Economics,_A.I.G

Financial Crisis AIG to blame' After AIG got bailed out an argument on whether or not it was necessary started to spark up, mainly coming from the American tax payers upset that their hard earned money was going to a company that help put many of the problems that the U.S was facing. Although the taxpayers had the right to be mad, the bailout that A.I.G received was more then necessary, America could have went into a full-blown depression if its largest insurance company went under, North America wouldn’t be the only place to be hurt if AI.G went bankrupt, many company’s in Europe would have been drastically hit and more then likely go bankrupt as well. To understand why the bail out was so necessary, you would first need to understand how the largest insurance company in North America almost went bankrupt. The two key terms that are said a lot when talking about A.I.G and the “housing bubble” are regulatory arbitrage and ratings arbitrage, more commonly know as taking advantage of some kind of loophole. As a World wide multinational insurance company with a reputation for being particularly well-run, A.I.G had a triple-A credit rating, the highest honor a business could have and only obtained by less than a dozen companies. This rating if obtained was believed to have close to zero chance of defaulting, and could get loans much easier and cheaper then competitor company’s with lower ratings. A.I.G exploited their triple-A rating by backing all of the mortgages, so it looked as if all of the bad sub-prime mortgages had a triple-A rating, but doing this shifted all of the risk from the banks onto A.I.G, in return A.I.G thought they were getting risk-free money and would never have to actually pay up. When a company insures against a flood or an earthquake it puts aside money in case the said risk does take place, but what hurt them badly was that they were so sure that the triple-A mortgages would never default they never put any money aside at all for them, when losses started coming in they had no way of paying it all off. One department alone was to blame for most of the losses AIG Financial Products (AIG FP), alone stacked up $40 billion in losses related to its dealings in complex mortgage bond derivatives. The second thing that AIG did was something called “collateral triggers” meaning if AIG were to ever be downgraded it would have to put up collateral against the billions in mortgage-backed securities it was insuring. They a agreed because it could get them a higher fee, and once again believed that it would never happen, and ended up costing them billions of dollars. The collateral triggers made the banks portfolios look risk-free to everyone, which every bank wanted so they would have minimal capital requirements, which in turn meant they could increase their leverage and buy ever more “risk-free” assets. AIG was buying mortgage-backed securities and credit default swaps left and right thinking that they would never default and have to pay up. AIG has become to important to just let fail, if the company defaulted, hundreds of billions of dollars worth of credit default swaps would detonate, and they European banks that are pretending their bad assets are insured by AIG would turn into huge losses for many banks. AIG helped generate the fantasy of regulatory capital with its swaps, and now the government doesn’t really have a choice they have to back up AIG with taxpayer’s money or the results could be deadly. It seems as the U.S. government keeps feeding AIG more and more money every year, not knowing for sure if they can ever pay them back fully. AIG has received about $182 billion dollars now, $45.1 of which went to European banks right away. One of the agreements to the bailout was that the U.S government would get 79.9 per cent equity of the company’s. When I say that the bailout was necessary I really do mean it, the collapse of AIG could set off a chain reaction around the world because the global economy so tightly linked that problems in the U.S. real estate market could help bring down Icelandic banks, European banks, American banks, and Asian manufacturers. AIG seems to be doing its best to turn the company around and staying on track to pay back the government, although a legal binding mandatory bonus payout to executives was set before all of the finical crises, about $175 million was used from the bailout money as bonus to executives. This was just yet another blow to the public image of AIG, which has been greatly tarnished since the rescission. They have gone so far as to change the name of AIG Canada to “Chartis” the Canadian branch wasn’t as badly hit compared to the U.S, with many of the profitable division being sold off to Canadian banks. AIG has a long way to go before business will be back to normal, it still has some of the most competitive premiums and pricing in the insurance industry right now, but I think that could just be penetration pricing. The real question is how much more money will the American government give to AIG at this rate the American government is going to fully own AIG soon enough, but time will only tell.