of the
CDS CPs would be exposed to        the CDS             CDS contracts
 movements in the market value     contracts, kept     fluctuated with
 of the CDOs but not to an AIG     previously posted   movements in the
 bankruptcy per se.                collateral, and     market value of
                                   sold their CDOs     the reference
                                   for their market    CDOs, but the
                                   value on the date   bankruptcy filing
                                   of transfer.        date and the ML3
                                   Market value        transaction date
                                   payments plus       would have fixed
                                   posted collateral   the estimated par
                                   approximated the    value of the CDS
                                   par value of the    contracts.
                                   CDS contracts.      Whether CDS CPs
                                                       received more in
                                                       the rescue would
                                                       have depended on
                                                       the change in the
                                                       CDOs' market
                                                       value from the
                                                       bankruptcy date
                                                       to the rescue
                                                       date and whether
                                                       CDS CPs continued
                                                       to hold the CDOs
                                                       or sold them at a
                                                       depressed price
                                                       (e.g., if market
                                                       values plunged
                                                       after the
                                                       bankruptcy
                                                       filing).
                                                      If AIG filed for
                                                       bankruptcy and
                                                       CDS CPs continued
                                                       to hold the CDOs
                                                       and sold them at
                                                       a value below the
                                                       value estimated
                                                       for the ML3
                                                       transaction, they
                                                       would have
                                                       received more as
                                                       a result of the
                                                       rescue. If CDS
                                                       CPs continued to
                                                       hold the CDOs and
                                                       sold them at a
                                                       value above that
                                                       estimated for the
                                                       ML3 transaction,
                                                       they would have
                                                       received less as
                                                       a result of the
                                                       rescue.
                                                      CDS CPs also
                                                       benefited from
                                                       the rescue to the
                                                       extent that they
                                                       did not incur
                                                       legal fees to
                                                       protect their
                                                       claims or actions
                                                       from bankruptcy
                                                       challenges.
------------------------------------------------------------------------
  Collateral Status: Undercollateralized; owner of reference securities
------------------------------------------------------------------------
CDS CPs would have been able to
 terminate their CDS contracts,
 seize previously posted
 collateral, and offset or net
 out other obligations. CDS CPs
 would be protected to the
 extent that they were
 collateralized and would have
 an unsecured claim for their
 deficiency (subject to the
 bankruptcy discount).The insurance on the CDOs would
 have disappeared, and the CDS
 CPs would have had continued
 exposure to declines in the
 market value of the CDOs.
                                  CDS CPs terminated  The value of the
CDS CPs would be exposed both to   the CDS             CDS contracts
 movements in the market value     contracts, kept     fluctuated with
 of the CDOs as well as to an      previously posted   movements in the
 AIG bankruptcy to the extent      collateral, and     market value of
 that they were                    sold their CDOs     the reference
 undercollateralized.              for their market    CDOs, but the
                                   value on the date   bankruptcy filing
                                   of transfer.        date and the ML3
                                   Market value        transaction date
                                   payments plus       would have fixed
                                   posted collateral   the estimated par
                                   approximated the    value of the CDS
                                   par value of the    contracts.
                                   CDS contracts.      Whether CDS CPs
                                                       received more in
                                                       the rescue would
                                                       have depended on
                                                       the extent to
                                                       which they were
                                                       undercollateraliz
                                                       ed, the change in
                                                       the CDOs' market
                                                       value from the
                                                       bankruptcy date
                                                       to the rescue
                                                       date, and whether
                                                       CDS CPs continued
                                                       to hold the CDOs
                                                       or sold them at a
                                                       depressed price
                                                       (e.g., if market
                                                       values plunged
                                                       after the
                                                       filing).
                                                      It is more likely
                                                       that CDS CPs
                                                       received more as
                                                       a result of the
                                                       rescue because of
                                                       their exposure to
                                                       an AIG bankruptcy
                                                       to the extent
                                                       that they were
                                                       undercollateraliz
                                                       ed.
                                                      If AIG filed for
                                                       bankruptcy and
                                                       CDS CPs continued
                                                       to hold the CDOs
                                                       and sold them at
                                                       a value below the
                                                       value estimated
                                                       for the ML3
                                                       transaction, they
                                                       would have
                                                       received more as
                                                       a result of the
                                                       rescue. If CDS
                                                       CPs continued to
                                                       hold the CDOs and
                                                       sold them at a
                                                       value above that
                                                       estimated for the
                                                       ML3 transaction,
                                                       they would have
                                                       received less as
                                                       a result of the
                                                       rescue.
                                                      CDS CPs also
                                                       benefited from
                                                       the rescue
                                                       because they were
                                                       not subject to
                                                       the bankruptcy
                                                       discount for
                                                       deficiency claims
                                                       and did not incur
                                                       legal fees to
                                                       protect their
                                                       claims or actions
                                                       from bankruptcy
                                                       challenges.
------------------------------------------------------------------------
     Collateral Status: Fully collateralized; not owner of reference
                               securities
------------------------------------------------------------------------
CDS CPs would have been able to
 terminate their CDS contracts,
 seize previously posted
 collateral, and offset or net
 out other obligations. CDS CPs
 would have received the
 estimated value of the CDS
 contract on the date of the
 bankruptcy filing because they
 were fully collateralized (the
 market value of the CDOs plus
 posted collateral equaled the
 value of the CDS contract).
                                  CDS CPs that did    The value of the
Because CDS CPs did not own the    not own the         CDS contracts
 CDOs, they would not have had     reference CDOs      fluctuated with
 continued exposure to declines    had to obtain       movements in the
 in the market value of the CDOs.  them (either by     market value of
                                   con-tract or in     the reference
                                   the market) in      CDOs, but the
                                   order to benefit    bankruptcy filing
                                   from ML3            date and the ML3
                                   (transactions       transaction date
                                   were physically     would have fixed
                                   settled). When      the estimated par
                                   the CDS CPs         value of the CDS
                                   obtained the        contracts.
                                   reference CDOs,     Whether CDS CPs
                                   they terminated     received more in
                                   their CDS           the rescue would
                                   contracts, kept     have depended on
                                   pre-viously         the change in the
                                   posted              CDOs' market
                                   collateral, and     value from the
                                   sold their CDOs     bankruptcy date
                                   for their market    to the rescue
                                   value on the date   date and whether
                                   of transfer.        CDS CPs continued
                                   Market value pay-   to hold the CDOs
                                   ments plus posted   or sold them at a
                                   collateral          depressed price
                                   approximated the    (e.g., if market
                                   par value of the    values plunged
                                   CDS contracts.      after the
                                  If CDS CPs could     bankruptcy
                                   not obtain or       filing).
                                   deliver the        If AIG filed for
                                   reference           bankruptcy and
                                   securities, they    CDS CPs continued
                                   would not have      to hold the CDOs
                                   been able to        and sold them at
                                   benefit from ML3.   a value below the
                                                       value estimated
                                                       for the ML3
                                                       transaction, they
                                                       would have
                                                       received more as
                                                       a result of the
                                                       rescue. If CDS
                                                       CPs continued to
                                                       hold the CDOs and
                                                       sold them at a
                                                       value above that
                                                       estimated for the
                                                       ML3 transaction,
                                                       they would have
                                                       received less as
                                                       a result of the
                                                       rescue.
                                                      CDS CPs benefited
                                                       from the rescue
                                                       to the extent
                                                       that the rescue
                                                       prevented further
                                                       deterioration in
                                                       CDO market
                                                       values. The
                                                       rescue also
                                                       prevented the
                                                       value of the CDS
                                                       contracts from
                                                       being fixed on
                                                       the bankruptcy
                                                       date (in the
                                                       likely event that
                                                       they would have
                                                       terminated the
                                                       CDS contracts
                                                       upon AIG's
                                                       filing).
                                                      CDS CPs also
                                                       benefited from
                                                       the rescue to the
                                                       extent that they
                                                       did not incur
                                                       legal fees to
                                                       protect their
                                                       claims or actions
                                                       from bankruptcy
                                                       challenges.
------------------------------------------------------------------------
     Collateral Status: Undercollateralized; not owner of reference
                               securities
------------------------------------------------------------------------
CDS CPs would have been able to
 terminate their CDS contracts,
 seize previously posted
 collateral, and offset or net
 out other obligations. CDS CPs
 would be protected to the
 extent that they were
 collateralized and would have
 an unsecured claim for their
 deficiency (subject to the
 bankruptcy discount).
                                  CDS CPs that did    The value of the
Because CDS CPs did not own the    not own the         CDS contracts
 CDOs, they would not have had     reference CDOs      fluctuated with
 continued exposure to declines    had to obtain       movements in the
 in the market value of the CDOs.  them (either by     market value of
                                   contract or in      the reference
                                   the market) in      CDOs, but the
                                   order to benefit    bankruptcy filing
                                   from ML3            date and the ML3
                                   (transactions       transaction date
                                   were physi-cally    would have fixed
                                   settled). When      the estimated par
                                   the CDS CPs         value of the CDS
                                   obtained the        contracts.
                                   reference CDOs,     Whether CDS CPs
                                   they terminated     received more in
                                   their CDS           the rescue would
                                   contracts, kept     have depended on
                                   previously posted   the extent to
                                   collateral, and     which they were
                                   sold their CDOs     undercollateraliz
                                   for their market    ed, the change in
                                   value on the date   the CDOs market
                                   of transfer.        value from the
                                   Market value        bankruptcy date
                                   payments plus       to the rescue
                                   posted collateral   date, and whether
                                   approximated the    CDS CPs continued
                                   par value of the    to hold the CDOs
                                   CDS contracts.      or sold them at a
                                  If CDS CPs could     depressed price
                                   not obtain or       (e.g., if market
                                   deliver the         values plunged
                                   reference           after the
                                   securities, they    filing).
                                   would not have     It is more likely
                                   been able to        that CDS CPs
                                   benefit from ML3.   received more as
                                                       a result of the
                                                       rescue because of
                                                       their exposure to
                                                       an AIG bankruptcy
                                                       to the extent
                                                       that they were
                                                       undercollateraliz
                                                       ed.
                                                      If AIG filed for
                                                       bankruptcy and
                                                       CDS CPs continued
                                                       to hold the CDOs
                                                       and sold them at
                                                       a value below the
                                                       value estimated
                                                       for the ML3
                                                       transaction, they
                                                       would have
                                                       received more as
                                                       a result of the
                                                       rescue. If CDS
                                                       CPs continued to
                                                       hold the CDOs and
                                                       sold them at a
                                                       value above that
                                                       estimated for the
                                                       ML3 transaction,
                                                       they would have
                                                       received less as
                                                       a result of the
                                                       rescue.
                                                      CDS CPs also
                                                       benefited from
                                                       the rescue
                                                       because they were
                                                       not subject to
                                                       the bankruptcy
                                                       discount for
                                                       deficiency claims
                                                       and did not incur
                                                       legal fees to
                                                       protect their
                                                       claims or actions
                                                       from bankruptcy
                                                       challenges.
                                                      CDS CPs that could
                                                       not deliver the
                                                       reference
                                                       securities
                                                       benefited from
                                                       the rescue to the
                                                       extent that the
                                                       rescue prevented
                                                       further
                                                       deterioration in
                                                       CDO market
                                                       values. The
                                                       rescue also
                                                       prevented the
                                                       value of the CDS
                                                       contracts from
                                                       being fixed on
                                                       the bankruptcy
                                                       date (in the
                                                       likely event that
                                                       they would have
                                                       terminated the
                                                       CDS contracts
                                                       upon AIG's
                                                       filing).
------------------------------------------------------------------------

                     SECTION TWO: ADDITIONAL VIEWS


                         A.  J. Mark McWatters

    I concur with the issuance of the June report and offer the 
additional observations noted below. I appreciate the spirit 
with which the Panel and the staff approached this complex 
issue and incorporated suggestions offered during the drafting 
process.

1. Cost of AIG Bailout to Taxpayers

    Other than the bailouts of Fannie Mae and Freddie Mac, the 
rescue of AIG has required the allocation of more taxpayer 
funded resources than any other similar action undertaken by 
the government since the inception of the current economic 
crisis. In its January 2010 ``Budget and Economic Outlook,'' 
the Congressional Budget Office (CBO) estimated that the TARP 
investment in AIG will cost the taxpayers $9 billion out of $70 
billion committed or disbursed.\940\ In its March 2010 ``Report 
on the Troubled Asset Relief Program,'' the CBO quadrupled its 
estimated cost to $36 billion.\941\ In the President's Budget 
for fiscal year 2011 released in February 2010, the OMB 
estimated that the TARP investment in AIG will cost the 
taxpayers $49.9 billion.\942\ Although the CBO and OMB--experts 
in making these determinations--appear pessimistic that the 
taxpayers will recover their investment, AIG nevertheless 
remains optimistic that the taxpayers will receive repayment in 
full.\943\ It is not entirely clear why such a material 
disparity exists between CBO scores or on what reasonable basis 
AIG anticipates that the taxpayers will receive repayment. It 
is also troublesome that the CBO has quadrupled its estimated 
cost of the AIG bailout even though market conditions have 
significantly improved since the last quarter of 2008.
---------------------------------------------------------------------------
    \940\ Congressional Budget Office, Budget and Economic Outlook, at 
14 (Jan. 2010) (online at www.cbo.gov/ftpdocs/108xx/doc10871/01-26-
Outlook.pdf).
    \941\ Congressional Budget Office, Report on the Troubled Asset 
Relief Program--March 2010, at 4 (Mar. 2010) (online at www.cbo.gov/
ftpdocs/112xx/doc11227/03-17-TARP.pdf).
    \942\ Office of Management and Budget, Analytical Perspectives, 
Budget of the United States Government, Fiscal Year 2011, at 40 (Feb. 
2010) (online at www.whitehouse.gov/omb/budget/ 2011/assets/
econ_analyses.pdf.)
    \943\ The challenge presented with repaying the taxpayers in full 
is evidenced by the recent collapse of the sale of AIA Group Ltd., 
AIG's main Asian business, to Prudential PLC, a UK insurer. See Peter 
Stein, U.S. Taxpayers are Big Losers of AIA Deal's Death, The Wall 
Street Journal (June 3, 2010) (online at online.wsj.com/article/
SB100014240527487033409045752842800 
12636818.html?mod=WSJ_newsreel_business), which provides:
    In this scenario, AIG is treating U.S. taxpayers like private-
equity investors funding its growth in hopes of a nice payoff down the 
line. That's wrong. The only way to mitigate the moral hazard of saving 
AIG is to repay U.S. taxpayers sooner, not later. This is why a sale 
yielding $23 billion in cash up front clearly beat the alternatives.
    An autopsy of this deal might reveal various causes of death. 
Prudential's overambitious management, fixated on the appeal of a 
transformative deal, lost sight of the perspective of its more 
skeptical shareholders. Volatile markets undercut risk appetite right 
when Prudential and AIG needed investors with strong stomachs.
    But it was AIG's board, and its U.S. government owners, that pulled 
the plug. U.S. taxpayers should mourn the fact that with this deal, 
their best interests expired as well.'' [Emphasis added.]
    See also Serena Ng, AIG Heads Back to the Drawing Board, The Wall 
Street Journal (June 3, 2010) (online at online.wsj.com/article/
SB100014240527487045157045752829938796288 
12.html?mod=WSJ_business_whatsNews); see also The Associated Press, 
Fitch drops positive ratings watch for AIG unit, Bloomberg Businessweek 
(June 3, 2010) (online at www.businessweek.com/ap/financialnews/
D9G38KH00.htm); see also Paul Thomasach, AIG shares overpriced after 
deal collapse-Barron's,'' Reuters (June 6, 2010) (online at 
www.reuters.com/article/idUSN0613653820100606).
---------------------------------------------------------------------------
    As I have done in prior reports,\944\ I think that it is 
instructive to add some perspective to the magnitude of the 
loss the taxpayers may suffer as a result of the AIG bailout. 
By comparison, for fiscal year 2011 the National Institute of 
Health (NIH) has requested $765 million for breast cancer 
research, and the latest Nimitz-class aircraft carrier 
commissioned by the Navy cost approximately $4.5 billion.\945\ 
It is entirely appropriate for the taxpayers who funded the 
TARP program to ask if the bailout of AIG with a CBO estimated 
cost of $36 billion merited 47 years of breast cancer research 
or eight (8) Nimitz-class aircraft carriers. The ``guns v. 
butter v. AIG'' comparisons clearly demonstrate that our 
national resources are indeed limited and that the bailout of 
AIG will require the government to reduce expenditures, 
increase tax revenue or both.
---------------------------------------------------------------------------
    \944\See Congressional Oversight Panel, March Oversight Report: The 
Unique Treatment of GMAC Under the TARP: Additional Views of J. Mark 
McWatters and Paul S. Atkins, at 122 (Oct. 9, 2009) (cop.senate.gov/
documents/cop-031110-report-atkinsmcwatters.pdf).
    \945\See U.S. Department of Health and Human Services, National 
Institutes of Health, Estimates of Funding for Various Research, 
Condition and Disease Categories (RCDC) (Feb. 1, 2010) (online at 
report.nih.gov/rcdc/categories/); see also U.S. Navy, Information about 
the Ship (online at up-www01.ffc.navy.mil/cvn77/static/aboutus/
aboutship.html) (accessed Mar.10, 2010).
---------------------------------------------------------------------------

2. Collapse of World Financial System if AIG not Rescued

    The American taxpayers were told in the last quarter of 
2008 that they had no choice but to bail out AIG because absent 
such action the global financial system would have collapsed 
due to the systemic risk presented by and the financial 
interconnectedness of AIG.
     Secretary Geithner has stated that ``neither AIG's 
management nor any of AIG's principal supervisors--including 
the state insurance commissioners and the OTS--understood the 
magnitude of risks AIG had taken or the threat that AIG posed 
to the entire financial system.'' \946\
---------------------------------------------------------------------------
    \946\ FRBNY and Treasury briefing with Panel and Panel staff, Apr. 
12, 2010; House Committee on Oversight and Government Reform, Written 
Testimony of Timothy F. Geithner, Secretary, U.S. Department of the 
Treasury, The Federal Bailout of AIG, at 3, 111th Cong. (Jan. 27, 2010) 
(online at oversight.house.gov/images/stories/Hearings/
Committee_on_Oversight/TESTIMONY-Geithner.pdf).
---------------------------------------------------------------------------
     Secretary Paulson has stated that the failure of 
AIG ``would have taken down the whole financial system and our 
economy. It would have been a disaster.'' \947\
---------------------------------------------------------------------------
    \947\ House Committee on Oversight and Government Reform, Written 
Testimony of Henry M. Paulson, Jr., former secretary, U.S. Department 
of the Treasury, The Federal Bailout of AIG, 111th Cong. (Jan. 27, 
2010) (online at oversight.house.gov/
index.php?option=com_content&task=view&id=4756&Itemid=2).
---------------------------------------------------------------------------
     Chairman Bernanke has stated that the FRBNY ``lent 
AIG money to avert the risk of a global financial meltdown.'' 
\948\
---------------------------------------------------------------------------
    \948\ House Committee on Financial Services, Written Testimony of 
Chairman of the Board of Governors of the Federal Reserve System Ben S. 
Bernanke, Oversight of the Federal Government's Intervention at 
American International Group (Mar. 24, 2009) (online at www.house.gov/
apps /list/hearing/financialsvcs_dem/statement_-_bernanke032409.pdf).
---------------------------------------------------------------------------
    Although such assessments no doubt motivated the FRBNY and 
Treasury to rescue AIG, it is critical to note that the global 
financial system does not consist of a single monolithic 
institution but, instead, is comprised of an array of too-big-
to-fail financial institutions many of which were, 
interestingly, also counterparties on AIG credit default swaps 
(CDS) and securities lending transactions (SL). In other words, 
the concept of a ``global financial system'' is really just 
another term for the biggest-of-the-big financial institutions 
and, as such, there remains little doubt that the principal 
purpose in bailing out AIG was by definition to save these 
institutions as well as AIG's insurance business from 
bankruptcy or liquidation. It is troublesome that the plan 
implemented by the FRBNY and Treasury to save AIG along with 
the global financial system was without cost to those too-big-
to-fail members of the global financial system who were 
rescued.
    Assuming the bailout of AIG was in the best interest of the 
taxpayers, a number of fundamental questions nevertheless 
remain for consideration. A private sector solution was 
negotiated and successfully implemented with respect to the 
failure of LTCM in 1998. Why not AIG? Was a wholly taxpayer 
funded bailout of AIG the only viable option available to the 
FRBNY and Treasury in the last quarter of 2008? What action 
could the FRBNY and Treasury have taken to orchestrate a pre-
packaged bankruptcy of AIG with, for example, post-petition 
financing provided by the FRBNY and a syndicate of domestic and 
cross-border private sector financial institutions, insurance 
companies, hedge funds and private equity firms? Would it have 
been possible for the FRBNY to have extended AIG a short-term 
loan of 120 days or so while all parties worked to structure a 
pre-packaged bankruptcy plan? Would it have been possible to 
coordinate a pre-packaged bankruptcy with the AIG insurance and 
other regulators? Would it have been possible for the FRBNY to 
have guaranteed certain obligations of AIG instead of advancing 
funds under a credit facility? Did the FRBNY and Treasury 
attempt to negotiate a public-private arrangement where all of 
the risk of the AIG bailout was not shouldered by the 
taxpayers? If so, why did those efforts fail? Did the FRBNY and 
Treasury seek the participation of hedge funds and private 
equity firms as well as traditional domestic and cross-border 
financial institutions and insurance companies in a rescue 
attempt? If not, why not? The FRBNY and Treasury had their 
greatest leverage to negotiate a discount to par with the AIG 
counterparties in September 2008. Why did they fail to use that 
position of strength for the benefit of the taxpayers? Although 
the Panel has addressed many of these issues, I remain 
unconvinced that the only reasonable approach available to the 
FRBNY and Treasury during the fourth quarter of 2008 was for 
the taxpayers to have assumed the full burden of bailing out 
AIG.

3. Counterparties Unwilling to Share Pain of AIG Bailout with Taxpayers

    It is ironic that although the bailout of AIG may have also 
rescued many of its counterparties,\949\ none of these 
institutions were willing to share the pain of the bailout with 
the taxpayers and accept a discount to par upon the termination 
of their contractual arrangements with AIG. Instead, they left 
the American taxpayers with the full burden of the bailout. It 
is likewise intriguing that these too-big-to-fail financial 
institutions (leading members of the ``global financial 
system'') were paid at par--that is, 100 cents on the dollar--
at the same time the average American's 401(k) and IRA accounts 
were in free fall, unemployment rates were skyrocketing and 
home values were plummeting.\950\
---------------------------------------------------------------------------
    \949\ The CDSs of certain AIG counterparties were terminated 
through the Maiden Lane III transaction, yet the CDSs of other AIG 
counterparties remained outstanding. It is difficult to appreciate why 
the former group of AIG counterparties received payment at par as their 
CDSs were closed out. Like the Financial Crisis Inquiry Commission, it 
has been challenging for the Panel to fully appreciate the economic and 
legal relationships among the AIG counterparties and AIG. See John 
Mckinnon, Finance Panel Accuses Goldman of Stalling, Wall Street 
Journal (June 7, 2010) (online at online.wsj.com/article/
SB10001424052748703303904575292530057313818.html?mod=WSJ_hps_MIDDLETopSt
ories).
    \950\ See Congressional Oversight Panel, January Oversight Report: 
Exiting TARP and Unwinding Its Impact on the Financial Markets: 
Additional Views of J. Mark McWatters and Paul S. Atkins, at 145 (Jan. 
14, 2010) (cop.senate.gov/documents/cop-011410-report-
atkinsmcwatters.pdf).
---------------------------------------------------------------------------
    It is also critical to recall that during the last quarter 
of 2008 many of the AIG counterparties were most likely 
experiencing their own severe liquidity and insolvency 
challenges and were under attack from short-sellers and 
purchasers of CDSs on their debt instruments.\951\ By receiving 
payment at par, some of the counterparties were able to convert 
illiquid and perhaps mismarked CDOs \952\ and other securities 
into cash during the worst liquidity crisis in 
generations.\953\ By avoiding the risk inherent in an AIG 
bankruptcy and the issues regarding DIP financing,\954\ some of 
the counterparties were also able to accelerate the conversion 
of their AIG contracts into cash, and in late 2008, cash was 
king. Although some of the counterparties may argue that they 
held contractual rights to receive payment at par and were the 
beneficiaries of favorable provisions of the U.S. bankruptcy 
code, such rights and benefits would have been of diminished 
assistance since in late 2008 AIG was out of cash. It also 
appears problematic if AIG would have been able to obtain 
sufficient post-petition financing following the implosion of 
the global financial system that--according to the wisdom of 
the day--would have followed from the bankruptcy of AIG. Thus, 
without the taxpayer funded bailout, AIG would have most likely 
held insufficient cash to honor in full its contractual 
obligations notwithstanding the special rights and benefits 
afforded the counterparties.\955\
---------------------------------------------------------------------------
    \951\ In order to hedge their AIG-related risk, some of the AIG 
counterparties may have shorted the stock of AIG or purchased CDSs over 
AIG. It also appears that some of the AIG counterparties entered into 
back-to-back CDSs, as the protection seller, with their clients (AIG CP 
clients), as the protection buyers. In order to hedge their AIG 
counterparty-related risk, some of the AIG CP clients may have shorted 
the stock of their AIG counterparty or purchased CDSs over their AIG 
counterparty. These actions may have caused the stock of a wide variety 
of financial institutions to drop precipitously in late 2008. As the 
shares of financial institutions fell in value it is likely that other 
investors joined the trend of shorting and selling the stock of 
anything that looked like a financial institution. Although the SEC 
responded with its temporary ban on selling short the stock of 
financial institutions, one of the goals in rescuing AIG may have been 
to address this issue. If so, such action serves as yet another 
indication that the bailout of AIG was also intended as a bailout of 
the AIG counterparties.
    \952\ If an AIG counterparty had held $100 of face value CDOs with 
a true fair market value of $60 and $40 of cash collateral posted by 
AIG, the counterparty would not have suffered a loss upon the 
bankruptcy of AIG because the counterparty could have sold the CDOs for 
$60 and retained the $40 of posted cash collateral. This analysis 
assumes--perhaps incorrectly--that the bankruptcy of AIG would not have 
resulted in the collapse of the CDO market or the AIG counterparty. If, 
however, the true fair market value of the CDOs was $20 (that is, the 
CDOs were mismarked at $60), the AIG counterparty would have most 
likely suffered a loss of $40 upon the bankruptcy of AIG. Since the CDO 
market was all but frozen in the last quarter of 2008, it is quite 
possible that the CDOs held by some of the AIG counterparties were 
mismarked and that AIG had posted insufficient cash collateral.
    \953\ If you're inclined to challenge this analysis, ask yourself 
one question: In the last quarter of 2008 what would you have preferred 
to own--(i) a CDS with a bankrupt AIG that is searching for post-
petition financing following the collapse of the global financial 
system or (ii) U.S. dollars equal to the full face amount of the 
referenced securities underlying your CDS?
    \954\ It is also clear that many of the AIG counterparties (or 
their counterparties or both) would have suffered in an AIG bankruptcy 
for three reasons. First, following the collapse of the global 
financial system the counterparties (as members of the global financial 
system) certainly would have suffered and perhaps failed. Second, 
unless they were fully hedged with posted cash collateral, the 
counterparties most likely would not have received payment at par in an 
AIG bankruptcy. Third, upon the collapse of the global financial 
system, where would AIG have secured post-petition financing to pay 
anyone--including the counterparties--anything (AIG was out of cash on 
September 16, 2008)?
    \955\ This is particularly true if, as previously noted, the 
referenced CDO securities were mismarked and AIG had posted 
insufficient cash collateral, or if the fair market value of the 
referenced CDO securities continued to decline and AIG was unable to 
post additional cash collateral.
---------------------------------------------------------------------------
    While the facts and circumstances no doubt differed with 
respect to the contractual and economic relationships of the 
various counterparties with AIG, the bailout of AIG--at a 
minimum--reduced systemic risk throughout the global financial 
system to the benefit of the counterparties and most certainly 
allowed some of the counterparties to receive a greater 
distribution than they would have received following the 
bankruptcy of AIG. Although some of the AIG counterparties were 
apparently fully hedged--with posted cash collateral--against 
the bankruptcy of AIG, the retention of the posted cash 
collateral by the counterparties following the bankruptcy of 
AIG and the ensuing collapse of the global financial system 
would have served as little more than a Pyrrhic victory for the 
counterparties. If President Geithner, Secretary Paulson and 
Chairman Bernanke were correct in their assessments of the 
threat posed by the bankruptcy of AIG to the global financial 
system, the rescue of the company also saved the AIG 
counterparties from substantial economic peril if not outright 
failure. In light of this reality, the taxpayers should have 
received a discount to par \956\ upon the termination of AIG's 
contracts with its counterparties.\957\ In addition, since the 
counterparties under the CDSs that the AIG counterparties 
employed to hedge their AIG-related risk were in effect bailed 
out upon the bailout of AIG, it would also not appear 
unreasonable for the taxpayers to have received a discount to 
par from such counterparties.\958\
---------------------------------------------------------------------------
    \956\ The successful and timely negotiation of discounts to par 
from the counterparties would have most likely required the 
intervention of the Secretary of the Treasury and the President of the 
FRBNY with the senior executive officers of the counterparties. 
Although time was of the essence, a meeting at the offices of the FRBNY 
or a series of conference calls with the principals could have saved 
the taxpayers several billion dollars. In those meetings and conference 
calls, the Secretary or President of the FRBNY would have had to 
address the potential collapse of the global financial system and the 
consequences to the AIG counterparties as well as the ``shared 
sacrifice'' expected of the counterparties (as noted by Martin J. 
Bienenstock in the text below).
    \957\ Counterparties who were fully hedged against AIG-related risk 
with posted cash collateral may have argued with conviction that they 
owed no duty to accept a settlement of their AIG contracts at a 
discount to par. By making this assertion they would have failed to 
acknowledge that the bailout of AIG may have also rescued their 
institution from bankruptcy or liquidation. Such approach also runs 
contrary to the ``shared sacrifice'' expected of the counterparties (as 
noted by Martin J. Bienenstock in the text below).
    \958\ If an AIG counterparty was fully hedged with cash collateral 
posted by the protection seller to the AIG counterparty, as the 
protection buyer, under a CDS over AIG, the AIG counterparty may have 
recovered the full benefit of its bargain upon the bankruptcy of AIG. 
Upon the bailout of AIG, the AIG counterparty would have possibly 
returned the posted cash collateral to its protection seller and 
cancelled its CDS over AIG. In such event, the protection seller would 
have directly benefitted from the bailout of AIG because, absent the 
bailout, the protection seller would have forfeited the cash collateral 
posted to the AIG counterparty upon the bankruptcy of AIG. Conversely, 
if the AIG counterparty was not fully hedged against the bankruptcy of 
AIG, the AIG counterparty should have been willing to offer AIG a 
discount to tear up its CDS with AIG because, absent the bailout of AIG 
by the taxpayers, the AIG counterparty would have most likely suffered 
a loss upon the bankruptcy of AIG.
---------------------------------------------------------------------------
    The FRBNY and Treasury contend that their bailout plan for 
AIG was the only viable approach under the circumstances and 
they have raised a number of objections to more creative and 
taxpayer-friendly structures that would have yielded 
concessions from the AIG counterparties and other claimants. I 
appreciate the arguments offered, but, for the reasons noted 
below, I do not find them entirely compelling.
    The FRBNY and Treasury have argued that it would have been 
``unfair'' to ask the AIG counterparties to accept a discount 
to par upon the termination of their CDS and SL contracts when 
other AIG creditors were scheduled to receive payment at par. 
In workouts of private sector enterprises, creditors often 
agree to terms that are less favorable than those expressly 
provided in their contractual agreements--even without the 
threat of being crammed-down in a bankruptcy proceeding. As 
such, it would not seem unusual for a group of multi-billion 
dollar domestic and foreign \959\ AIG counterparties to accept 
a discount to par where other creditors do not. This is 
particularly true since the failure of AIG may have resulted in 
the bankruptcy or liquidation of some of these counterparties. 
Such a reality, along with the fact that many of the 
counterparties would have received less than par upon the 
bankruptcy of AIG--the only realistic alternative to a taxpayer 
funded bailout in the last quarter of 2008, should have ensured 
the cooperation of the counterparties. In a perfect world, the 
concept of shared sacrifice would have included most if not all 
of the AIG creditors, but it was arguably not possible to 
administer this remedy to an enterprise with thousands of 
claimants where time was of the essence. When you aggregate the 
taxpayer funds employed to finance ML2 and ML3 together with 
the share of the $85 billion FRBNY loan used to post cash 
collateral with the CDS counterparties and settle redemptions 
with the SL counterparties, it appears that the counterparties 
received a substantial bulk of the taxpayer sourced funds, 
further indicating that the bailout of AIG was also a bailout 
of the AIG counterparties.
---------------------------------------------------------------------------
    \959\ A substantial portion of the taxpayer sourced bailout funds 
were paid to non-U.S. financial institutions.
---------------------------------------------------------------------------
    The FRBNY and Treasury have also argued that the rating 
agencies would have downgraded AIG upon the successful 
negotiation of any discounts to par (a ``distressed exchange'') 
and that any such downgrade would have caused the insurance 
regulators to seize or take other adverse action with respect 
to AIG's insurance subsidiaries. The negotiation of 
counterparty concessions as consideration for the termination 
of AIG's CDS and SL contracts would not have been undertaken 
merely to enhance the liquidity or solvency of AIG, but, 
instead, AIG, the FRBNY and Treasury should have firmly 
requested the receipt of such concessions out of a sense of 
equity and fairness to the taxpayers. In my view, the liquidity 
and solvency of AIG were most likely assured once the FRBNY 
advanced $85 billion to AIG and it seems unlikely--although not 
without possibility--that the government would have walked away 
from such a substantial investment of taxpayer funds and 
allowed AIG to fail. Indeed, the government kept pouring money 
into AIG after the initial infusion, giving the rating agencies 
little reason to question the long-term liquidity or solvency 
of AIG. It appears quite clear that AIG's financial stability 
would not have turned on whether or not the counterparties 
granted concessions to par upon the termination of their CDS 
and SL contracts with AIG.
    Further, it is significant to note that the taxpayers are 
not members of a private equity or venture capital firm in 
search of high-risk entrepreneurial activity and they should 
not have been treated as such.\960\ The taxpayers owed no duty 
to rescue AIG--a private sector firm--but they nevertheless 
elected to allocate their limited resources to the firm out of 
concern that its failure would have spawned dramatically 
adverse consequences for the American economy. For these 
reasons, the rating agencies--after thoughtful discussions with 
AIG, the FRBNY and Treasury, including the Secretary of the 
Treasury and the President of the FRBNY--should not have viewed 
any concessions granted by the AIG counterparties as 
``distressed exchanges'' but, instead, as appropriate and good 
faith consideration payable to a reluctant investor--the 
taxpayers--for performing a significant public service. I have 
little doubt that the rating agencies would have grasped this 
fundamental distinction. In addition, it is not at all clear 
that the AIG insurance regulators would have acted in the 
rather dramatic manner suggested by the FRBNY and Treasury. I, 
again, have little doubt that the insurance regulators would 
have acted in a prudent manner on behalf of present and future 
policy holders so as to secure the safety and soundness of the 
AIG insurance subsidiaries they regulate.
---------------------------------------------------------------------------
    \960\ Since a private equity firm most likely would have received 
concessions from creditors in return for providing workout capital to 
AIG, it is possible that the FRBNY and Treasury committed the taxpayers 
to a particularly unattractive bailout structure.
---------------------------------------------------------------------------
    In addition, the FRBNY and Treasury have argued that the 
failure or downgrade (resulting from a ``distressed exchange'') 
of the AIG holding company would have resulted in a ``run'' on 
the AIG insurance companies. A number of questions--largely 
unanswered--are raised by this assertion. Where would the AIG 
policy holders have run upon the seizure of the AIG insurance 
subsidiaries? Was there enough excess capacity in the global 
insurance system to absorb the failure of the AIG insurance 
subsidiaries? Since property and casualty and even health and 
life insurance may take a considerable amount of time to 
underwrite, how would the AIG policy holders have effectively 
run to another insurance company and received coverage on a 
timely basis? What action might the insurance regulators have 
taken to effectively stop any such run?
    In essence, the FRBNY and Treasury have attempted to 
justify the bailout of AIG--without the receipt of any 
concessions to par from the AIG counterparties for the benefit 
of the taxpayers--by shifting the responsibility for such 
approach to the AIG counterparties (because they demanded 
payment at par), the rating agencies (because they might have 
downgraded the AIG parent upon the occurrence of a ``distressed 
exchange''), and the insurance regulators (because they might 
have seized the insurance subsidiaries upon the downgrade of 
the AIG parent). It may have been preferable for the FRBNY and 
Treasury to respond as follows: ``(i) we held no regulatory 
authority over AIG and its subsidiaries, (ii) to the best of 
our knowledge the OTS--the primary regulator--was properly 
discharging its responsibilities, (iii) although we became 
aware that AIG was experiencing financial stress in the summer 
of 2008, we reasonably believed that the private sector would 
supply whatever new capital that AIG might require, (iv) when 
we became aware in September 2008 that AIG was experiencing 
severe financial strain and that the private sector would not 
provide a timely and robust solution, we responded as best we 
could under the circumstances, (v) yes, upon reflection, we 
should have paid closer attention to AIG given the 
extraordinary problems affecting other similar institutions and 
we should have more closely monitored the ability of private 
sector participants to provide AIG with capital (perhaps with 
our assistance), (vi) yes, upon reflection, we should have 
pressed the AIG counterparties to accept concessions to par 
upon the termination of their CDS and SL contracts out of a 
sense of fairness to the taxpayers who reluctantly funded the 
bailout, and (vii) yes, upon reflection, we believe that it 
would have been possible to implement a more taxpayer-friendly 
approach, such as proposed by Mr. Bienenstock of Dewey & 
LeBoeuf at the Panel's hearing on the AIG bailout.''

4. An Elegant Approach to Protect the Interests of the Taxpayers

    As noted, the FRBNY and Treasury have advised the Panel 
that it was all but impossible for the taxpayers to have 
received discounts to par from the AIG counterparties upon the 
termination of their CDS and SL contracts with AIG. Not all 
agree with this assessment. In his testimony before the Panel, 
Mr. Bienenstock, a leading bankruptcy and restructuring 
expert,\961\ concludes that the FRBNY and Treasury could have 
structured the bailout of AIG within the time constraints 
presented during the fourth quarter of 2008 so as to receive 
concessions to par from the AIG counterparties for the benefit 
of the taxpayers. In addition, Mr. Bienenstock argues that the 
choices presented to the FRBNY and Treasury were not merely 
``binary,'' that is, additional approaches existed outside of a 
bailout at par or a bankruptcy filing, and that the advisers to 
the FRBNY and Treasury were arguably conflicted. It is also 
interesting to note that his suggested plan could have been 
implemented under existing law. Mr. Bienenstock's written 
testimony contains the following summary of his approach and 
its impact on AIG creditors:
---------------------------------------------------------------------------
    \961\ Martin J. Bienenstock is a member of the law firm, Dewey & 
LeBoeuf LLP, where he is chair of its Business Solutions & Governance 
Department and a member of its Executive Committee. Mr. Bienenstock 
also teaches Corporate Reorganization as a lecturer at Harvard Law 
School and University of Michigan Law School.

          . . . AIG was in a position to advise certain 
        creditor groups such as the CDS counterparties, as 
        follows:
          1. State law recovery actions against AIG would be 
        unlikely to yield any benefits due to the prior lien 
        held by FRBNY;
          2. AIG would not voluntarily file bankruptcy;
          3. Creditors would be unable to file involuntary 
        petitions in good faith because AIG was generally 
        paying its debts as they became due, even if AIG were 
        not to post additional collateral or pay certain other 
        debts of the entities that caused its losses; \962\
---------------------------------------------------------------------------
    \962\ See 11 U.S.C. Sec. 303(h).
---------------------------------------------------------------------------
          4. If creditors nevertheless filed involuntary 
        bankruptcy petitions against AIG, they would render 
        themselves liable for compensatory and punitive damages 
        if the court found AIG was generally paying its debts 
        as they became due and the creditors had been warned in 
        advance of that fact; \963\ and
---------------------------------------------------------------------------
    \963\ See 11 U.S.C. Sec. 303(i)(2).
---------------------------------------------------------------------------
          5. FRBNY was saving AIG with taxpayer funds due to 
        the losses sustained by the business divisions 
        transacting business with these creditor groups, and a 
        fundamental principle of workouts is shared sacrifice, 
        especially when creditors are being made better off 
        than they would be if AIG were left to file bankruptcy.
    The impact of the foregoing on the creditors would include:
          1. The knowledge that enforcement action would be 
        unlikely to yield recoveries;
          2. The knowledge that an involuntary bankruptcy 
        petition would be a ``bet-the-ranch'' venture by the 
        creditors because the risk of suffering compensatory 
        and punitive damages for knowingly bankrupting AIG when 
        it was generally paying its debts as they became due;
          3. The knowledge that any creditor enforcement action 
        would be highly publicized and would isolate the 
        creditor in the public as working against the efforts 
        of the United States and its taxpayers to save AIG and 
        the financial system; and
          4. The knowledge by some of the creditors that 
        working against the United States would be singularly 
        unwise after the United States either provided them 
        rescue funds or helped them buy a company such as 
        Lehman Brothers for $250 million plus the appraised 
        value of the Manhattan office tower it owned.

    The foregoing strategy concentrates pressure on creditors 
to grant debt concessions, while yielding them very few 
alternatives to granting concessions, and no alternatives 
lacking delay, expense, and uncertainty. Unlike the negotiating 
strategy that SIGTARP described as having had little 
opportunity for success, this strategy is not based on bluffing 
bankruptcy. It is based on straight talk and acknowledging 
there would be no bankruptcy. Additionally, FRBNY retained an 
outstanding law firm and attorney for its work. But, the law 
firm is identified as having Wall Street institutions such as 
JP Morgan as clients, and it would be awkward for it to devise 
strategies to obtain concessions from those institutions.
    Significantly, the foregoing strategy eliminates or at 
least answers many of the reasons that ultimately caused FRBNY 
not to obtain concessions.\964\ For instance, all lenders are 
justified in requiring shared sacrifice. Therefore, FRBNY would 
not have been using its regulatory status to demand 
concessions. It could do so in its lender status. Most 
importantly, FRBNY was not required to bluff about bankruptcy. 
The correct strategy was the opposite--to show there would be 
no bankruptcy and no real opportunity for the creditor to do 
better. The foregoing process is carried out in conference 
rooms, not in the public.\965\ [Emphasis added.]
---------------------------------------------------------------------------
    \964\ Office of the Special Inspector General for the Troubled 
Asset Relief Program, Factors Affecting Efforts to Limit Payments to 
AIG Counterparties, at 18-19 (Nov. 17, 2009) (online at sigtarp.gov/
reports/audit/2009/
Factors_Affecting_Efforts_to_Limit_Payments_to_AIG_Counterparties.pdf).
    \965\ See Congressional Oversight Panel, Written Testimony of 
Martin J. Bienenstock, partner and chair of business solutions and 
government department, Dewey & LeBoeuf, COP Hearing on TARP and Other 
Assistance to AIG, at 3-4 (May 26, 2010) (online at cop.senate.gov/
documents/testimony-052610-bienenstock.pdf). Mr. Bienenstock also notes 
in his testimony:
    While the FRBNY might still be concerned about the sanctity of 
[the] contract, fairness in debtor-creditor relations exists when 
creditors share the pain, not when taxpayers bail out contracts they 
did not make. I acknowledge this is often counterintuitive. We all grow 
up learning to carry out all our promises. In debtor-creditor 
relations, however, once a debtor cannot carry out one promise to one 
creditor, it is more fair to break more promises so similarly situated 
creditors share the pain, rather than having one take all the pain, or 
worse yet, having innocent taxpayers take all the pain.
    I understand there was also a concern about ratings downgrades 
following any concessions. Intuitively, it should be illogical that AIG 
would be viewed as a lesser credit risk once it procured concessions 
from creditors which would reduce the amount AIG needed to borrow from 
FRBNY and would reduce future debt service expense. To be sure, the 
ratings protocols may not always appear logical to the layperson, but 
given the singular unique aspects of the AIG rescue, it is hard to 
figure out why the ratings agencies would believe AIG would be less 
credit worthy without creditor concessions.
    The argument exists that creditor concessions could signal that 
FRBNY may not continue to provide AIG funds to satisfy all debt. The 
answer to that is that FRBNY has not provided that assurance. Indeed, I 
received many phone calls in September 2008, asking whether it was safe 
to buy or hold AIG bonds after FRBNY provided the $85 billion facility. 
The market clearly understood that FRBNY did not provide any guaranties 
to creditors for the future. Therefore, it would be illogical for a 
downgrade to turn on whether AIG already obtained concessions. The risk 
of a future default is the same or less if prior concessions were 
granted.
    Recent experiences with workouts of the monoline insurance 
companies help corroborate the likelihood of concessions. I have had 
limited involvement in those negotiations, but my firm has been very 
involved on behalf of the insurance companies. In those restructurings, 
institutional lenders, including French institutions, were similarly 
owed additional collateral to secure credit default swaps and other 
derivatives. Consensual discounts were and are being granted in very 
material amounts. Additionally, there is litigation pending today over 
whether certain credit default swaps qualify for any priorities in 
payment afforded insured contracts under state law. Accordingly, there 
are many uncertainties causing counterparties to grant consensual 
discounts.
---------------------------------------------------------------------------
    It is critical to note that the amount of any discount to 
par the taxpayers may have received from the counterparties 
under Mr. Bienenstock's approach is not necessarily the key 
issue. Instead, the fundamental issue concerns the ``principle 
of a discount'' for the benefit of the taxpayers or, as Mr. 
Bienenstock states, the principle of ``shared sacrifice'' among 
the AIG creditors. The American taxpayers have repeatedly 
proven themselves profoundly generous to the commercial and 
investment banking communities and other institutions such as 
AIG over the past two years. The reluctant acceptance by the 
taxpayers of the numerous bailouts, however, is founded upon 
the implicit understanding that Wall Street share the financial 
burden with the taxpayers. The bailout of the AIG 
counterparties at par without a gesture of support to the 
taxpayers breached that agreement and further alienated Main 
Street from Wall Street.

5. Exacerbation of Main Street v. Wall Street Debate

    I appreciate that the senior management and counsel of some 
of the AIG counterparties may cite standards of fiduciary duty 
as a defense to their unwillingness to accept any concessions 
to par. It is quite possible, however, that these officers owed 
a higher fiduciary duty which was to save their respective 
institutions from the very real threat of bankruptcy or 
liquidation that existed in the final quarter of 2008. After 
all, who can forget the photograph of the two-dollar bill taped 
to the door of Bear Stearns's New York offices? \966\ That 
image--like Charles Dickens' ghost of Christmas future--told 
the story of what would come to pass for other financial 
institutions, such as AIG and its counterparties, absent the 
intercession of the American taxpayers. In the dark days of 
late 2008 when AIG faltered, the American taxpayers--not the 
FRBNY or Treasury--stood as the last safe-haven for many of 
these financial institutions, and much of today's Main Street 
v. Wall Street debate would have never arisen if Wall Street 
had properly acknowledged the American taxpayers as its sole 
benefactor. To many on Main Street, the bailout of AIG serves 
as the prototypical example of the moral hazard risks presented 
by government-sponsored bailout funds and implicit guarantees 
where favored claimants are paid in full out of seemingly 
limitless taxpayer funds, even though many of the recipients 
would have surely received less in a bankruptcy proceeding. As 
such, after the bailouts, it has become exceedingly difficult 
for many Americans to accept that what's good for Wall Street 
is necessarily good for Main Street.
---------------------------------------------------------------------------
    \966\ See Kristina Cooke, Bear Stearns and the $2 Bill, Reuters 
(Mar. 17, 2008) (online at blogs.reuters.com/reuters-dealzone/2008/03/
17/bear-stearns-and-the-2-bill/).
---------------------------------------------------------------------------

6. Other Issues

    Other significant issues have arisen with respect to the 
bailout of AIG, including, without limitation, the following:
    (1) Even though, according to OMB, the taxpayers stand to 
lose up to $49.9 billion \967\ on the allocation of TARP funds 
to AIG, the pre-bailout common shareholders of AIG were 
permitted to retain their interests in the company. These 
shareholders should have been wiped out, yet, since AIG avoided 
a bankruptcy filing and its common stock is publicly traded, 
they are free to sell their shares and retain the proceeds. The 
FRBNY and Treasury have placed the taxpayers in an awkward 
position of suffering substantial losses even though the pre-
bailout shareholders were permitted to retain their equity 
positions in AIG.
---------------------------------------------------------------------------
    \967\ Office of Management and Budget, Budget of the U.S. 
Government, Fiscal Year 2011, Analytical Perspective, Table 4-7 at 40 
(online at www.whitehouse.gov/omb/budget/fy2011/assets/
econ_analyses.pdf) (accessed June 9, 2010).
---------------------------------------------------------------------------
    (2) The FRBNY and Treasury have made much of the fact that 
the assets acquired by ML2 (RMBS) and ML3 (collateralized debt 
obligations) have appreciated in value to the benefit of the 
taxpayers. At the time the ML2 and ML3 deals were struck, 
however, most of these assets were arguably below junk status 
with no reasonable expectation that the RMBS and CDO markets 
would turn in the near future. Far from being an insightful 
investment opportunity for the taxpayers, the FRBNY simply took 
what collateral was available in the last quarter of 2008 and 
benefitted from a fortuitous and unanticipated rebound in the 
markets.\968\
---------------------------------------------------------------------------
    \968\ If a rebound had been anticipated, the RMBS and CDO markets 
would not have been moribund at the time the Maiden Lane II and Maiden 
Lane III transactions were closed.
---------------------------------------------------------------------------
    More significantly, since the FRBNY and Treasury were under 
no obligation to bail out the AIG CDS and SL counterparties at 
par, any economic gain generated by ML2 and ML3 should only be 
viewed as an offset to the economic losses suffered by AIG and 
the taxpayers upon the termination of the AIG CDS and SL 
contracts at par. Since the government owns approximately 80 
percent of the equity in AIG, the interests of the government 
and AIG should be treated as a single economic unit in making 
these determinations. For example, when AIG terminated certain 
of its CDS contracts in November 2008 (i) it forfeited 
approximately $35 billion of previously posted cash collateral 
to the CDS counterparties and (ii) ML3 purchased the referenced 
CDO securities from the CDS counterparties for approximately 
$27 billion. Any subsequent appreciation in the fair market 
value of the CDO securities above $27 billion should be viewed 
as a partial recovery of the $35 billion of forfeited cash 
collateral, not as ``profit'' generated from the ML3 
transaction.
    If, instead, AIG had not terminated the CDS contracts in 
November 2008, the $35 billion of posted cash collateral would 
have remained in place and upon any subsequent appreciation in 
the fair market value of the CDO securities above $27 billion, 
the CDS counterparties would have been obligated to return to 
AIG cash collateral in an amount equal to the appreciation. 
Since the taxpayers own approximately 80 percent of AIG, they 
would have benefitted from the return of the previously posted 
cash collateral to AIG by the CDS counterparties. In other 
words, the taxpayers will benefit from any post-November 2008 
appreciation in the fair market value of the referenced CDO 
securities through their ownership interest in ML3, and the 
taxpayers also would have benefitted from any such appreciation 
through their ownership interest in AIG if AIG had left the CDS 
contracts outstanding and not undertaken the ML3 transaction. 
Since the economic consequences to the taxpayers appear 
substantially similar under both approaches, the FRBNY could 
have arguably left the AIG CDS contracts in place with, 
perhaps, an agreement to post additional cash collateral as 
required under the CDS contracts (which undertaking would not 
have been required since the referenced CDO securities in the 
aggregate have appreciated in value since November 2008). It is 
problematic for the FRBNY and Treasury to assert that the use 
of the ML3 vehicle achieved a materially superior result for 
the taxpayers.
    (3) I encourage SIGTARP to continue its investigation into 
whether the FRBNY or Treasury encouraged or instructed AIG not 
to release material information to the public, including, 
without limitation, the names of and referenced securities held 
by certain AIG counterparties and the decision to terminate the 
contracts of such counterparties at 100 cents on the dollar.
    (4) In order to mitigate the moral hazard risks presented 
by the bailout of AIG, the government should exit its 
investment in AIG as soon as is reasonably possible and return 
AIG to the private sector. Although I do not recommend that the 
government ``fire-sale'' its investments in AIG, I cannot 
endorse a long-term ``buy and hold'' strategy. I am also 
troubled that the retention of AIG securities in a trust format 
may prolong the disposition process and appear to make 
government sponsored bailouts somehow more palatable to the 
taxpayers.
    (5) Since the overwhelming majority of highly trained 
investment professionals working on Wall Street and elsewhere 
throughout the global financial services community failed to 
recognize on a timely basis the underlying causes of the recent 
financial crisis, I have little confidence that a group of 
systemic regulators would have performed in a more insightful 
or beneficial manner. AIG and its subsidiaries were overseen by 
more than 400 regulators throughout the world who were charged 
with enforcing countless volumes of regulations. Although AIG's 
primary regulator--the OTS--as well as certain of its other 
regulators no doubt failed to discharge their oversight 
responsibilities, particularly with respect to AIGFP, it does 
not follow that AIG and its subsidiaries were necessarily 
under-regulated, or that the prudent enforcement of existing 
regulations would not have averted AIG's financial crisis. It 
is quite likely that many of AIG's regulators fully understood 
that AIG was writing trillions of dollars of CDS contracts and 
purchasing RMBS with proceeds from its SL transactions, but 
very few, if any--including, apparently, the Ph.D's employed by 
AIGFP--truly appreciated the interconnected risk embedded in 
these investment strategies. The distinction between 
incompetency in execution and insufficiency in scope is 
critical.\969\ This is not to say, however, that out-of-date 
regulations should not be appropriately revised, that new, 
thoughtfully targeted regulations should not be introduced and 
enforced, or that enhanced, yet rational regulatory models 
should not be explored and implemented.
---------------------------------------------------------------------------
    \969\ See Greg Gordon, To justify AIG's bailout, regulators 
overlooked its colossal problems, McClatchy Newspapers (June 8, 2010) 
(online at www.kansascity.com/2010/06/08/v-print/2002541/to-justify-
aigs-bailout-regulators.html).
---------------------------------------------------------------------------
    (6) Additional questions for which the taxpayers have not 
received satisfactory answers remain, such as the following: Is 
AIG--as presently structured--too big or too interconnected 
with the financial system and the overall economy to fail? What 
action has AIG taken to mitigate the too-big-to-fail problem? 
What risk management and internal control policies and 
procedures has AIG implemented so as not to require a future 
bailout from the taxpayers? What action has AIG taken to 
prepare for the failure of the holding company and its 
insurance subsidiaries? What effect does AIG's too big-to-fail 
status and its implicit guarantee have on its competitors? What 
is the exit strategy of the FRBNY and Treasury and when will 
the taxpayers receive repayment of the funds advanced to AIG? 
In what businesses will AIG be engaged one year and five years 
from now? Why did the OTS and the other AIG regulators fail to 
regulate AIG fully and effectively?
           SECTION THREE: CORRESPONDENCE WITH TREASURY UPDATE

    Assistant Secretary of the Treasury for Financial Stability 
Herbert M. Allison, Jr. sent a letter to Chair Elizabeth Warren 
on May 18, 2010,\970\ in response to a series of questions 
presented by the Panel regarding General Motors' April 20th 
repayment of $4.7 billion of TARP debt, and the company's 
public announcement related to that repayment.\971\ The 
Assistant Secretary enclosed with that letter a copy of two 
letters Treasury sent in response to similar inquiries from 
Members of Congress: one dated April 27, 2010 addressed to 
Senator Charles Grassley,\972\ and another dated April 30, 2010 
addressed to Representatives Paul Ryan, Jeb Hensarling, and 
Scott Garrett.\973\
---------------------------------------------------------------------------
    \970\ See Appendix I of this report, infra.
    \971\ See Appendix II of the Panel's May Oversight Report. 
Congressional Oversight Panel, May Oversight Report: The Small Business 
Credit Crunch and the Impact of the TARP, at 135 (May 13, 2010) (online 
at cop.senate.gov/documents/cop-051310-report.pdf).
    \972\ See Appendix II of this report, infra.
    \973\ See Appendix III of this report, infra.
              SECTION FOUR: TARP UPDATES SINCE LAST REPORT


                           A. TARP Repayments

    On May 19, 2010, Texas National Bancorporation repaid 
Treasury's $4 million investment for the company's preferred 
shares. As of May 26, 2010, 17 institutions have repurchased 
their preferred shares in 2010. Treasury received $15.4 billion 
in repayments from these transactions.

                      B. CPP Warrant Dispositions

    As part of its investment in senior preferred stock of 
certain banks under the CPP, Treasury received warrants to 
purchase shares of common stock or other securities in those 
institutions. During May, Comerica Inc. repurchased its 
warrants from Treasury for $183.9 million and Texas National 
Bancorporation repurchased additional preferred shares from 
Treasury for $199 thousand. Treasury also sold 110,261,688 
warrants for Wells Fargo & Company common stock and 2,532,542 
warrants for Valley National Bancorp common stock through 
secondary public offerings. The aggregate net proceeds to 
Treasury from these offerings were $840.4 million. On June 3, 
2010, Treasury closed a secondary public offering for 465,117 
warrants to purchase First Financial Bancorp common stock. At 
$6.20 per warrant, Treasury expects to receive $3 million in 
aggregate net proceeds. Deutsche Bank acted as the sole 
underwriter for this offering.

    C. Treasury Names Appointee to Ally Financial Board of Directors

    On May 26, 2010, Marjorie Magner was named to the Ally 
Financial Inc. (formerly GMAC Financial Services, Inc.) board 
of directors. Ms. Magner, who is the current director of 
Accenture Ltd and Gannett Company, Inc., is the first of two 
Treasury appointees. When Treasury's ownership interest in Ally 
increased to 56.3 percent in December 2009, it received the 
right to designate two additional representatives to the board. 
Ally Financial is currently a recipient of federal funds 
through the Automotive Industry Financing Program.

   D. Chrysler Holding Settles $1.9 Billion of Original Chrysler Loan

    Chrysler Holding (CGI Holding) repaid $1.9 billion to 
settle a $4 billion Treasury loan extended to Chrysler LLC (the 
``old Chrysler'') in January 2009. As a result of the 
repayment, CGI Holding and Chrysler Financial currently do not 
have outstanding obligations to the Treasury under TARP. In 
June 2009, after old Chrysler filed for bankruptcy the previous 
month, Chrysler Group LLC (the ``new Chrysler'') acquired old 
Chrysler's assets and $500 million of its debt.
    In total, Treasury has provided $14.3 billion in loans to 
old Chrysler, new Chrysler, and Chrysler Financial throughout 
the duration of TARP. Such loans include $1.5 billion to 
Chrysler Financial to provide funds for consumer vehicle 
financing, a $1.9 billion DIP loan for old Chrysler, and a $7.1 
billion investment in new Chrysler. As of May 17, 2010, 
Treasury has received $3.9 billion in loan repayment from all 
Chrysler entities.

      E. HAMP Update: New Servicer Performance Measures Announced

    Data from the Administration's April report on the Home 
Affordable Modification Program (HAMP) estimates 300,000 
homeowners permanently modified their loans through HAMP. The 
amount of modifications grew 13 percent since March 2010. The 
Administration also announced plans to include a more thorough 
evaluation of mortgage servicer performance in its reporting of 
the program. In July 2010, the monthly HAMP report will include 
measurable figures on the eight largest servicers and their 
current management of HAMP. Areas of evaluation include: 
transparency regarding non-HAMP alternatives for homeowners who 
do not qualify for the program, compliance with HAMP 
guidelines, and overall interaction between homeowner and 
servicer. With this report, the Administration aims to outline 
areas where various mortgage servicers could improve their 
execution of HAMP protocols.

                               F. Metrics

    Each month, the Panel's report highlights a number of 
metrics that the Panel and others, including Treasury, the 
Government Accountability Office (GAO), (SIGTARP), and the 
Financial Stability Oversight Board, consider useful in 
assessing the effectiveness of the Administration's efforts to 
restore financial stability and accomplish the goals of EESA. 
This section discusses changes that have occurred in several 
indicators since the release of the Panel's May report.
     Interest Rate Spreads. Since the Panel's May 
report, interest rate spreads widened, suggesting a slowdown in 
economic growth. The conventional mortgage spread, which 
measures the 30-year mortgage rate over 10-year Treasury bond 
yields, increased by 17.7 percent in May. Despite the growing 
spread during this period, 30-year mortgage interest rates have 
been decreasing.\974\ The TED Spread, which serves as an 
indicator for perceived risk in the financial markets, 
continued its upward trend, growing 39 percent in May. 
Increases in the LIBOR rates and TED Spread suggest hesitation 
among banks to lend to other counterparties.\975\ The interest 
rate spread for AA asset-backed commercial paper, which is 
considered mid-investment grade, has increased by 53.3 percent 
since the Panel's May report. The interest rate spread on A2/P2 
commercial paper, a lower grade investment than AA asset-backed 
commercial paper, increased by 12.7 percent during May.
---------------------------------------------------------------------------
    \974\ Board of Governors of the Federal Reserve System, Federal 
Reserve Statistical Release H.15: Selected Interest Rates: Historical 
Data (Instrument: Conventional Mortgages, Frequency: Weekly) (online at 
www.federalreserve.gov/releases/h15/data/Weekly_Thursday_/
H15_MORTG_NA.txt) (hereinafter ``Federal Reserve Statistical Release 
H.15'') (accessed June 8, 2010).
    \975\ The Federal Reserve Bank of Minneapolis, Measuring Perceived 
Risk--The TED Spread (Dec. 2008) (online at www.minneapolisfed.org/
publications_papers/pub_display.cfm?id=4120).
---------------------------------------------------------------------------
    The widening commercial paper spreads in May could be 
attributed to recent problems in the Euro zone. Money market 
mutual funds are divesting from Greece, Spain, and Portugal. 
Risk-averse money managers are favoring shorter term commercial 
paper or long-dated issues from top-rated financial companies. 
In addition, investors are now calling for higher interest 
rates on European commercial paper than on U.S. commercial 
paper, with interest rate spreads increasing to more than 0.50 
percentage point.\976\
---------------------------------------------------------------------------
    \976\ Richard Leong and Emelia Sithole-Matarise, European, 
Regulatory Worries Lift Bank Costs, Reuters (May 25, 2010) (online at 
www.reuters.com/article/idUSN2516218620100525).

                    FIGURE 52: INTEREST RATE SPREADS
------------------------------------------------------------------------
                                                         Percent Change
             Indicator                Current Spread   Since Last Report
                                      (as of 6/2/10)       (5/13/10)
------------------------------------------------------------------------
Conventional mortgage rate spread                1.53               17.7
 \977\............................
TED Spread (basis points).........              39.02               39.0
Overnight AA asset-backed                        0.11               53.3
 commercial paper interest rate
 spread \978\.....................
Overnight A2/P2 nonfinancial                     0.20              12.7
 commercial paper interest rate
 spread \979\.....................
------------------------------------------------------------------------
\977\ Federal Reserve Statistical Release H.15, supra note 974 (accessed
  June 2, 2010); Board of Governors of the Federal Reserve System,
  Federal Reserve Statistical Release H.15: Selected Interest Rates:
  Historical Data (Instrument: U.S. Government Securities/Treasury
  Constant Maturities/Nominal 10-Year, Frequency: Weekly) (online at
  www.federalreserve.gov/releases/h15/data/Weekly_Friday_/
  H15_TCMNOM_Y10.txt) (accessed June 2, 2010).
\978\ Board of Governors of the Federal Reserve System, Federal Reserve
  Statistical Release: Commercial Paper Rates and Outstandings: Data
  Download Program (Instrument: AA Asset-Backed Discount Rate,
  Frequency: Daily) (online at www.federalreserve.gov/DataDownload/
  Choose.aspx?rel=CP) (hereinafter ``Federal Reserve Statistical
  Release: Commercial Paper'') (accessed June 2, 2010). In order to
  provide a more complete comparison, this metric utilizes the average
  of the interest rate spread for the last five days of the month.
\979\ Id. In order to provide a more complete comparison, this metric
  utilizes the average of the interest rate spread for the last five
  days of the month.

     LIBOR Rates. As of June 2, 2010, the 3-month and 
1-month LIBOR, the prices at which banks lend and borrow from 
each other, are 0.538 and 0.351, respectively. Beginning on 
March 1, 2010, the 3-month LIBOR experienced a 113.6 percent 
increase, and grew 23.3 percent since the Panel's May report. 
The 1-month LIBOR has also increased significantly in the past 
three months. Since March 1, the 1-month LIBOR rate rose 53.8 
percent. These heightened levels indicate growing concern among 
banks about lending to and borrowing from one another.\980\
---------------------------------------------------------------------------
    \980\ Data accessed through Bloomberg data service on June 2, 2010.

                         FIGURE 53: 3-MONTH AND 1-MONTH LIBOR RATES (AS OF JUNE 2, 2010)
----------------------------------------------------------------------------------------------------------------
                                                                                      Percent Change from Data
                        Indicator                          Current Rates  (as of 6/   Available at Time of Last
                                                                   2/2010)               Report (5/13/2010)
----------------------------------------------------------------------------------------------------------------
3-Month LIBOR \981\......................................                     .538                          23.3
1-Month LIBOR \982\......................................                     .351                          4.2
----------------------------------------------------------------------------------------------------------------
\981\ Data accessed through Bloomberg data service on June 2, 2010.
\982\ Data accessed through Bloomberg data service on June 2, 2010.

              FIGURE 54: 3-MONTH AND 1-MONTH LIBOR RATES 


[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


     Housing Indicators. Foreclosure actions, which 
consist of default notices, scheduled auctions, and bank 
repossessions, dropped 9.1 percent in May to 333,837. This 
metric is 19.4 percent above the foreclosure action level at 
the time of the EESA enactment. Both the Case-Shiller Composite 
20-City Composite as well as the FHFA Housing Price Index 
decreased slightly in February 2010. The Case-Shiller and FHFA 
indices remain at 6.7 percent and 4.9 percent, respectively, 
below their levels at the time EESA was enacted.

                                          FIGURE 55: HOUSING INDICATORS
----------------------------------------------------------------------------------------------------------------
                                                                           Percent Change  from       Percent
                       Indicator                           Most Recent   Data Available  at Time   Change Since
                                                          Monthly Data       of Last  Report       October 2008
----------------------------------------------------------------------------------------------------------------
Monthly foreclosure actions \983\......................         333,837                    (9.1)            19.4
S&P/Case-Shiller Composite 20 Index \984\..............           145.9                     (.1)           (6.7)
FHFA Housing Price Index \985\.........................           192.9                     (.5)          (4.9)
----------------------------------------------------------------------------------------------------------------
\983\ RealtyTrac, Foreclosure Activity Press Releases (online at www.realtytrac.com/ContentManagement/
  PressRelease.aspx) (accessed June 2, 2010). Most recent data available for April 2010.
\984\ Standard & Poor's, S&P/Case-Shiller Home Price Indices (Instrument: Seasonally Adjusted Composite 20
  Index) (online at www.standardandpoors.com/spf/docs/case-shiller/SA_CSHomePrice_History.xls) (accessed June 2,
  2010). Most recent data available for March 2010. Data accessed through Bloomberg data service.
\985\ Federal Housing Finance Agency, U.S. and Census Division Monthly Purchase Only Index (Instrument: USA,
  Seasonally Adjusted) (online at www.fhfa.gov/webfiles/15669/MonthlyIndex_Jan1991_to_Latest.xls) (accessed June
  2, 2010). Most recent data available for March 2010. Data accessed through Bloomberg data service.

     National Delinquency Rates. The Mortgage Bankers 
Association's (MBA) National Delinquency Survey, which tracks 
all loans types that are past due, indicates a non-seasonally 
adjusted delinquency rate of 9.38 percent for all loans 
outstanding during the first quarter of 2010. Including loans 
in foreclosure, the total delinquency rate was 14.01 percent at 
the end of the first quarter of 2010. Florida, Nevada, 
Mississippi, Arizona and Georgia continue to have the highest 
delinquency rates in the country, each with a rate above 10 
percent. Compared to the fourth quarter of 2009, seasonally 
adjusted delinquency rates increased for all loan types except 
Federal Housing Administration (FHA) loans. Furthermore, 
foreclosure starts during the first quarter of 2010 are up from 
the last quarter, with the exception of subprime loans.\986\
---------------------------------------------------------------------------
    \986\ Mortgage Bankers Association, National Delinquency Survey 
Q1210 (Mar. 31, 2010) (online at www.mbaa.org/ResearchandForecasts/
ProductsandSurveys/NationalDelinquencySurvey.htm).
---------------------------------------------------------------------------

  FIGURE 56: TOTAL PERCENTAGE OF LOANS WITH INSTALLMENTS PAST DUE, BY 
                CENSUS REGION, FIRST QUARTER 2010 \987\

      
---------------------------------------------------------------------------
    \987\ Id.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

    
     Consumer Credit. The Federal Reserve Consumer 
Credit Index tracks short-term and long-term credit given to 
individuals for all purposes excluding real estate loans. In 
March 2010, consumer credit grew at a 0.5 percent annual rate. 
Revolving credit decreased at a 5.3 percent annual rate, while 
nonrevolving credit decreased at a 1.2 percent annual rate. 
Data from the Federal Reserve's G.19 report indicate that there 
was $2.44 trillion in consumer credit outstanding for the first 
quarter of 2010. This figure is down from $2.54 trillion in the 
first quarter of 2009.\988\
---------------------------------------------------------------------------
    \988\ Board of Governors of the Federal Reserve System, Federal 
Reserve Statistical Release G.19: Consumer Credit: Historical Data 
(online at www.federalreserve.gov/releases/g19/current/g19.htm) 
(accessed June 2, 2010).
---------------------------------------------------------------------------

FIGURE 57: FEDERAL RESERVE CONSUMER CREDIT TOTAL NET CHANGE (SEASONALLY 
                            ADJUSTED) \989\

      
---------------------------------------------------------------------------
    \989\ Id.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]

    
                          G. Financial Update

    Each month, the Panel summarizes the resources that the 
federal government has committed to economic stabilization. The 
following financial update provides: (1) an updated accounting 
of the TARP, including a tally of dividend income, repayments, 
and warrant dispositions that the program has received as of 
April 29, 2010; and (2) an updated accounting of the full 
federal resource commitment as of May 26, 2010.

1. The TARP

            a. Costs: Expenditures and Commitments
    Treasury has committed or is currently committed to spend 
$520.3 billion of TARP funds through an array of programs used 
to purchase preferred shares in financial institutions, provide 
loans to small businesses and automotive companies, and 
leverage Federal Reserve loans for facilities designed to 
restart secondary securitization markets.\990\ Of this total, 
$214.2 billion is currently outstanding under the $698.7 
billion limit for TARP expenditures set by EESA, leaving $481.1 
billion available for fulfillment of anticipated funding levels 
of existing programs and for funding new programs and 
initiatives. The $214.2 billion includes purchases of preferred 
and common shares, warrants and/or debt obligations under the 
CPP, AIGIP/SSFI Program, PPIP, and AIFP; and a loan to TALF 
LLC, the SPV used to guarantee Federal Reserve TALF loans.\991\ 
Additionally, Treasury has spent $187.8 million under the Home 
Affordable Modification Program, out of a projected total 
program level of $50 billion.
---------------------------------------------------------------------------
    \990\ EESA, as amended by the Helping Families Save Their Homes Act 
of 2009, limits Treasury to $698.7 billion in purchasing authority 
outstanding at any one time as calculated by the sum of the purchase 
prices of all troubled assets held by Treasury. Pub. L. No. 110-343 
Sec. 115(a)-(b); Helping Families Save Their Homes Act of 2009, Pub. L. 
No. 111-22 Sec. 402(f) (reducing by $1.23 billion the authority for the 
TARP originally set under EESA at $700 billion).
    \991\ Treasury Transactions Report, supra note 2.
---------------------------------------------------------------------------
            b. Income: Dividends, Interest Payments, CPP Repayments, 
                    and Warrant Sales
    As of May 26, 2010, a total of 74 institutions have 
completely repurchased their CPP preferred shares. Of these 
institutions, 46 have repurchased their warrants for common 
shares that Treasury received in conjunction with its preferred 
stock investments; Treasury sold the warrants for common shares 
for 10 other institutions at auction.\992\ In May 2010, 
Comerica Inc. repurchased its warrants for $183.8 million. 
Warrants for common shares of Wells Fargo & Company and Valley 
National Bancorp were sold at auction for $854.6 million in 
total proceeds. On May 19, 2010, Treasury received a $4 million 
repayment from Texas National Bancorporation, along with a 
warrant to purchase $199,000 in preferred shares. In addition, 
Treasury receives dividend payments on the preferred shares 
that it holds, usually five percent per annum for the first 
five years and nine percent per annum thereafter.\993\ To date, 
Treasury has received approximately $20.8 billion in net income 
from warrant repurchases, dividends, interest payments, and 
other considerations derived from TARP investments,\994\ and 
another $1.2 billion in participation fees from its Guarantee 
Program for Money Market Funds.\995\
---------------------------------------------------------------------------
    \992\ Treasury Transactions Report, supra note 2.
    \993\ U.S. Department of the Treasury, Securities Purchase 
Agreement [CPP]: Standard Terms, at 7 (online at 
www.financialstability.gov/docs/CPP/spa.pdf) (accessed June 8, 2010).
    \994\ U.S. Department of the Treasury, Cumulative Dividends and 
Interest Report as of April 30, 2010 (May 14, 2010) (online at 
www.financialstability.gov/docs/dividends-interest-reports/
April%202010%20Dividends%20and%20Interest%20Report.pdf) (hereinafter 
``Treasury Cumulative Dividends and Interest Report'').
    \995\ U.S. Department of the Treasury, Treasury Announces 
Expiration of Guarantee Program for Money Market Funds (Sept. 18, 2009) 
(online at www.treasury.gov/press/releases/tg293.htm).
---------------------------------------------------------------------------
            c. TARP Accounting

                                                  FIGURE 58: TARP ACCOUNTING (AS OF APRIL 29, 2010) 996
                                                                  [Dollars in billions]
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                     Total
                                                                     Anticipated      Actual      Repayments/       Funding                    Funding
                         TARP Initiative                               Funding       Funding        Reduced       Outstanding      Losses     Available
                                                                                                   Exposure
--------------------------------------------------------------------------------------------------------------------------------------------------------
Capital Purchase Program (CPP) \997\.............................          $204.9       $204.9          $137.3     \998\ $67.6   \999\ $2.3           $0
Targeted Investment Program (TIP) \1000\.........................            40.0         40.0              40               0           --            0
AIG Investment Program (AIGIP)/Systemically Significant Failing              69.8  \1001\ 49.1               0            49.1           --         20.7
 Institutions Program (SSFI).....................................
Automobile Industry Financing Program (AIFP).....................            81.3         81.3     \1002\ 10.8            67.1   \1003\ 3.5            0
Asset Guarantee Program (AGP) \1004\.............................             5.0          5.0      \1005\ 5.0               0           --            0
Capital Assistance Program (CAP) \1006\..........................              --           --              --              --           --           --
Term Asset-Backed Securities Lending Facility (TALF).............            20.0  \1007\ 0.10               0            0.10           --         19.9
Public-Private Investment Program (PPIP) \1008\..................            30.0         30.0               0            30.0           --            0
Supplier Support Program (SSP) \1009\............................      \1010\ 3.5          3.5             3.5               0           --            0
Unlocking SBA Lending............................................            15.0  \1011\ 0.11               0            0.11           --        14.89
Home Affordable Modification Program (HAMP)......................       \1012\ 50  \1013\ 0.19               0            0.19           --         49.8
Community Development Capital Initiative (CDCI)..................     \1014\ 0.78            0               0               0           --         0.78
Total Committed..................................................           520.3       414.20              --          214.20           --       106.08
Total Uncommitted................................................           178.4           --           196.6              --           --  \1015\ 375.
                                                                                                                                                      02
    Total........................................................          $698.7      $414.20          $196.6         $214.20         $5.8     $481.10
--------------------------------------------------------------------------------------------------------------------------------------------------------
\996\ Treasury Transactions Report, supra note 2.
\997\ As of December 31, 2009, the CPP was closed. U.S. Department of the Treasury, FAQ on Capital Purchase Program Deadline (online at
  www.financialstability.gov/docs/FAQ%20on%20Capital%20Purchase%20Program%20Deadline.pdf).
\998\ Treasury has classified the investments it made in two institutions, CIT Group ($2.3 billion) and Pacific Coast National Bancorp ($4.1 million),
  as losses on the Transactions Report. Therefore Treasury's net current CPP investment is $65.4 billion due to the $2.3 billion in losses thus far.
  Treasury Transactions Report, supra note 2.
\999\ This figure represents the TARP losses associated with CIT Group ($2.3 billion) and Pacific Coast National Bancorp ($4.1 million). This number
  does not include UCBH Holdings or Midwest Banc Holdings, Inc. UCBH Holdings, Inc. received $299 million in TARP funds and is currently in bankruptcy
  proceedings. As of May 26, 2010, the banking subsidiary of the TARP recipient Midwest Banc Holdings, Inc. ($89.4 million) was in receivership.
  Treasury Transactions Report, supra note 2.
\1000\ Both Bank of America and Citigroup repaid the $20 billion in assistance each institution received under the TIP on December 9 and December 23,
  2009, respectively. Therefore the Panel accounts for these funds as repaid and uncommitted. Treasury Transactions Report, supra note 2.
\1001\ AIG has completely utilized the $40 billion made available on November 25, 2008 and drawn-down $7.54 billion of the $29.8 billion made available
  on April 17, 2009. This figure also reflects $1.6 billion in accumulated but unpaid dividends owed by AIG to Treasury due to the restructuring of
  Treasury's investment from cumulative preferred shares to non-cumulative shares. AIG Form 10-K for FY09, supra note 50, at 45; Treasury Transactions
  Report, supra note 2; information provided by Treasury staff in response to Panel request.
\1002\ On May 14, 2010, Treasury accepted a $1.9 billion settlement payment from Chrysler Holding to satisfy Chrysler Holdco's existing debt. In
  addition, Chrysler LLC, ``Old Chrysler,'' repaid $30.5 million of its debt obligations to Treasury on May 10, 2010 from proceeds earned from
  collateral sales. Treasury Transactions Report, supra note 2.
\1003\ The $1.9 billion settlement payment represents a $1.6 billion loss on Treasury's Chrysler Holding Investment. This amount is in addition to
  losses connected to the $1.9 billion loss from the $4.1 billion debtor-in-possession credit facility, or Chrysler DIP Loan. U.S. Department of the
  Treasury, Chrysler Financial Parent Company Repays $1.9 Billion in Settlement of Original Chrysler Loan, Press Release (May 17, 2010) (online at
  www.financialstability.gov/latest/pr_05172010c.html); Treasury Transactions Report, supra note 2.
\1004\ Treasury, the Federal Reserve, and the Federal Deposit Insurance Corporation terminated the asset guarantee with Citigroup on December 23, 2009.
  The agreement was terminated with no losses to Treasury's $5 billion second-loss portion of the guarantee. Citigroup did not repay any funds directly,
  but instead terminated Treasury's outstanding exposure on its $5 billion second-loss position. As a result, the $5 billion is now counted as
  uncommitted. U.S. Department of the Treasury, Treasury Receives $45 Billion in Repayments from Wells Fargo and Citigroup (Dec. 22, 2009) (online at
  www.treas.gov/press/releases/20091229716198713.htm).
\1005\ Although this $5 billion is no longer exposed as part of the AGP and is accounted for as available, Treasury did not receive a repayment in the
  same sense as with other investments. Treasury did receive other income as consideration for the guarantee, which is not a repayment and is accounted
  for in Figure 59.
\1006\ On November 9, 2009, Treasury announced the closing of this program and that only one institution, GMAC, was in need of further capital from
  Treasury. GMAC subsequently received an additional $3.8 billion in capital through the AIFP on December 30, 2009. U.S. Department of the Treasury,
  Treasury Announcement Regarding the Capital Assistance Program (Nov. 9, 2009) (online at www.financialstability.gov/latest/tg_11092009.html); U.S.
  Department of the Treasury, Treasury Announces Restructuring of Commitment to GMAC (Nov. 9, 2009) (online at www.financialstability.gov/latest/
  tg_11092009.html) (updated Jan. 5, 2010); Treasury Transactions Report, supra note 2.
\1007\ Treasury has committed $20 billion in TARP funds to a loan funded through TALF LLC, a special purpose vehicle created by the Federal Reserve Bank
  of New York. The loan is incrementally funded and as of May 26, 2010, Treasury provided $104 million to TALF LLC. This total includes accrued payable
  interest. Treasury Transactions Report, supra note 2; Federal Reserve H.4.1 Statistical Release, supra note 342.
\1008\  On April 20, 2010, Treasury released its second quarterly report on the Legacy Securities Public-Private Investment Partnership. As of March 31,
  2010, the total value of assets held by the PPIP managers was $10 billion. Of this total, 88 percent was non-agency Residential Mortgage-Backed
  Securities and the remaining 12 percent was Commercial Mortgage-Backed Securities. U.S. Department of the Treasury, Legacy Securities Public-Private
  Investment Program, Program Update--Quarter Ended March 31, 2010 (Apr. 20, 2010) (online at www.financialstability.gov/docs/External%20Report%20-%2003-
  10%20Final.pdf).
\1009\ On April 5, 2010 and April 7, 2010, Treasury's commitment to lend to the GM SPV and the Chrysler SPV respectively under the ASSP ended. In total,
  Treasury received $413 million in repayments from loans provided by this program ($290 million from the GM SPV and $123 million from the Chrysler
  SPV). Further, Treasury received $101 million in proceeds from additional notes associated with this program. Treasury Transactions Report, supra note
  2.
\1010\ On July 8, 2009, Treasury lowered the total commitment amount for the program from $5 billion to $3.5 billion. This action reduced GM's portion
  from $3.5 billion to $2.5 billion and Chrysler's portion from $1.5 billion to $1 billion. GM Supplier Receivables LLC, the special purpose vehicle
  (SPV) created to administer this program for GM suppliers has made $290 million in partial repayments and Chrysler Receivables SPV LLC, the SPV
  created to administer the program for Chrysler suppliers, has made $123 million in partial repayments. These were partial repayments of drawn-down
  funds and did not lessen Treasury's $3.5 billion in total exposure under the ASSP. Treasury Transactions Report, supra note 2.
\1011\ Treasury settled on the purchase of three floating rate Small Business Administration 7(a) securities on March 24, 2010, and another on April 30,
  2010. Treasury anticipates a settlement on one floating rate SBA 7(a) security on May 28, 2010. As of May 3, 2010, the total amount of TARP funds
  invested in these securities was $58.64 million. Treasury Transactions Report, supra note 2.
\1012\  On February 19, 2010, President Obama announced the Housing Finance Agency Innovation Fund for the Hardest Hit Housing Markets (HFA Hardest Hit
  Fund). The proposal commits $1.5 billion of the $50 billion in TARP funds allocated to HAMP to assist the five states with the highest home price
  declines stemming from the foreclosure crisis: Nevada, California, Florida, Arizona, and Michigan. The White House, President Obama Announces Help for
  Hardest Hit Housing Markets (Feb. 19, 2010) (online at www.whitehouse.gov/the-press-office/president-obama-announces-help-hardest-hit-housing-
  markets). On March 29, 2010, Treasury announced $600 million in funding for a second HFA Hardest Hit Fund which includes North Carolina, Ohio, Oregon
  Rhode Island, and South Carolina. U.S. Department of the Treasury, Administration Announces Second Round of Assistance for Hardest-Hit Housing Markets
  (Mar. 29, 2010) (online at www.financialstability.gov/latest/pr_03292010.html). Until further information on these programs is released, the Panel
  will continue to account for the $50 billion commitment to HAMP as intact and as the newly announced programs as subsets of the larger initiative. For
  further discussion of the newly announced HAMP programs, and the effect these initiatives may have on the $50 billion in committed TARP funds, see
  section D.1 of the Panel's April report. Congressional Oversight Panel, April Oversight Report: Evaluating Progress on TARP Foreclosure Mitigation
  Programs, at 227 (Apr. 14, 2010) (online atcop.senate.gov/documents/cop-041410-report.pdf).
\1013\ In response to a Panel inquiry, Treasury disclosed that, as of May 31, 2010, $187.8 million in funds had been disbursed under HAMP. As of May 26,
  2010, the total of all the caps set on payments to each mortgage servicer was $39.8 billion. Treasury Transactions Report, supra note 2.
\1014\ On February 3, 2010, the Administration announced an initiative under TARP to provide low-cost financing for Community Development Financial
  Institutions (CDFIs). Under this program, CDFIs are eligible for capital investments at a two percent dividend rate as compared to the five percent
  dividend rate under the CPP. In response to Panel request, Treasury stated that it projects the CDCI program to utilize $780.2 million.
\1015\ This figure is the sum of the uncommitted funds remaining under the $698.7 billion cap ($178.4 billion) and the repayments ($196.5 billion).


                                                             FIGURE 59: TARP PROFIT AND LOSS
                                                                  [Dollars in millions]
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                Warrant       Other Proceeds  Losses \1019\
                   TARP Initiative                     Dividends \1016\  Interest \1017\  Repurchases \1018\   (as of 4/30/    (as of 5/26/     Total
                                                        (as of 4/30/10)  (as of 4/30/10)    (as of 5/26/10)         10)            10)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Total................................................          $14,996            $726              $7,031            $3,833      ($5,822)       $20,764
CPP..................................................            8,969              28               5,760      \1020\ 1,308       (2,334)        13,731
TIP..................................................            3,004               -               1,256                 -             -         4,260
AIFP.................................................     \1021\ 2,701             674                  15                 -       (3,488)          (97)
ASSP.................................................              N/A              15                   -                 -             -            15
AGP..................................................              321               -                   0      \1022\ 2,234             -         2,555
PPIP.................................................                -               9                   -         \1023\ 15             -            24
Bank of America Guarantee............................                -               -                   -        \1024\ 276             -          276
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1016\ Treasury Cumulative Dividends and Interest Report, supra note 994.
\1017\ Treasury Cumulative Dividends and Interest Report, supra note 994.
\1018\ Treasury Transactions Report, supra note 2.
\1019\ See note 999, supra.
\1020\ As a fee for taking a second-loss position up to $5 billion on a $301 billion pool of ring-fenced Citigroup assets, as part of the AGP, Treasury
  received $4.03 billion in Citigroup preferred stock and warrants; Treasury exchanged these preferred stocks for TruPS in June 2009. Following the
  early termination of the guarantee, Treasury cancelled $1.8 billion of the TruPS, leaving Treasury with a $2.23 billion investment in Citigroup TruPS
  in exchange for the guarantee. At the end of Citigroup's participation in the FDIC's TLGP, the FDIC may transfer $800 million of $3.02 billion in
  Citigroup TruPS it received in consideration for its role in the AGP to the Treasury. U.S. Department of the Treasury, Troubled Asset Relief Program
  Transactions Report for Period Ending May 26, 2010 (May 28, 2010) (online at www.financialstability.gov/docs/transaction-reports/5-
  2810%20Transactions%20Report%20as%20of%205-26-10.pdf).
\1021\ This figure includes $815 million in dividends from GMAC preferred stock, trust preferred securities and mandatory convertible preferred shares.
  The dividend total also includes a $748.6 million senior unsecured note from Treasury's investment in General Motors. Information provided by Treasury
  in response to Panel inquiry.
\1022\ As a fee for taking a second-loss position up to $5 billion on a $301 billion pool of ring-fenced Citigroup assets, as part of the AGP, Treasury
  received $4.03 billion in Citigroup preferred stock and warrants; Treasury exchanged these preferred stocks for trust preferred securities in June
  2009. Following the early termination of the guarantee, Treasury cancelled $1.8 billion of the trust preferred securities, leaving Treasury with a
  $2.23 billion investment in Citigroup trust preferred securities in exchange for the guarantee. At the end of Citigroup's participation in the FDIC's
  TLGP, the FDIC may transfer $800 million of $3.02 billion in Citigroup Trust Preferred Securities it received in consideration for its role in the AGP
  to the Treasury. Treasury Transactions Report, supra note 2.
\1023\ As of April 29, 2010, Treasury has earned $15.4 million in membership interest distributions from the PPIP. Treasury Cumulative Dividends and
  Interest Report, supra note 994.
\1024\ Although Treasury, the Federal Reserve, and the FDIC negotiated with Bank of America regarding a similar guarantee, the parties never reached an
  agreement. In September 2009, Bank of America agreed to pay each of the prospective guarantors a fee as though the guarantee had been in place during
  the negotiations. This agreement resulted in payments of $276 million to Treasury, $57 million to the Federal Reserve, and $92 million to the FDIC.
  U.S. Department of the Treasury, Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corporation, and Bank of America
  Corporation, Termination Agreement, at 1-2 (Sept. 21, 2009) (online at www.financialstability.gov/docs/AGP/BofA%20-%20Termination%20Agreement%20-
  %20executed.pdf).

            d. Rate of Return
    As of June 8, 2010, the average internal rate of return for 
all financial institutions that participated in the CPP and 
fully repaid the U.S. government (including preferred shares, 
dividends, and warrants) was 9.9 percent. The internal rate of 
return is the annualized effective compounded return rate that 
can be earned on invested capital.
            e. Warrant Disposition

                 FIGURE 60: WARRANT REPURCHASES/AUCTIONS FOR FINANCIAL INSTITUTIONS THAT HAVE FULLY REPAID CPP FUNDS AS OF JUNE 8, 2010
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                                                Panel's Best
                                                                 Investment    Warrant         Warrant           Valuation         Price/        IRR
                          Institution                               Date      Repurchase   Repurchase/ Sale     Estimate at       Estimate    (Percent)
                                                                                 Date           Amount        Repurchase Date      Ratio
--------------------------------------------------------------------------------------------------------------------------------------------------------
Old National Bancorp..........................................   12/12/2008     5/8/2009         $1,200,000         $2,150,000        0.558          9.3
Iberiabank Corporation........................................    12/5/2008    5/20/2009          1,200,000          2,010,000        0.597          9.4
Firstmerit Corporation........................................     1/9/2009    5/27/2009          5,025,000          4,260,000        1.180         20.3
Sun Bancorp, Inc..............................................     1/9/2009    5/27/2009          2,100,000          5,580,000        0.376         15.3
Independent Bank Corp.........................................     1/9/2009    5/27/2009          2,200,000          3,870,000        0.568         15.6
Alliance Financial Corporation................................   12/19/2008    6/17/2009            900,000          1,580,000        0.570         13.8
First Niagara Financial Group.................................   11/21/2008    6/24/2009          2,700,000          3,050,000        0.885          8.0
Berkshire Hills Bancorp, Inc..................................   12/19/2008    6/24/2009          1,040,000          1,620,000        0.642         11.3
Somerset Hills Bancorp........................................    1/16/2009    6/24/2009            275,000            580,000        0.474         16.6
SCBT Financial Corporation....................................    1/16/2009    6/24/2009          1,400,000          2,290,000        0.611         11.7
HF Financial Corp.............................................   11/21/2008    6/30/2009            650,000          1,240,000        0.524         10.1
State Street..................................................   10/28/2008     7/8/2009         60,000,000         54,200,000        1.107          9.9
U.S. Bancorp..................................................   11/14/2008    7/15/2009        139,000,000        135,100,000        1.029          8.7
The Goldman Sachs Group, Inc..................................   10/28/2008    7/22/2009      1,100,000,000      1,128,400,000        0.975         22.8
BB&T Corp.....................................................   11/14/2008    7/22/2009         67,010,402         68,200,000        0.983          8.7
American Express Company......................................     1/9/2009    7/29/2009        340,000,000        391,200,000        0.869         29.5
Bank of New York Mellon Corp..................................   10/28/2008     8/5/2009        136,000,000        155,700,000        0.873         12.3
Morgan Stanley................................................   10/28/2008    8/12/2009        950,000,000      1,039,800,000        0.914         20.2
Northern Trust Corporation....................................   11/14/2008    8/26/2009         87,000,000         89,800,000        0.969         14.5
Old Line Bancshares Inc.......................................    12/5/2008     9/2/2009            225,000            500,000        0.450         10.4
Bancorp Rhode Island, Inc.....................................   12/19/2008    9/30/2009          1,400,000          1,400,000        1.000         12.6
Centerstate Banks of Florida Inc..............................   11/21/2008   10/28/2009            212,000            220,000        0.964          5.9
Manhattan Bancorp.............................................    12/5/2008   10/14/2009             63,364            140,000        0.453          9.8
Bank of Ozarks................................................   12/12/2008   11/24/2009          2,650,000          3,500,000        0.757          9.0
Capital One Financial.........................................   11/14/2008    12/3/2009        148,731,030        232,000,000        0.641         12.0
JPMorgan Chase & Co...........................................   10/28/2008   12/10/2009        950,318,243      1,006,587,697        0.944         10.9
TCF Financial Corp............................................    1/16/2009   12/16/2009          9,599,964         11,825,830        0.812         11.0
LSB Corporation...............................................   12/12/2008   12/16/2009            560,000            535,202        1.046          9.0
Wainwright Bank & Trust Company...............................   12/19/2008   12/16/2009            568,700          1,071,494        0.531          7.8
Wesbanco Bank, Inc............................................    12/5/2008   12/23/2009            950,000          2,387,617        0.398          6.7
Union Bankshares Corporation..................................   12/19/2008   12/23/2009            450,000          1,130,418        0.398          5.8
Trustmark Corporation.........................................   11/21/2008   12/30/2009         10,000,000         11,573,699        0.864          9.4
Flushing Financial Corporation................................   12/19/2008   12/30/2009            900,000          2,861,919        0.314          6.5
OceanFirst Financial Corporation..............................    1/16/2009     2/3/2010            430,797            279,359        1.542          6.2
Monarch Financial Holdings, Inc...............................   12/19/2008    2/10/2010            260,000            623,434        0.417          6.7
Bank of America...............................................   \1025\ 10/     3/3/2010      1,566,210,714      1,006,416,684        1.533          6.5
                                                                      28/08
                                                                \1026\ 1/9/
                                                                       2009
                                                                \1027\ 1/14/
                                                                       2009
Washington Federal Inc./ Washington Federal Savings & Loan       11/14/2008     3/9/2010         15,623,222         10,166,404        1.537         18.6
 Association..................................................
Signature Bank................................................   12/12/2008    3/10/2010         11,320,751         11,458,577        0.988         32.4
Texas Capital Bancshares, Inc.................................    1/16/2009    3/11/2010          6,709,061          8,316,604        0.807         30.1
Umpqua Holdings Corp..........................................   11/14/2008    3/31/2010          4,500,000          5,162,400        0.872          6.6
City National Corporation.....................................   11/21/2008     4/7/2010         18,500,000         24,376,448        0.759          8.5
First Litchfield Financial Corporation........................   12/12/2008     4/7/2010          1,488,046          1,863,158        0.799         15.9
PNC Financial Services Group Inc..............................   12/31/2008    4/29/2010        324,195,686        346,800,388        0.935          8.7
Comerica Inc..................................................   11/14/2008     5/4/2010        183,673,472        276,426,071        0.664         10.8
Valley National Bancorp.......................................   11/14/2008    5/18/2010          5,571,592          5,955,884        0.935          8.3
Wells Fargo Bank..............................................   10/28/2008    5/20/2010        849,014,998      1,064,247,725        0.798          7.8
First Financial Bancorp.......................................   12/23/2008     6/2/2010          3,116,284          3,051,431        1.021          8.2
    Total.....................................................  ...........  ...........     $7,014,943,327     $7,131,508,443        0.984         9.90
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1025\ Investment date for Bank of America in CPP.
\1026\ Investment date for Merrill Lynch in CPP.
\1027\ Investment date for Bank of America in TIP.


 FIGURE 61: VALUATION OF CURRENT HOLDINGS OF WARRANTS AS OF JUNE 8, 2010
                          [Dollars in millions]
------------------------------------------------------------------------
                                             Warrant Valuation
      Stress Test Financial       --------------------------------------
    Institutions with Warrants         Low          High         Best
           Outstanding               Estimate     Estimate     Estimate
------------------------------------------------------------------------
Citigroup, Inc...................       $10.95    $1,001.97      $318.78
SunTrust Banks, Inc..............        13.70       333.82       200.48
Regions Financial Corporation....        16.21       235.88       137.59
Fifth Third Bancorp..............        90.72       381.08       239.21
Hartford Financial Services             380.32       725.70       545.72
 Group, Inc......................
KeyCorp..........................        16.81       158.87       104.25
AIG..............................       173.36     1,594.41     1,020.39
All Other Banks..................       893.43     2,096.14     1,661.88
Total............................    $1,595.49    $6,527.87    $4,228.32
Citigroup, Inc...................       $10.95    $1,001.97      $318.78
------------------------------------------------------------------------

2. Other Financial Stability Efforts

            Federal Reserve, FDIC, and Other Programs
    In addition to the direct expenditures Treasury has 
undertaken through the TARP, the federal government has engaged 
in a much broader program directed at stabilizing the U.S. 
financial system. Many of these initiatives explicitly augment 
funds allocated by Treasury under specific TARP initiatives, 
such as FDIC and Federal Reserve asset guarantees for 
Citigroup, or operate in tandem with Treasury programs, such as 
the interaction between PPIP and TALF. Other programs, like the 
Federal Reserve's extension of credit through its Section 13(3) 
facilities and SPVs and the FDIC's Temporary Liquidity 
Guarantee Program, operate independently of the TARP.
    Figure 62 below reflects the changing mix of Federal 
Reserve investments. As the liquidity facilities established to 
address the crisis have been wound down, the Federal Reserve 
has expanded its facilities for purchasing mortgage-related 
securities. The Federal Reserve announced that it intended to 
purchase $175 billion of federal agency debt securities and 
$1.25 trillion of agency mortgage-backed securities.\1028\ As 
of May 26, 2010, $167.4 billion of federal agency (government-
sponsored enterprise) debt securities and $1.1 trillion of 
agency mortgage-backed securities were purchased.\1029\ These 
purchases were completed on March 31, 2010.\1030\ In addition, 
$174.7 billion in GSE MBS remain outstanding as of May 2010 
under Treasury's GSE Mortgage Backed Securities Purchase 
Program.\1031\
---------------------------------------------------------------------------
    \1028\ Board of Governors of the Federal Reserve System, Minutes of 
the Federal Open Market Committee, at 10 (Dec. 15-16, 2009) (online at 
www.federalreserve.gov/newsevents/press/monetary/
fomcminutes20091216.pdf) (``[T]he Federal Reserve is in the process of 
purchasing $1.25 trillion of agency mortgage-backed securities and 
about $175 billion of agency debt'').
    \1029\ Federal Reserve Data Download Program, supra note 317.
    \1030\ Federal Reserve Bank of New York, Agency Mortgage-Backed 
Securities Purchase Program (online at www.newyorkfed.org/markets/mbs/
); Federal Reserve H.4.1 Statistical Release, supra note 809.
    \1031\ U.S. Department of the Treasury, MBS Purchase Program: 
Portfolio by Month (online at www.financialstability.gov/docs/
May%202010%20Portfolio%20by%20month.pdf) (accessed June 2, 2010). 
Treasury received $42.2 billion in principal repayments $10.3 billion 
in interest payments from these securities. U.S. Department of the 
Treasury, MBS Purchase Program Principal and Interest (online at 
www.financialstability.gov/docs/
May%202010%20MBS%20Principal%20and%20Interest%20Monthly%20Breakout.pdf) 
(accessed June 2, 2010).
---------------------------------------------------------------------------

FIGURE 62: FEDERAL RESERVE AND FDIC FINANCIAL STABILITY EFFORTS (AS OF 
                         APRIL 28, 2010) \1032\

      
---------------------------------------------------------------------------
    \1032\ Federal Reserve Liquidity Facilities include: Primary 
credit, Secondary credit, Central Bank Liquidity Swaps, Primary dealer 
and other broker-dealer credit, Asset-Backed Commercial Paper Money 
Market Mutual Fund Liquidity Facility, Net portfolio holdings of 
Commercial Paper Funding Facility LLC, Seasonal credit, Term auction 
credit, and Term Asset-Backed Securities Loan Facility. Federal Reserve 
Mortgage Related Facilities Include: Federal agency debt securities and 
Mortgage-backed securities held by the Federal Reserve. Institution 
Specific Facilities include: credit extended to American International 
Group, Inc., the preferred interests in AIA Aurora LLC and ALICO 
Holdings LLC, and the net portfolio holdings of Maiden Lanes I, II, and 
III. Federal Reserve Data Download Program, supra note 317. For related 
presentations of Federal Reserve data, see Board of Governors of the 
Federal Reserve System, Credit and Liquidity Programs and the Balance 
Sheet, at 2 (Nov. 2009) (online at www.federalreserve.gov/
monetarypolicy/files/monthlyclbsreport200911.pdf). The TLGP figure 
reflects the monthly amount of debt outstanding under the program. 
Federal Deposit Insurance Corporation, Monthly Reports on Debt Issuance 
Under the Temporary Liquidity Guarantee Program (Dec. 2008-Mar. 2010) 
(online at www.fdic.gov/regulations/resources/TLGP/reports.html). The 
total for the Term Asset-Backed Securities Loan Facility has been 
reduced by $20 billion throughout this exhibit in order to reflect 
Treasury's $20 billion first-loss position under the terms of this 
program.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


3. Total Financial Stability Resources (as of April 30, 2010)

    Beginning in its April 2009 report, the Panel broadly 
classified the resources that the federal government has 
devoted to stabilizing the economy through myriad new programs 
and initiatives such as outlays, loans, or guarantees. Although 
the Panel calculates the total value of these resources at 
nearly $3 trillion, this would translate into the ultimate 
``cost'' of the stabilization effort only if: (1) assets do not 
appreciate; (2) no dividends are received, no warrants are 
exercised, and no TARP funds are repaid; (3) all loans default 
and are written off; and (4) all guarantees are exercised and 
subsequently written off.
    With respect to the FDIC and Federal Reserve programs, the 
risk of loss varies significantly across the programs 
considered here, as do the mechanisms providing protection for 
the taxpayer against such risk. As discussed in the Panel's 
November report, the FDIC assesses a premium of up to 100 basis 
points on TLGP debt guarantees.\1033\ In contrast, the Federal 
Reserve's liquidity programs are generally available only to 
borrowers with good credit, and the loans are over-
collateralized and with recourse to other assets of the 
borrower. If the assets securing a Federal Reserve loan realize 
a decline in value greater than the ``haircut,'' the Federal 
Reserve is able to demand more collateral from the borrower. 
Similarly, should a borrower default on a recourse loan, the 
Federal Reserve can turn to the borrower's other assets to make 
the Federal Reserve whole. In this way, the risk to the 
taxpayer on recourse loans only materializes if the borrower 
enters bankruptcy. The only loan currently ``underwater''--
where the outstanding principal loan amount exceeds the current 
market value of the collateral--is the loan to Maiden Lane 
LLC,\1034\ which was formed to purchase certain Bear Stearns 
assets.
---------------------------------------------------------------------------
    \1033\ November Oversight Report, supra note 411, at 36.
    \1034\ Maiden Lane LLC is often referred to as Maiden Lane I, due 
to the later establishment of ML2 and ML3.

                 FIGURE 63: FEDERAL GOVERNMENT FINANCIAL STABILITY EFFORT (AS OF MAY 26, 2010) i
                                              [Dollars in billions]
----------------------------------------------------------------------------------------------------------------
                                                     Treasury         Federal
                     Program                          (TARP)          Reserve          FDIC            Total
----------------------------------------------------------------------------------------------------------------
Total...........................................          $698.7        $1,642.6          $670.4        $2,995.2
    Outlays ii..................................           271.4         1,316.3            69.4         1,630.6
    Loans.......................................            37.8           326.3               0           380.1
    Guarantees iii..............................              20               0             601             621
    Uncommitted TARP Funds......................           369.5               0               0           363.4
AIG iv..........................................            69.8            90.1               0           159.9
    Outlays.....................................          v 69.8         vi 25.4               0            95.2
    Loans.......................................               0        vii 64.7               0            64.7
    Guarantees..................................               0               0               0               0
Citigroup.......................................              25               0               0              25
    Outlays.....................................         viii 25               0               0              25
    Loans.......................................               0               0               0               0
    Guarantees..................................               0               0               0               0
Capital Purchase Program (Other)................            42.7               0               0            42.7
    Outlays.....................................         ix 42.7               0               0            42.7
    Loans.......................................               0               0               0               0
    Guarantees..................................               0               0               0               0
Capital Assistance Program......................             N/A               0               0           x N/A
TALF............................................              20             180               0             200
    Outlays.....................................               0               0               0               0
    Loans.......................................               0         xii 180               0             180
    Guarantees..................................           xi 20               0               0              20
PPIP (Loans) xiii...............................               0               0               0               0
    Outlays.....................................               0               0               0               0
    Loans.......................................               0               0               0               0
    Guarantees..................................               0               0               0               0
PPIP (Securities)...............................          xiv 30               0               0              30
    Outlays.....................................              10               0               0              10
    Loans.......................................              20               0               0              20
    Guarantees..................................               0               0               0               0
Home Affordable Modification Program............              50               0               0              50
    Outlays.....................................           xv 50               0               0              50
    Loans.......................................               0               0               0               0
    Guarantees..................................               0               0               0               0
Automotive Industry Financing Program...........        xvi 67.1               0               0            67.1
    Outlays.....................................            59.0               0               0            59.0
    Loans.......................................             8.1               0               0             8.1
    Guarantees..................................               0               0               0               0
Auto Supplier Support Program...................             3.5               0               0             3.5
    Outlays.....................................               0               0               0               0
    Loans.......................................        xvii 3.5               0               0             3.5
    Guarantees..................................               0               0               0               0
Unlocking SBA Lending...........................        xviii 15               0               0              15
    Outlays.....................................              15               0               0              15
    Loans.......................................               0               0               0               0
    Guarantees..................................               0               0               0               0
Community Development Capital Initiative........        xix 0.78               0               0            0.78
    Outlays.....................................               0               0               0               0
    Loans.......................................            0.78               0               0            0.78
    Guarantees..................................               0               0               0               0
Temporary Liquidity Guarantee Program...........               0               0             569             569
    Outlays.....................................               0               0               0               0
    Loans.......................................               0               0               0               0
    Guarantees..................................               0               0          xx 569             569
Deposit Insurance Fund..........................               0               0            69.4            69.4
    Outlays.....................................               0               0        xxi 69.4            69.4
    Loans.......................................               0               0               0               0
    Guarantees..................................               0               0               0               0
Other Federal Reserve Credit Expansion..........               0          1410.7               0          1410.7
    Outlays.....................................               0     xxii 1305.7               0          1305.7
    Loans.......................................               0       xxiii 105               0             105
    Guarantees..................................               0               0               0               0
Uncommitted TARP Funds..........................           374.8               0               0           374.8
----------------------------------------------------------------------------------------------------------------
i All data in this exhibit is as of May 26, 2010, except for information regarding the FDIC's Temporary
  Liquidity Guarantee Program (TLGP). This data is as of April 30, 2010.
ii The term ``outlays'' is used here to describe the use of Treasury funds under the TARP, which are broadly
  classifiable as purchases of debt or equity securities (e.g., debentures, preferred stock, exercised warrants,
  etc.). The outlays figures are based on: (1) Treasury's actual reported expenditures; and (2) Treasury's
  anticipated funding levels as estimated by a variety of sources, including Treasury pronouncements and GAO
  estimates. Anticipated funding levels are set at Treasury's discretion, have changed from initial
  announcements, and are subject to further change. Outlays used here represent investment and asset purchases
  and commitments to make investments and asset purchases and are not the same as budget outlays, which under
  section 123 of EESA are recorded on a ``credit reform'' basis.
iii Although many of the guarantees may never be exercised or exercised only partially, the guarantee figures
  included here represent the federal government's greatest possible financial exposure.
iv AIG received an $85 billion credit facility (reduced to $60 billion in November 2008 and then to $35 billion
  in December 2009 and then to $34 billion in May 2010) from FRBNY. A Treasury trust received Series C preferred
  convertible stock in exchange for the facility and $0.5 million. The Series C shares amount to 79.9 percent
  ownership of common stock, minus the percentage common shares acquired through warrants. In November 2008,
  Treasury received a warrant to purchase shares amounting to 2 percent ownership of AIG common stock in
  connection with its Series D stock purchase (exchanged for Series E noncumulative preferred shares on April
  17, 2009). Treasury also received a warrant to purchase 3,000 Series F common shares in May 2009. Warrants for
  Series D and Series F shares represent 2 percent equity ownership, and would convert Series C shares into 77.9
  percent of common stock. However, in May 2009, AIG carried out a 20:1 reverse stock split, which allows
  warrants held by Treasury to become convertible into 0.1 percent common equity. Therefore, the total benefit
  to Treasury would be a 79.8 percent voting majority in AIG in connection with its ownership of Series C
  convertible shares. Government Accountability Office, Troubled Asset Relief Program: Update of Government
  Assistance Provided to AIG (Apr. 2010) (GAO-10-475) (online at www.gao.gov/new.items/d10475.pdf). Additional
  information was also provided by Treasury in response to the Panel's inquiry.
v This number includes investments under the AIGIP/SSFI Program: $40 billion investment made on November 25,
  2008 and $30 billion investment committed on April 17, 2009 (less a reduction of $165 million, representing
  bonuses paid to AIGFP employees). As of March 31, 2010, AIG had utilized $47.5 billion of the available $69.8
  billion under the AIGIP/SSFI and owed $1.6 billion in unpaid dividends. This information was provided by
  Treasury in response to the Panel's inquiry.
vi As part of the restructuring of the U.S. government's investment in AIG announced on March 2, 2009, the
  amount available to AIG through the Revolving Credit Facility was reduced by $25 billion in exchange for
  preferred equity interests in two special purpose vehicles, AIA Aurora LLC and ALICO Holdings LLC. These SPVs
  were established to hold the common stock of two AIG subsidiaries: American International Assurance Company
  Ltd. (AIA) and American Life Insurance Company (ALICO). As of May 26, 2010, the book value of FRBNY's holdings
  in AIA Aurora LLC and ALICO Holdings LLC was $16 billion and $9 billion in preferred equity, respectively.
  Hence, the book value of these securities is $25 billion, which is reflected in the corresponding table.
  Federal Reserve Bank of New York, Factors Affecting Reserve Balances (H.4.1) (May 27, 2010) (online at
  www.federalreserve.gov/releases/h41/20100527/).
vii This number represents the full $34 billion that is available to AIG through the Revolving Credit Facility
  with FRBNY ($26.1 billion had been drawn down as of May 26, 2010), and the outstanding principal of the loans
  extended to the ML2 and ML3 SPVs to purchase AIG assets (as of May 26, 2010, $15 billion and $16 billion,
  respectively). The amounts outstanding under the ML2 and ML3 facilities do not reflect the accrued interest
  payable to FRBNY. Income from the purchased assets is used to pay down the loans made under ML2 and ML3,
  reducing the taxpayers' exposure to losses over time. Board of Governors of the Federal Reserve System,
  Federal Reserve System Monthly Report on Credit and Liquidity Programs and the Balance Sheet, at 17 (Oct.
  2009) (online at www.federalreserve.gov/monetarypolicy/files/monthlyclbsreport200910.pdf). On December 1,
  2009, AIG entered into an agreement with FRBNY to reduce the debt AIG owes the FRBNY by $25 billion. In
  exchange, FRBNY received preferred equity interests in two AIG subsidiaries. This also reduced the debt
  ceiling on the loan facility from $60 billion to $35 billion. American International Group, AIG Closes Two
  Transactions That Reduce Debt AIG Owes Federal Reserve Bank of New York by $25 billion (Dec. 1, 2009) (online
  at phx.corporate-ir.net/External.File?item=UGFyZW50SUQ9MjE4ODl8Q2hpbGRJRD0tMXxUeXBlPTM=&t=1). The maximum
  available amount from the credit facility was reduced from $34.1 billion to $34 billion on May 6, 2010, as a
  result of the sale of HighStar Port Partners, L.P. Board of Governors of the Federal Reserve System, Federal
  Reserve System Monthly Report on Credit and Liquidity Programs and the Balance Sheet, at 17 (May 2010) (online
  at www.federalreserve.gov/monetarypolicy/files/monthlyclbsreport201005.pdf).
viii On May 26, 2010, Treasury completed sales of 1.5 billion shares of Citigroup common stock for $6.1 billion
  in gross proceeds and $1.3 billion in net proceeds. U.S. Department of the Treasury, Troubled Asset Relief
  Program Transactions Report for Period Ending May 26, 2010, at 15 (May 28, 2010) (online at
  financialstability.gov/docs/transaction-reports/5-28-10%20Transactions%20Report%20as%20of%205-26-10.pdf).
ix This figure represents the $204.9 billion Treasury disbursed under the CPP, minus the $25 billion investment
  in Citigroup identified above, and the $137.3 billion in repayments that are reflected as available TARP
  funds. This figure does not account for future repayments of CPP investments, dividend payments from CPP
  investments, or losses under the program. U.S. Department of the Treasury, Troubled Asset Relief Program
  Transactions Report for Period Ending May 26, 2010 (May 28, 2010) (online at www.financialstability.gov/docs/
  transaction-reports/5-28-10%20Transactions%20Report%20as%20of%205-26-10.pdf).
x On November 9, 2009, Treasury announced the closing of the CAP and only one institution, GMAC, was in need of
  further capital from Treasury. GMAC, however, received further funding through the AIFP. Therefore, the Panel
  considers CAP unused and closed. U.S. Department of the Treasury, Treasury Announcement Regarding the Capital
  Assistance Program (Nov. 9, 2009) (online at www.financialstability.gov/latest/tg_11092009.html).
xi This figure represents a $20 billion allocation to the TALF SPV on March 3, 2009. However, as of May 26,
  2010, TALF LLC had drawn only $104 million of the available $20 billion. Board of Governors of the Federal
  Reserve System, Factors Affecting Reserve Balances (H.4.1) (May 27, 2010) (online at www.federalreserve.gov/
  releases/h41/20100527/); U.S. Department of the Treasury, Troubled Asset Relief Program Transactions Report
  for Period Ending May 26, 2010 (May 28, 2010) (online at www.financialstability.gov/docs/transaction-reports/5-
  28-10%20Transactions%20Report%20as%20of%205-26-10.pdf). As of June 2, 2010, investors had requested a total of
  $73.3 billion in TALF loans ($13.2 billion in CMBS and $60.1 billion in non-CMBS), and $71 billion in TALF
  loans had been settled ($12 billion in CMBS and $59 billion in non-CMBS). Federal Reserve Bank of New York,
  Term Asset-Backed Securities Loan Facility: CMBS (online at www.newyorkfed.org/markets/cmbs_operations.html)
  (accessed June 2, 2010); Federal Reserve Bank of New York, Term Asset-Backed Securities Loan Facility: non-
  CMBS (online at www.newyorkfed.org/markets/talf_operations.html) (accessed June 2, 2010).
xii This number is derived from the unofficial 1:10 ratio of the value of Treasury loan guarantees to the value
  of Federal Reserve loans under the TALF. U.S. Department of the Treasury, Fact Sheet: Financial Stability Plan
  (Feb. 10, 2009) (online at www.financialstability.gov/docs/fact-sheet.pdf) (describing the initial $20 billion
  Treasury contribution tied to $200 billion in Federal Reserve loans and announcing potential expansion to a
  $100 billion Treasury contribution tied to $1 trillion in Federal Reserve loans). Because Treasury is
  responsible for reimbursing the Federal Reserve for $20 billion of losses on its $200 billion in loans, the
  Federal Reserve's maximum potential exposure under the TALF is $180 billion.
xiii It is unlikely that resources will be expended under the PPIP Legacy Loans Program in its original design
  as a joint Treasury-FDIC program to purchase troubled assets from solvent banks. See also Federal Deposit
  Insurance Corporation, FDIC Statement on the Status of the Legacy Loans Program (June 3, 2009) (online at
  www.fdic.gov/news/news/press/2009/pr09084.html); Federal Deposit Insurance Corporation, Legacy Loans Program--
  Test of Funding Mechanism (July 31, 2009) (online at www.fdic.gov/news/news/press/2009/pr09131.html). The
  sales described in these statements do not involve any Treasury participation, and FDIC activity is accounted
  for here as a component of the FDIC's Deposit Insurance Fund outlays.
xiv As of February 25, 2010, Treasury reported commitments of $19.9 billion in loans and $9.9 billion in
  membership interest associated with the program. On January 4, 2010, Treasury and one of the nine fund
  managers, TCW Senior Management Securities Fund, L.P., entered into a ``Winding-Up and Liquidation
  Agreement.'' U.S. Department of the Treasury, Troubled Asset Relief Program Transactions Report for Period
  Ending May 26, 2010 (May 28, 2010) (online at www.financialstability.gov/docs/transaction-reports/5-28-
  10%20Transactions%20Report%20as%20of%205-26-10.pdf).
xv Of the $50 billion in announced TARP funding for this program, $39.8 billion has been allocated as of May 26,
  2010. However, as of February 2010, only $187.8 million in non-GSE payments have been disbursed under HAMP.
  Disbursement information provided by Treasury in response to the Panel's inquiry. U.S. Department of the
  Treasury, Troubled Asset Relief Program Transactions Report for Period Ending May 26, 2010 (May 28, 2010)
  (online at www.financialstability.gov/docs/transaction-reports/5-28-10%20Transactions%20Report%20as%20of%205-
  26-10.pdf).
xvi A substantial portion of the total $81.3 billion in loans extended under the AIFP have since been converted
  to common equity and preferred shares in restructured companies. $8.1 billion has been retained as first lien
  debt (with $1 billion committed to old GM, and $7.1 billion to Chrysler). This figure ($67.1 billion)
  represents Treasury's current obligation under the AIFP after repayments.
xvii U.S. Department of the Treasury, Troubled Asset Relief Program Transactions Report for Period Ending May
  26, 2010 (May 28, 2010) (online at www.financialstability.gov/docs/transaction-reports/5-28-
  10%20Transactions%20Report%20as%20of%205-26-10.pdf).
xviii U.S. Department of Treasury, Fact Sheet: Unlocking Credit for Small Businesses (Apr. 26, 2010) (online at
  www.financialstability.gov/roadtostability/unlockingCreditforSmallBusinesses.html) (``Jumpstart Credit Markets
  For Small Businesses By Purchasing Up to $15 Billion in Securities'').
xix This information was provided by Treasury in response to the Panel's inquiry.
xx This figure represents the current maximum aggregate debt guarantees that could be made under the program,
  which is a function of the number and size of individual financial institutions. $305.4 billion of debt
  subject to the guarantee is currently outstanding, which represents approximately 53.7 percent of the current
  cap. Federal Deposit Insurance Corporation, Monthly Reports on Debt Issuance Under the Temporary Liquidity
  Guarantee Program: Debt Issuance Under Guarantee Program (Apr. 30, 2010) (online at www.fdic.gov/regulations/
  resources/TLGP/total_issuance04-10.html). The FDIC has collected $10.4 billion in fees and surcharges from
  this program since its inception in the fourth quarter of 2008. Federal Deposit Insurance Corporation, Monthly
  Reports Related to the Temporary Liquidity Guarantee Program (Apr. 30, 2010) (online at www.fdic.gov/
  regulations/resources/tlgp/fees.html).
xxi This figure represents the FDIC's provision for losses to its deposit insurance fund attributable to bank
  failures in the third and fourth quarters of 2008, and the first, second, and third quarters of 2009. Federal
  Deposit Insurance Corporation, Chief Financial Officer's (CFO) Report to the Board: DIF Income Statement
  (Fourth Quarter 2008) (online at www.fdic.gov/about/strategic/corporate/cfo_report_4qtr_08/income.html);
  Federal Deposit Insurance Corporation, Chief Financial Officer's (CFO) Report to the Board: DIF Income
  Statement (Third Quarter 2008) (online at www.fdic.gov/about/strategic/corporate/cfo_report_3rdqtr_08/
  income.html); Federal Deposit Insurance Corporation, Chief Financial Officer's (CFO) Report to the Board: DIF
  Income Statement (First Quarter 2009) (online at www.fdic.gov/about/strategic/corporate/cfo_report_1stqtr_09/
  income.html); Federal Deposit Insurance Corporation, Chief Financial Officer's (CFO) Report to the Board: DIF
  Income Statement (Second Quarter 2009) (online at www.fdic.gov/about/strategic/corporate/cfo_report_2ndqtr_09/
  income.html); Federal Deposit Insurance Corporation, Chief Financial Officer's (CFO) Report to the Board: DIF
  Income Statement (Third Quarter 2009) (online at www.fdic.gov/about/strategic/corporate/cfo_report_3rdqtr_09/
  income.html). This figure includes the FDIC's estimates of its future losses under loss-sharing agreements
  that it has entered into with banks acquiring assets of insolvent banks during these five quarters. Under a
  loss-sharing agreement, as a condition of an acquiring bank's agreement to purchase the assets of an insolvent
  bank, the FDIC typically agrees to cover 80 percent of an acquiring bank's future losses on an initial portion
  of these assets and 95 percent of losses of another portion of assets. See, e.g., Federal Deposit Insurance
  Corporation, Purchase and Assumption Agreement Among FDIC, Receiver of Guaranty Bank, Austin, Texas, FDIC and
  Compass Bank, at 65-66 (Aug. 21, 2009) (online at www.fdic.gov/bank/individual/failed/guaranty-
  tx_p_and_a_w_addendum.pdf). In information provided to Panel staff, the FDIC disclosed that there were
  approximately $132 billion in assets covered under loss-sharing agreements as of December 18, 2009.
  Furthermore, the FDIC estimates the total cost of a payout under these agreements to be $59.3 billion. Since
  there is a published loss estimate for these agreements, the Panel continues to reflect them as outlays rather
  than as guarantees.
xxii Outlays are comprised of the Federal Reserve Mortgage Related Facilities and the preferred equity holdings
  in AIA Aurora LLC and ALICO Holdings LLC. The Federal Reserve's balance sheet accounts for these facilities
  under Federal agency debt securities, mortgage-backed securities held by the Federal Reserve, and the
  preferred interests in AIA Aurora LLC and ALICO Holdings LLC. Board of Governors of the Federal Reserve
  System, Factors Affecting Reserve Balances (H.4.1) (online at www.federalreserve.gov/datadownload/
  Choose.aspx?rel=H41) (accessed June 2, 2010). Although the Federal Reserve does not employ the outlays, loans,
  and guarantees classification, its accounting clearly separates its mortgage-related purchasing programs from
  its liquidity programs. See Board of Governors of the Federal Reserve, Federal Reserve System Monthly Report
  on Credit and Liquidity Programs and the Balance Sheet, at 2 (Nov. 2009) (online at www.federalreserve.gov/
  monetarypolicy/files/monthlyclbsreport200911.pdf).
On September 7, 2008, Treasury announced the GSE Mortgage Backed Securities Purchase Program (Treasury MBS
  Purchase Program). The Housing and Economic Recovery Act of 2008 provided Treasury with the authority to
  purchase Government Sponsored Enterprise (GSE) MBS. Under this program, Treasury purchased approximately
  $214.4 billion in GSE MBS before the program ended on December 31, 2009. As of May 2010, there was $174.5
  billion outstanding under this program. U.S. Department of the Treasury, MBS Purchase Program: Portfolio by
  Month (online at www.financialstability.gov/docs/May%202010%20Portfolio%20by%20month.pdf) (accessed June 2,
  2010). Treasury has received $45.9 billion in principal repayments and $11.1 billion in interest payments from
  these securities. U.S. Department of the Treasury, MBS Purchase Program Principal and Interest (online at
  www.financialstability.gov/docs/May%202010%20MBS%20Principal%20and%20Interest%20Monthly%20Breakout.pdf)
  (accessed June 2, 2010).
xxiii Federal Reserve Liquidity Facilities classified in this table as loans include: Primary credit, Secondary
  credit, Central bank liquidity swaps, Primary dealer and other broker-dealer credit, Asset-Backed Commercial
  Paper Money Market Mutual Fund Liquidity Facility, Net portfolio holdings of Commercial Paper Funding Facility
  LLC, Seasonal credit, Term auction credit, Term Asset-Backed Securities Loan Facility, and loans outstanding
  to Bear Stearns (Maiden Lane I LLC). Board of Governors of the Federal Reserve System, Factors Affecting
  Reserve Balances (H.4.1) (online at www.federalreserve.gov/datadownload/Choose.aspx?rel=H41) (accessed June 2,
  2010).

                   SECTION FIVE: OVERSIGHT ACTIVITIES

    The Congressional Oversight Panel was established as part 
of the Emergency Economic Stabilization Act of 2008 (EESA) and 
formed on November 26, 2008. Since then, the Panel has produced 
eighteen oversight reports, as well as a special report on 
regulatory reform, issued on January 29, 2009, and a special 
report on farm credit, issued on July 21, 2009. Since the 
release of the Panel's May oversight report, which assessed the 
credit crunch facing the nation's small businesses and 
Treasury's ongoing efforts to spur lending to that sector of 
the economy, the following developments pertaining to the 
Panel's oversight of the TARP took place:
     The Panel held a hearing in Washington, DC on May 
26, 2010, to discuss the financial assistance provided to AIG 
under the TARP and other financial stability programs. The 
Panel heard testimony from both current and former AIG 
executives, policymakers and regulators in charge at the time 
of the government's initial rescue of the company, the official 
from Treasury in charge of monitoring the company's current 
government-held assets, as well as other analysts with insight 
regarding the company's current financial health. A video 
recording of the hearing, the written testimony from the 
hearing witnesses, and Panel Members' opening statements all 
can be found online at cop.senate.gov/hearings.

Upcoming Reports and Hearings

    The Panel will release its next oversight report in July 
2010. The report will focus on financial assistance provided to 
small- and medium-sized banks under the CPP, discussing, among 
other things, a full accounting of the investments made in 
small banks under the program, the restrictions on and 
expectations of banks that have received financial assistance, 
and Treasury's plan for managing and ultimately divesting its 
portfolio of investments in these banks.
    The Panel is planning a hearing in Washington on June 22, 
2010, with Treasury Secretary Timothy Geithner. The Panel will 
seek to get a general update from the Secretary on the current 
status and future direction of TARP. This will be Secretary 
Geithner's fourth appearance before the Panel.
          SECTION SIX: ABOUT THE CONGRESSIONAL OVERSIGHT PANEL

    In response to the escalating financial crisis, on October 
3, 2008, Congress provided Treasury with the authority to spend 
$700 billion to stabilize the U.S. economy, preserve home 
ownership, and promote economic growth. Congress created the 
Office of Financial Stability (OFS) within Treasury to 
implement the TARP. At the same time, Congress created the 
Congressional Oversight Panel to ``review the current state of 
financial markets and the regulatory system.'' The Panel is 
empowered to hold hearings, review official data, and write 
reports on actions taken by Treasury and financial institutions 
and their effect on the economy. Through regular reports, the 
Panel must oversee Treasury's actions, assess the impact of 
spending to stabilize the economy, evaluate market 
transparency, ensure effective foreclosure mitigation efforts, 
and guarantee that Treasury's actions are in the best interests 
of the American people. In addition, Congress instructed the 
Panel to produce a special report on regulatory reform that 
analyzes ``the current state of the regulatory system and its 
effectiveness at overseeing the participants in the financial 
system and protecting consumers.'' The Panel issued this report 
in January 2009. Congress subsequently expanded the Panel's 
mandate by directing it to produce a special report on the 
availability of credit in the agricultural sector. The report 
was issued on July 21, 2009.
    On November 14, 2008, Senate Majority Leader Harry Reid and 
the Speaker of the House Nancy Pelosi appointed Richard H. 
Neiman, Superintendent of Banks for the State of New York, 
Damon Silvers, Director of Policy and Special Counsel of the 
American Federation of Labor and Congress of Industrial 
Organizations (AFL-CIO), and Elizabeth Warren, Leo Gottlieb 
Professor of Law at Harvard Law School, to the Panel. With the 
appointment on November 19, 2008, of Congressman Jeb Hensarling 
to the Panel by House Minority Leader John Boehner, the Panel 
had a quorum and met for the first time on November 26, 2008, 
electing Professor Warren as its chair. On December 16, 2008, 
Senate Minority Leader Mitch McConnell named Senator John E. 
Sununu to the Panel. Effective August 10, 2009, Senator Sununu 
resigned from the Panel, and on August 20, 2009, Senator 
McConnell announced the appointment of Paul Atkins, former 
Commissioner of the U.S. Securities and Exchange Commission, to 
fill the vacant seat. Effective December 9, 2009, Congressman 
Jeb Hensarling resigned from the Panel and House Minority 
Leader John Boehner announced the appointment of J. Mark 
McWatters to fill the vacant seat. Senate Minority Leader Mitch 
McConnell appointed Kenneth Troske, Sturgill Professor of 
Economics at the University of Kentucky, to fill the vacancy 
created by the resignation of Paul Atkins on May 21, 2010.

Acknowledgements

    The Panel wishes to thank the numerous insurance 
specialists, analysts, academics, auditors, investors, and 
other experts for their insight and assistance. The Panel also 
thanks Professor Susan Koniak for her assistance in reading the 
report.
 APPENDIX I: LETTER TO CHAIR ELIZABETH WARREN FROM ASSISTANT SECRETARY 
        HERB ALLISON, RE: GM LOAN REPAYMENT, DATED MAY 18, 2010


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APPENDIX II: LETTER TO SENATOR CHARLES GRASSLEY FROM SECRETARY TIMOTHY 
         GEITHNER, RE: GM LOAN REPAYMENT, DATED APRIL 27, 2010


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APPENDIX III: LETTER TO REPRESENTATIVES PAUL RYAN, JEB HENSARLING, AND 
 SCOTT GARRETT FROM SECRETARY TIMOTHY GEITHNER, RE: GM LOAN REPAYMENT, 
                          DATED APRIL 30, 2010


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