Does the Fed Own AIG?

Does the Federal Reserve's $85 billion bail-out of insurance giant AIG constitute nationalization? According to the Fed's official statement, the answer is "no." But that could just be because Section 13(3) of the Federal Reserve Act only allows the Fed to make loans, not own companies. The Fed used this Act to allow it to provide a two-year loan to AIG to prevent bankruptcy, which the Fed said "could add to already significant levels of financial market fragility..."

In return, the government gets 79.9% of AIG's equity. It also gets to replace management (which it already has) and has veto power over all important decisions, including asset sales and payment of dividends.

The plan is to break up AIG and sell off the pieces to repay the loan. If the plan works, the loan will be repaid through sales of the assets. If the plan works really well, then the stock price will go up.

Of course, if the plan doesn't work, and the stock price plummets further and the assets aren't enough to pay off the loan, then the government is out some portion of $85 million. (Source: The Economist, A Lifeline for AIG, September 17, 2008)

If that's not ownership, then it's an ownership clone.

What It Means to You

The bailout occurred one day after U.S. Treasury Secretary Henry Paulson said no to further Wall Street bailouts, allowing Lehman Brothers to go bankrupt. It came one week after the government took over Fannie Mae and Freddie Mac and six months after the Fed bailed out Bear Stearns. Evidently, there is an unspoken cut-off point between companies that are too large to fail and those that aren't.

However, Paulson and Federal Reserve Chairman Ben Bernanke need to let the financial community know what their standards are. Otherwise, they will be inundated with banks who want to be rescued for making bad decisions during the Subprime Mortgage Crisis. (Source: The Reuters After AIG rescue, Fed may find more at its door, September 17, 2008)

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