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entitled 'Federal Financial Assistance: Preliminary Observations on 
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Testimony: 

Before the Subcommittee on Capital Markets, Insurance, and Government 
Sponsored Enterprises, House Committee on Financial Services: 

United States Government Accountability Office: 
GAO: 

For Release on Delivery: 
Expected at 10:00 a.m. EDT:
Wednesday, March 18, 2009: 

Federal Financial Assistance: 

Preliminary Observations on Assistance Provided to AIG: 

Statement of Orice M. Williams, Director: 
Financial Markets and Community Investment: 

GAO-09-490T: 

GAO Highlights: 

Highlights of GAO-09-490T, a testimony to Subcommittee on Capital 
Markets, Insurance, and Government Sponsored Enterprises, Committee on 
Financial Services, House of Representatives. 

Why GAO Did This Study: 

The Board of Governors of the Federal Reserve System (Federal Reserve) 
and the Department of the Treasury (Treasury) have made available over 
$182 billion in assistance to American International Group (AIG) to 
prevent its failure. However, questions have been raised about the 
goals of the assistance and how it is being monitored. Also, because 
AIG is generally known for its insurance operations, questions exist 
about the effect of the assistance on certain insurance markets. 

This statement provides preliminary findings on (1) the goals and 
monitoring of federal assistance to AIG and challenges to AIG’s 
repayment of the assistance; and (2) the potential effects of the 
federal assistance on the U.S. commercial property/casualty insurance 
market. GAO’s work on these issues is ongoing. To date, we have 
reviewed relevant documents on the assistance and ongoing operations of 
AIG, as well as documents issued by the Federal Reserve and Treasury. 
We also interviewed officials from these organizations as well as 
industry participants (competitors, brokers, and customers) and 
insurance regulators, among others. 

What GAO Found: 

Federal financial assistance to AIG, both from the Federal Reserve and 
Federal Reserve Bank of New York through their authority to lend funds 
to critical nonbank institutions and from Treasury’s Troubled Asset 
Relief Program (TARP), has focused on preventing systemic risk that 
could result from a rating downgrade or failure of AIG. The goal of the 
assistance and subsequent restructurings was to prevent systemic risk 
from the failure of AIG by allowing AIG to sell assets and restructure 
its operations in an orderly manner. The Federal Reserve has been 
monitoring AIG’s operations since September, and Treasury has begun to 
more actively monitor AIG’s operations as well. Although the ongoing 
federal assistance has prevented further downgrades in AIG’s credit 
rating, AIG has had mixed success in fulfilling its other restructuring 
plans, such as terminating its securities lending program, selling 
assets, and unwinding its AIG Financial Products portfolio. For 
example, AIG has made efforts at selling certain business units and has 
begun an overall restructuring, but market and other conditions have 
prevented significant asset sales, and most restructuring efforts are 
still under way. AIG faces ongoing challenges from the continued 
overall economic deterioration and tight credit markets. AIG’s ability 
to repay its obligations to the federal government has also been 
impaired by its deteriorating operations, inability to sell its assets 
and further declines in its assets. All of these issues will continue 
to adversely impact AIG’s ability to repay its government assistance. 

As part of GAO’s ongoing work related to the federal assistance 
provided to AIG, GAO is reviewing the potential impact of the 
assistance on the commercial property/casualty insurance market. 
Specifically, GAO is reviewing potential effects of the assistance on 
AIG’s pricing practices. According to some of AIG’s competitors, 
federal assistance to AIG has allowed AIG’s commercial 
property/casualty insurance companies to offer coverage at prices that 
are inadequate for the risk involved. Conversely, state insurance 
regulators, insurance brokers, and insurance buyers said that while AIG 
may be pricing somewhat more aggressively than in the past in order to 
retain business in light of damage to the parent company’s reputation, 
they did not see indications that this pricing was inadequate or out of 
line with previous AIG pricing practices. Moreover, some have noted 
that AIG has lost business because of the problems encountered by its 
parent company. As GAO evaluates these issues, it faces a number of 
challenges associated with determining the adequacy of commercial 
property/casualty premium rates, especially in the short term. These 
challenges include the unique, negotiated nature of many commercial 
insurance policies, the subjective assumptions involved in determining 
premiums, and the fact that for some lines of commercial insurance it 
can take several years to determine if premiums charged were adequate 
for the related losses. 

View [hyperlink, http://www.gao.gov/products/GAO-09-490T] or key 
components. For more information, contact Orice M. Williams at (202) 
512-86785555 or williamso@gao.gov. 

[End of section] 

Mr. Chairman and Members of the Subcommittee: 

I appreciate the opportunity to participate in today's hearing to 
provide preliminary observations on the federal government's assistance 
to the American International Group (AIG)--a large financial 
conglomerate with an estimated 70 U.S. insurance companies--and the 
potential impact of this assistance on U.S. insurance markets, 
especially the commercial property/casualty insurance market.[Footnote 
1] As you know, the Board of Governors of the Federal Reserve System 
(Federal Reserve) and the Federal Reserve Bank of New York (FRBNY) 
provided assistance to AIG in September 2008 following its rating 
downgrade, which had prompted collateral calls by its counterparties 
and raised concerns that a rapid failure of the company would further 
destabilize financial markets. However, AIG's condition continued to 
decline, and in November 2008 the Federal Reserve and the Department of 
the Treasury (Treasury) under the newly created Troubled Asset Relief 
Program (TARP) announced plans to restructure AIG's federal assistance 
to further strengthen its financial condition and, once again, prevent 
the failure of the company. On March 2, 2009, the Federal Reserve and 
Treasury provided additional assistance and further restructured the 
terms, which raised questions about the ongoing viability of the 
company and the likelihood that the federal assistance could be repaid. 

The assistance provided to AIG has also raised questions among AIG's 
competitors about whether the assistance provided to AIG's parent 
company is being used to benefit its insurance companies. AIG's 
competitors have argued that the assistance has allowed AIG's insurance 
companies to price coverage aggressively compared to the premiums being 
charged by the rest of the market, thereby providing AIG with a 
competitive advantage, particularly in commercial property/casualty 
insurance markets. 

My statement today focuses on the preliminary results of our ongoing 
review of the federal financial assistance to AIG and its impact on the 
U.S. property/casualty insurance market, initiated at the request of 
Ranking Member Bachus (full committee) and Chairman Kanjorski 
(subcommittee). Specifically, I will discuss (1) the goals and 
monitoring of the federal government's assistance to AIG, the 
associated setbacks, and challenges to AIG's repayment of this 
assistance and (2) the potential effects of this federal assistance to 
AIG on the U.S. insurance market, especially the commercial property/ 
casualty market. 

To achieve these objectives, we analyzed publicly available reports, 
congressional testimonies, and other documentation issued by the 
Federal Reserve, FRBNY, Treasury, Securities and Exchange Commission, 
Congressional Research Service, and rating agencies. We also conducted 
numerous interviews with officials and staff from the Federal Reserve, 
FRBNY, Treasury, three state insurance regulators with major roles in 
regulating AIG's insurance companies, the National Association of 
Insurance Commissioners (NAIC), five insurance brokers, four large 
commercial property/casualty insurers that compete with AIG, two 
reinsurers, three rating agencies, two industry observers, and an 
association representing purchasers of commercial property/casualty 
insurance. Finally, we consulted with a group of actuaries to discuss 
our methodology, bolster our understanding of insurance markets, and 
evaluate what we heard from others. 

We conducted our work from January 2009 to March 2009, in accordance 
with all sections of GAO's Quality Assurance Framework that are 
relevant to our objectives. The framework requires that we plan and 
perform the engagement to obtain sufficient and appropriate evidence to 
meet our stated objectives and discuss any limitations in our work. We 
believe that the information and data obtained, and the analysis 
conducted, provide a reasonable basis for our preliminary findings and 
conclusions. 

Summary: 

Federal financial assistance to AIG, both from the Federal Reserve and 
FRBNY through their authority to lend funds to critical non-bank 
entities in certain circumstances and from Treasury's TARP, has focused 
on preventing the systemic risk that could result from a failure or 
further rating downgrade at AIG. The goal of the initial assistance and 
subsequent restructurings was to prevent systemic risk from the failure 
of AIG by allowing AIG to sell assets and restructure its operations in 
an orderly manner. The Federal Reserve has been monitoring AIG's 
operations since September, and Treasury will more actively monitor 
AIG's operations as well. Although the ongoing federal assistance has 
prevented further downgrades in AIG's credit rating, AIG has had mixed 
success in fulfilling its other restructuring plans, such as 
terminating its securities lending program, selling assets, and 
unwinding its AIG Financial Products (AIGFP) portfolio. For example, 
AIG has made efforts at selling certain business units and has begun an 
overall restructuring, but market and other conditions have prevented 
significant asset sales, and most restructuring efforts are still under 
way. AIG faces ongoing challenges from the continued overall economic 
deterioration and tight credit markets. AIG's ability to repay its 
obligations to the federal government has also been impaired by its 
deteriorating operations, inability to sell its assets and further 
declines in its assets. All of these issues will continue to adversely 
impact AIG's ability to repay its government assistance. Table 1 
provides an overview of the total federal investment in AIG of $182.5 
billion as of March 2, 2009. 

Table 1: Amounts of AIG Federal Assistance Used and Authorized as of 
March 2, 2009: 

Federal Reserve Bank of New York (FRBNY): 

Date Program Announced: Program Title: 
September 2008; 
Revolving Credit Facility; 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): $41,969[A,F]; 
Total Amount Authorized (dollars in millions): Federal Reserve Bank of 
New York (FRBNY): $60,000[B,D]; 
Transaction Details: Federal Reserve Bank of New York (FRBNY): 
Revolving loan for the general corporate purposes of AIG and its 
subsidiaries, and to pay obligations as they come due. In September 
this comment was $85 billion but was reduced to $60 billion. By the end 
of the March 2009 the amount will be reduced to no less than $25 
billion. 

Date Program Announced: Program Title: 
November 2008; 
Maiden Lane II LLC; 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): $19,500; 
Total Amount Authorized (dollars in millions): Federal Reserve Bank of 
New York (FRBNY): $22,500; 
Transaction Details: Federal Reserve Bank of New York (FRBNY): FRBNY 
extended credit to Maiden Lane II to purchase residential mortgage- 
backed securities from the U.S. securities lending portfolio of AIG 
subsidiaries. 

Date Program Announced: Program Title: 
November 2008; 
Maiden Lane III LLC; 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): $24,300; 
Total Amount Authorized (dollars in millions): Federal Reserve Bank of 
New York (FRBNY): $30,000; 
Transaction Details: Federal Reserve Bank of New York (FRBNY): FRBNY 
extended credit to Maiden Lane III to purchase multi-sector 
collateralized debt obligations on which AIG Financial Products had 
written credit default swaps. 

Date Program Announced: Program Title: 
March 2009; 
Securitization of domestic life insurance cash flows; 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): 0; 
Total Amount Authorized (dollars in millions): Federal Reserve Bank of 
New York (FRBNY): ($8,500)[C]; 
Transaction Details: Federal Reserve Bank of New York (FRBNY): FRBNY 
loan to special purpose vehicles (SPVs) established by domestic life 
insurance subsidiaries of AIG. The SPVs would repay the loans from the 
net cash flows they receive from designated blocks of existing life 
insurance policies held by the parent insurance companies. 

Date Program Announced: Program Title: 
March 2009; 
Preferred stock in foreign life companies; 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): [Empty]; Total Amount Authorized (dollars in millions): 
Federal Reserve Bank of New York (FRBNY): ($26,000)[D]; 
Transaction Details: Federal Reserve Bank of New York (FRBNY): 
Preferred interests in two SPVs created to hold all of the outstanding 
common stock of two life insurance holding company subsidiaries of AIG. 

U.S. Treasury Department[E]: 

Date Program Announced: Program Title: 
November 2008; 
Series D Preferred Stock; 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): $40,000[F]; 
Total Amount Authorized (dollars in millions): Federal Reserve Bank of 
New York (FRBNY): $40,000; 
Transaction Details: Federal Reserve Bank of New York (FRBNY): AIG 
issued Series D preferred stock to Treasury and proceeds of $40 billion 
were used to pay down AIG's Revolving Credit Facility balance. 

Date Program Announced: Program Title: 
March 2009; 
Equity Capital Facility[G]; 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): [Empty]; 
Total Amount Authorized (dollars in millions): Federal Reserve Bank of 
New York (FRBNY): $30,000; 
Transaction Details: Federal Reserve Bank of New York (FRBNY): This 
facility will be available for AIG to draw down cash as needed over 
time in exchange for non-cumulative preferred stock to the U.S. 
Treasury. 

Credit Facility Trust: 

Date Program Announced: Program Title: 
September 2008; 
Series C Preferred Stock; 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): $0.5; 
Total Amount Authorized (dollars in millions): Federal Reserve Bank of 
New York (FRBNY): [Empty]; 
Transaction Details: Federal Reserve Bank of New York (FRBNY): Shares 
of convertible preferred stock representing an approximately 77.9 
percent equity interest in AIG. 

Total: 
Amount Borrowed/Used (dollars in millions): Federal Reserve Bank of New 
York (FRBNY): $125,770[H]; 
Total Amount Authorized (dollars in millions): Federal Reserve Bank of 
New York (FRBNY): $182,500. 

Source: Federal Reserve, Treasury, and AIG data. 

Notes: 

[A] The debt outstanding in the Revolving Credit Facility includes 
accrued interest and has been reduced by the $40 billion AIG received 
from issuing preferred stock to Treasury. 

[B] The Revolving Credit Facility was initially authorized for up to 
$85 billion but was reduced to $60 billion in conjunction with the $40 
billion paydown of the outstanding debt. The amount of this facility 
will be reduced to no less than $25 billion by the end of March 2009 
based on the terms of the March 2 restructuring (see notes c and d). 

[C] The proceeds from the new loans to SPVs established by domestic 
life insurance subsidiaries of AIG will be used to pay down an 
equivalent amount of outstanding debt under the Revolving Credit 
Facility up to an aggregate of about $8.5 billion. Therefore, this 
amount does not affect total authorized amount outstanding. 

[D] The revolving credit facility is to be reduced by up to about $26 
billion in exchange for preferred interest in two SPVs created to hold 
all of the outstanding common stock of two life insurance holding 
company subsidiaries of AIG. Therefore, this amount does not affect 
total authorized amount outstanding. 

[E] Treasury provided the assistance under the Troubled Asset Relief 
Program's (TARP) Systemically Significant Failing Institutions (SSFI) 
Program. 

[F] The $40 billion was used to reduce the outstanding amount of the 
Revolving Credit Facility. The outstanding amount of $42 billion 
reflects that reduction. As announced in the March 2, 2009 
restructuring plan, the Treasury will exchange its existing $40 billion 
cumulative perpetual preferred shares for new preferred shares with 
revised terms that more closely resemble common equity. 

[G] As of March 16, 2009, Treasury was still in the process of 
finalizing the terms of this facility. 

[H] This excludes the $14 billion obtained from the Commercial Paper 
Lending Facility. 

[End of table] 

As part of our ongoing work on AIG, we are reviewing the potential 
impact of AIG's federal assistance on the commercial property/casualty 
insurance market. Specifically, we are reviewing potential effects on 
AIG's pricing practices. According to some of AIG's competitors, 
federal assistance to AIG has allowed AIG's commercial property/ 
casualty insurance companies to offer coverage at prices that are 
inadequate for the risk involved. Conversely, state insurance 
regulators, insurance brokers, and insurance buyers said that while AIG 
may be pricing somewhat more aggressively than in the past in order to 
retain business in light of damage to the parent company's reputation, 
they did not see indications that this pricing was inadequate or out of 
line with previous AIG pricing practices. Moreover, some have noted 
that AIG has lost business because of the problems encountered by the 
parent company. As we evaluate these issues, we face a number of 
challenges associated with determining the adequacy of commercial 
property/casualty premium rates. For example, the terms of the policy 
are often negotiated, and pricing adequacy is ultimately determined by 
future losses. 

Background: 

AIG is a holding company that, through its subsidiaries, is engaged in 
a broad range of insurance and insurance-related activities in the 
United States and abroad, including general insurance, life insurance 
and retirement services, financial services, and asset management. The 
AIG organization includes the largest domestic life insurer and the 
second largest domestic property/casualty insurer, and it has a large 
foreign general insurance business. It also has a financial products 
division, which has been a key source of AIG's financial difficulties, 
particularly AIGFP, which engaged in a wide variety of financial 
transactions, including standard and customized financial products. 

AIG's Financial Problems Mounted Quickly: 

From July 2008 to August 2008, ongoing concerns about AIG's securities 
lending program and continuing declines in the value of super senior 
collateralized debt obligations (CDO) protected by AIGFP's super senior 
credit default swap (CDS) portfolio, along with ratings downgrades of 
the CDOs, resulted in AIGFP having to post additional cash collateral, 
which raised liquidity issues.[Footnote 2] By early September, 
collateral postings and securities lending requirements were placing 
increased pressure on the AIG parent company's liquidity. AIG attempted 
to raise additional capital in September but was unsuccessful. It was 
also unable to secure a bridge loan through a syndicated secured 
lending facility. On September 15, 2008, the rating agencies downgraded 
AIG's debt rating three notches, resulting in the need for an 
additional $20 billion to fund its additional collateral demands and 
transaction termination payments. As AIG's share price continued to 
fall following the credit rating downgrade, counterparties withheld 
payments and refused to transact with AIG. Also around this time, the 
insurance regulators no longer allowed AIG's insurance subsidiaries to 
lend funds to the parent under a revolving credit facility that AIG 
maintained and demanded that any outstanding loans be repaid and that 
the facility be terminated. 

Overview of Federal Assistance Provided: 

Ongoing instability in global credit markets and other issues have 
resulted in over $182 billion in federal assistance being made 
available to AIG. First, in September 2008, the Federal Reserve created 
the Revolving Credit Facility, which was intended to stabilize AIG by 
providing it with sufficient liquidity and enabling AIG to dispose of 
certain assets in an orderly manner while avoiding undue disruption to 
the economy and financial markets (see table 2). The original amount 
available under the facility was up to $85 billion. While the amount 
borrowed reached $82 billion, the debt was reduced by the proceeds from 
AIG's sale of preferred shares to Treasury as well as repayments from 
the Fed Securities Lending Agreement and the Commercial Paper Facility. 
As of February 18, 2009, AIG had $38.8 billion in debt outstanding 
under this facility. 

Table 2: Use of Federal Funds and Borrowings Outstanding from the 
Federal Reserve Bank of New York Revolving Credit Facility as of 
February 18, 2009: 

Borrowings: Loans for AIGFP to post for collateral required by its 
counterparties on credit default swaps and postings, guaranteed 
investment agreements (GIA) and payment of other maturing debts; 
Total (millions): $47,547. 

Borrowings: Capital contributions to insurance companies[A]; 
Total (millions): $20,850. 

Borrowings: Repayments of obligations to life companies in securities 
lending program; 
Total (millions): $3,160. 

Borrowings: Repayments of short-term inter-company loans by annuity and 
life companies to parent company; 
Total (millions): $1,528. 

Borrowings: Contributions to AIGCFG subsidiaries[A]; 
Total (millions): $1,686. 

Borrowings: Repayments of AIG non-federal debt of AIG parent company; 
Total (millions): $2,319. 

Borrowings: Funding for AIG's Equity interest in Maiden Lane III[B]; 
Total (millions): $5,000. 

Subtotal: Total (millions): $82,090. 

Borrowings: Repayment of Fed facility from proceeds of issuance of 
Series D Preferred Stock; 
Total (millions): ($40,000). 

Borrowings: Repayments of Fed facility from other sources[C]; 
Total (millions): ($6,890). 

Net borrowings: Total (millions): $35,200. 

Borrowings: Accrued compounding interest and fees; 
Total (millions): $3,631. 

Total balances outstanding: Total (millions): $38,831[D]. 

Sources: AIG Form 10-Q for Sept. 30, 2008, Form 10-K for Dec. 31, 2008. 

Notes: 

[A] During 2008 and through February 27, 2009, AIG contributed capital 
of $22.7 billion (including $18.0 billion borrowed under the Fed 
Facility) to its Domestic Life Insurance and Domestic Retirement 
Services subsidiaries. AIG also contributed $4.4 billion to the Foreign 
Life Insurance companies during 2008 including $4.0 billion from 
borrowings under the Fed Facility). 

[B] AIG purchased its equity stake in Maiden Lane III with money 
borrowed from the Federal Reserve Bank of New York's facility. 

[C] Includes repayments from funds received from the Fed Securities 
Lending Agreement and the Commercial Paper Funding Facility. 

[D] According to the Federal Reserve, the Revolving Credit Facility 
balance was $42 billion as of March 2, 2009, but AIG's 10-K provided 
details as of February 18, 2009. 

[End of table] 

Second, in November 2008, the Federal Reserve and Treasury announced 
additional assistance to AIG and restructured its original assistance. 
On November 9, 2008, the Treasury announced plans to use its 
Systemically Significant Failing Institutions (SSFI) Program, under 
TARP, to purchase $40 billion in AIG preferred shares. This purchase 
allowed AIG to reduce its debt outstanding to the Federal Reserve and 
enabled the Federal Reserve to reduce the amount available under the 
Revolving Credit Facility from $85 billion to $60 billion. On November 
10, 2008, the FRBNY announced plans to lend up to $22.5 billion to 
Maiden Lane II LLC, a facility formed to purchase residential mortgage- 
backed securities (RMBS) from the U.S. securities lending investment 
portfolio of AIG subsidiaries. When this facility was established, it 
replaced an interim securities lending agreement with the Federal 
Reserve. Also on November 10, FRBNY announced plans to lend up to $30 
billion to Maiden Lane III LLC, a FRBNY facility formed to purchase 
multi-sector CDOs on which AIGFP had written CDS protection. In 
connection with the purchase of the CDOs, AIG's CDS counterparties 
agreed to terminate the CDS contracts. 

Most recently, on March 2, 2009, the U.S. Treasury and FRBNY announced 
plans to further restructure the terms of the assistance. Consistent 
with earlier assistance, this was also designed to enhance the 
company's capital and liquidity in order to facilitate orderly 
restructuring of the company. The restructuring of the assistance 
would, among other things, provide the government with interests in two 
AIG foreign life insurance companies, as well as certain cash flows 
from certain domestic insurance companies, each in exchange for 
reducing AIG's Revolving Credit Facility balance. The assistance also 
would include a new Treasury equity capital facility that would allow 
AIG to draw down up to $30 billion as needed over time in exchange for 
newly issued non-cumulative preferred stock to the U.S. Treasury. 
Treasury and FRBNY would also exchange the previously issued Series D 
preferred stock for Series E preferred stock that would more closely 
resemble common stock and provide for non-cumulative dividends. To 
date, AIG has not drawn against this facility. 

As noted above, some federal assistance was designated for specific 
purposes, such as reducing the loan outstanding to the Federal Reserve 
or for purchasing specific assets, such as CDOs and RMBS. Other 
assistance, such as that available through the Federal Reserve 
Revolving Credit Facility, is available to meet the general financial 
needs of the parent company and its subsidiaries. Some of the 
assistance also places restrictions on actions that AIG can take while 
it has loans outstanding to the federal government or as long as the 
federal government has an ownership interest in AIG assets, as well as 
restrictions on executive compensation. Executive compensation 
restrictions for TARP recipients were also included in the American 
Recovery and Reinvestment Act of 2009, which was enacted on February 
17, 2009. In general, the restrictions prohibit: 

* bonus and incentive compensation payments to certain employees, 
depending on the amount of TARP assistance received; 

* golden parachutes; and: 

* compensation plans that encourage risk-taking. 

See appendix I for a detailed chronology of events. 

Federal Efforts Have Focused on Maintaining and Monitoring AIG's 
Solvency, but AIG Faces Challenges in Repaying Federal Assistance: 

Federal assistance to AIG has been focused on preventing systemic risk 
from a potential AIG failure and monitoring its progress, but AIG faces 
challenges in repaying the assistance. Federal Reserve and Treasury 
officials have said that a failure of AIG, potentially triggered by 
further credit downgrades or additional collateral calls, would result 
in liquidity concerns for other financial market participants. A 
disorderly failure of AIG would not only create difficulties for AIG's 
counterparties as described, but could further erode confidence in and 
uncertainty about the viability of other financial institutions. This, 
in turn, would further constrict the flow of credit to households and 
businesses, potentially deepening and lengthening the current 
recession. If the ultimate goal is avoiding the failure of AIG, the 
Federal Reserve and Treasury have achieved that goal in the short-term. 
However, maintaining solvency has required federal assistance beyond 
that provided in September and November 2008, and rating companies have 
stated that their current ratings are contingent on continued federal 
support for AIG. AIG and federal regulators acknowledge that there may 
be a need for further assistance given the significant challenges AIG 
continues to face. Therefore, more time is required to determine if the 
goal will be fully achieved in the long-term. 

Federal and State Monitoring Efforts Are Focused on AIG Solvency: 

We asked Treasury and the Federal Reserve how they were monitoring 
AIG's progress toward reaching the goals of the federal financial 
assistance and AIG's compliance with the restrictions placed upon it as 
a condition of receiving the assistance. According to Treasury and 
Federal Reserve officials, the agencies are working together to monitor 
AIG's solvency by reviewing the reports required by the terms of the 
financial assistance, and the Federal Reserve is in contact daily with 
AIG officials regarding AIG's liquidity needs and their efforts to sell 
the company's assets. AIG regularly files several reports with FRBNY, 
including daily cash flow reports, reports identifying risk areas 
within the company, and daily liquidity requests/cash flow forecasts, 
allowing the Federal Reserve to monitor AIG's liquidity. Also, AIG has 
a divestiture team that meets at least weekly with the Federal Reserve 
to discuss potential sales deals, including bids from potential buyers, 
financing, and other terms of sales agreements, so that the Federal 
Reserve can monitor AIG's efforts to sell its assets. 

The Federal Reserve and Treasury said that they are monitoring the 
various federal agreements with AIG, and these agreements place 
restrictions on AIG's use of the funds. For example, the Federal 
Reserve monitors restrictions on the Revolving Credit Facility, 
including whether AIG has inappropriately paid dividends or financed 
extraordinary corporate actions like acquisitions. According to 
Treasury officials, it is in the process of finalizing new executive 
compensation requirements based on the American Recovery and 
Reinvestment Act of 2009, and will begin monitoring AIG's compliance 
with those regulations once they are in place. This is an area we will 
continue to monitor as part of our broader TARP oversight. 

State insurance regulators are responsible for monitoring the solvency 
of insurance companies generally, as well as for approving transactions 
regarding those companies, such as changes in control or significant 
transactions with the parent company or other subsidiaries. For 
example, regulators told us that AIG's insurance companies, like all 
insurance companies, file quarterly reports with them. Since AIG began 
receiving federal assistance in September 2008, regulators also said 
that AIG's insurance companies have been submitting additional reports 
on their liquidity, investment income, and statistics on surrender and 
renewal of policies, sometimes on a daily or weekly basis. The various 
regulators also coordinate their monitoring of the companies' insurance 
lines. State regulators also evaluate potential sales of AIG's domestic 
insurance companies. NAIC formed a working group designed to expedite 
any regulatory approvals required for asset sales, with a goal of 
completing the approvals within 45 days of filing for a sale. 

AIG Faces a Number of Challenges to Its Ability to Repay Its Federal 
Funds: 

AIG's restructuring has hinged on efforts in three areas: (1) 
terminating its CDS portfolio, (2) terminating its securities lending 
program, and (3) selling assets. Federal assistance was targeted to the 
first two areas that posed a significant risk to AIG's solvency-- 
AIGFP's CDS portfolio and the securities lending program--and the risks 
from both activities appear to have been reduced, but some risks 
remain. One arrangement, Maiden Lane III--the FRBNY facility created to 
purchase CDOs--has purchased approximately $24.3 billion in multi- 
sector CDOs (with a par value of approximately $62 billion), which were 
the assets underlying the CDS protection that AIG sold. Concurrent with 
the purchase of the underlying CDOs, AIGFP counterparties agreed to 
cancel the CDS written on the CDOs, thus unwinding significant portions 
of AIGFP's CDS portfolio. According to AIG, some arrangements did not 
qualify for sale to the facility, generally either because the 
counterparties did not own the instruments on which CDS were written or 
because they were in denominations other than U.S. dollars. As of 
February 18, 2009, approximately $12.2 billion in notional amounts of 
CDS remained with AIG. According to AIG, these remaining CDS continue 
to present a risk to AIG, as further losses from these assets could 
require additional funding. A second FRBNY facility--Maiden Lane II-- 
purchased approximately $19.5 billion in RMBS and other assets related 
to the securities lending program. Both the Maiden Lane II and Maiden 
Lane III facilities allow AIG to participate in the residual proceeds 
after the FRBNY loan has been repaid. However, AIG faces other 
potential losses from other investments. 

The federal assistance has allowed AIG to undertake restructuring 
efforts, which continue. As of September 2008, AIG was to wind down the 
operations of AIGFP and sell certain businesses. In October 2008, the 
company announced plans to sell some of its life insurance operations 
and other businesses. AIG is continuing to wind down AIGFP but expects 
the process to take at least several years in order to avoid further 
losses given the current market conditions. AIG has been unable to sell 
its insurance assets for prices it deems acceptable given the general 
state of the global economy. As a result, the plan has been modified, 
and the federal government will now assume an ownership interest in 
some of AIG's life insurance companies. The federal government's 
ownership stake will be a percentage of the fair market value of these 
companies based on valuations acceptable to the Federal Reserve. In 
addition, AIG plans to consolidate its commercial property/casualty 
insurance operations in a free-standing entity and potentially offer an 
equity interest in part of this new entity to public investors. 

Asset sales have been difficult, not only because tight credit markets 
are limiting buyers' ability to obtain the capital needed to purchase 
the companies, but also because of challenges faced by AIG in retaining 
key employees, who contribute to the value of the company. In addition, 
the timely sale of CDOs and RMBS held by the Federal Reserve facilities 
will be challenging, not only because it may be difficult to value 
those assets, but because many are tied to home values, which have been 
in decline. 

AIG's ongoing financial problems have resulted in additional assistance 
and restructuring of the terms of the original assistance, and AIG 
faces numerous, significant challenges to its ability to repay federal 
assistance in the future. AIG's ability to repay the federal government 
hinges on it remaining solvent and effectively restructuring the 
organization, including the sale of subsidiaries. The federal 
government recouping its assistance also depends in part on FRBNY being 
able to obtain a satisfactory return on the sale of the CDO-and RMBS- 
related assets purchased by Maiden Lane II and III. 

AIG's ability to pay interest and dividend payments has been and may 
continue to be a challenge because its ability to make payments is 
dependent on the profitability of AIG operations, which face a number 
of hurdles. As of December 31, 2008, AIG insurance subsidiaries had 
statutory capital levels that exceeded the minimum requirements. 
However, damage to AIG's reputation has made it difficult for its 
insurance companies to maintain current business and write new 
business. In addition, profitability is also dependent on the overall 
state of the economy--many of AIG's insurance premium sources are tied 
to economic activity, such as payroll--and its insurers, especially its 
life insurers, depend on strong investment returns. To the extent the 
overall economy is experiencing difficulty, it will present challenges 
to the profitable operations of AIG's insurance companies. While recent 
federal assistance has been restructured to reduce AIG's interest and 
dividend payment requirements, it is too soon to tell whether further 
assistance or further restructuring will be needed in the future. 

Some 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: 

We are examining the potential effect of federal assistance to AIG on 
the insurance market, particularly AIG's pricing practices within the 
commercial property/casualty market. Market participants (actuaries, 
regulators, brokers, customers, and insurance companies) we talked with 
indicated that, foremost, insurance premium rates follow an insurance 
underwriting cycle that is generally characterized by a long period of 
"soft market" conditions, where premium rates are relatively low and 
underwriting standards are less stringent, followed by a much shorter 
period of "hard market" conditions, where premium rates flatten or 
increase and underwriting standards are more stringent. They explained 
that starting with the September 11, 2001, terrorist attacks and 
continuing until late 2003 or early 2004, the commercial property/ 
casualty market was in a hard market, but since this time the markets 
have softened and premium rates have been declining. For example, 
according to the Council of Independent Agents and Brokers (CIAB) 
surveys, quarterly changes in commercial property/casualty premium 
rates have been negative (falling) for all commercial line accounts 
since the second quarter of 2004 (except for catastrophe-exposed 
property lines in early 2006), and while the magnitude of the changes 
leveled off in the last quarter of 2008, the average quarterly premium 
rate change was still negative in that period. 

Industry participants also said that premiums charged by commercial 
property/casualty insurers for a given coverage are influenced by 
several factors that could allow one insurer to price lower than 
another on a given risk and that AIG Commercial Insurance historically 
had been able to take advantage of several of these factors. Such 
factors include a long history of experience with complex risks, a 
lower operating expense ratio relative to competitors, global 
operations that allow offsetting risks, and the ability to leverage the 
size and the financial strength of the parent company to write larger 
coverage amounts than competitors, in some cases without the need to 
purchase reinsurance. It is not yet clear to what extent the current 
financial difficulties the AIG parent company may have diminished these 
advantages for AIG Commercial Insurance. 

Some insurers we spoke with said that they had observed instances, in 
some cases numerous instances, where AIG had sold commercial property/ 
casualty coverage for a price that these insurers believed was 
inadequate for the risk involved. They cited examples where AIG 
Commercial Insurance's prices had decreased significantly from the 
prior year's price, when circumstances appeared to indicate that higher 
prices were warranted. Some insurers said that they had brought several 
of these instances to the attention of the relevant state insurance 
regulator. Insurers expressed concern that while current market 
conditions would dictate increased prices in most commercial property/ 
casualty lines of insurance, they believe that AIG Commercial Insurance 
has decreased its prices. They added that when such pricing activity is 
combined with AIG Commercial Insurance's market power, AIG Commercial 
Insurance can prevent prices from increasing and thus hurt other 
insurers' ability to price insurance at a cost adequate to cover the 
risk involved. The insurers said they believed that AIG Commercial 
Insurance's recent pricing behavior is the result of its desire to 
retain existing business in the face of concerns over the financial 
health of its parent company, and some suggested that the federal 
financial assistance is providing them the means to do this. For 
example, some suggested that AIG Commercial Insurance officials know 
that the federal government will not let them fail, so they can charge 
very low prices without fear of the consequences when the premiums 
collected turn out to be less than the losses those premiums were meant 
to cover. Some also suggested that buyers in the market are choosing to 
stay with AIG Commercial Insurance because they also believe that the 
insurance company is now backed by the federal government and that 
their losses will ultimately be covered. 

AIG told us that AIG Commercial Insurance has the biggest policyholder 
surplus in the industry and that they are solvent and financially 
sound. They maintained that they are charging prices adequate for the 
risk being covered and that their commercial insurance rates have been 
mirroring the overall trends in the current soft market. That is, they 
indicated that their rates have been declining at an increasingly 
slower pace since the fourth quarter of 2008, and in some cases have 
increased. They also cited other factors that they said would indicate 
that they were not pricing inadequately or taking market share from 
other companies. First, AIG Commercial Insurance told us that they have 
actually been losing market share because the financial situation of 
the parent company had impacted the reputation of the AIG commercial 
insurance companies. In addition, they cited instances where 
competitors were using the AIG parent company's financial problems as a 
way to discourage customers from buying AIG commercial insurance 
coverage. Finally, AIG Commercial Insurance provided us with examples 
of recent contracts that they have lost to competitor bids that were 
below their own. However, AIG Commercial Insurance acknowledges that 
these examples reflect the nature of the business, not necessarily 
inappropriate pricing by the competitors. 

State insurance regulators, insurance brokers, and insurance buyers 
that we have spoken to said that they have seen no indications that 
AIG's commercial property/casualty insurers are selling coverage at 
prices inadequate to cover the risk involved: 

* State insurance regulators we spoke to said that they generally do 
not closely watch commercial insurance rates because they may have been 
largely deregulated by the states, as well as because of the highly 
negotiated nature and complexity of many commercial lines of insurance. 
However, they said that they investigate complaints about pricing 
activities and monitor insurer solvency measures that would indicate 
inadequate pricing--although in some lines the consequences of such 
pricing may not show up in these measures for several years. State 
regulators indicated that complaints of pricing inadequate for the risk 
involved would need to be numerous enough to indicate a potential 
systemic problem or would need to prove an intentional predatory 
strategy from the part of a particular company. Based on what they have 
reviewed, the regulators we spoke with said they have seen no 
indications of inadequate pricing by AIG's commercial property/casualty 
insurers. 

* Insurance brokers we spoke with said that when helping a customer 
obtain coverage, they see all of the prices and conditions offered by 
each insurer placing a bid on that coverage. They also indicated that 
commercial property/casualty insurance is competitive, and that in 
several lines of commercial insurance, especially where large coverage 
amounts are involved, prices offered by insurers can deviate 
significantly on the same risk. For example, one broker said that 
insurers' bids on large policies regularly vary by as much as 20 
percent below and above the median bid. Several brokers told us that 
AIG Commercial Insurance has historically priced aggressively in some 
lines, and that while in some instances in the past several months AIG 
Commercial Insurance may have priced more aggressively in order to 
retain certain customers, it did not appear to be a widespread practice 
and was viewed as an expected response given the reputational hit the 
company has taken. They also cited instances where AIG Commercial 
Insurance has lost business because other insurers' prices were lower 
than theirs. 

* Insurance buyers, who also see all of the prices and conditions 
offered by each insurer bidding on their coverage, said that AIG 
Commercial Insurance is known to be competitive in some lines and that 
they have not seen any indications of a widespread change in pricing by 
AIG's commercial insurers. They also said that they would recognize, 
and be concerned about, an insurer charging suspiciously low rates for 
the coverage because it would create a risk that the insurer would be 
unable to pay the policyholder's claim. 

However, according to insurance regulators and other industry 
participants, for many lines of commercial insurance, determining 
whether prices charged by a commercial property/casualty insurer are 
adequate for the risk involved pose a number of challenges: 

* In many lines of commercial insurance, in the case of very large 
risks as opposed to routine policies, the terms of coverage, in 
addition to the price, are often negotiated, resulting in unique 
policies. For example, the amount of a claim the policyholder would be 
responsible for, and the collateral the policyholder would be required 
to post to guarantee payment of this amount, would be negotiated. 
Without knowing all the terms of an individual policy, it could be 
difficult to determine the extent to which that policy was priced 
adequately for the risk involved. 

* Insurers price policies based on predictions of future losses, which 
contain a number of subjective assumptions about risk, interest rates, 
litigation costs, and other costs. Underwriters may price a given risk 
differently and still be able to defend the reasoning behind their 
calculations. 

* The most concrete indication of systematic inadequate pricing comes 
several years later, depending on how far into the future the losses 
associated with the policies in question are realized. However, a 
company may ultimately end up with higher-than-expected losses even if 
it charged actuarially determined premiums using reasonable assumptions 
at the time the policies were written. 

In closing, the extent to which the assistance provided by the 
government will achieve its goal of preventing systemic risk continues 
to unfold and will be largely influenced by AIG's success in meeting 
its ongoing challenges in trying to restructure its operations. 
Likewise, it is too soon to tell whether AIG will be able to repay its 
outstanding debt to the federal government, which in large part depends 
on the stability of the overall financial system. While we have found 
no evidence that federal assistance has been provided directly to AIG's 
property/casualty insurers, as has been the case for AIG life insurers, 
AIG's insurance companies have likely received some indirect benefit to 
the extent that the property/casualty insurers would have been 
adversely affected by a credit downgrade or failure of the AIG parent. 
While we are continuing to complete our work in the area, some 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. 

Mr. Chairman, this completes my prepared statement. I would be pleased 
to answer any questions that you or Members of the Subcommittee may 
have. 

Contact and Acknowledgements: 

For further information about this testimony, please contact Orice M. 
Williams at (202) 512-8678 or williamso@gao.gov. Contact points for our 
Offices of Congressional Relations and Public Affairs may be found on 
the last page of this statement. Individuals making key contributions 
to this testimony include Patrick Ward (Assistant Director), Joe 
Applebaum (Chief Actuary), Susan Offutt (Chief Economist), Silvia 
Arbelaez-Ellis, Tania Calhoun, John Forrester, Dana Hopings, Jennifer 
Schwartz, and Melvin Thomas. 

[End of section] 

Appendix I: Timeline of AIG Financial Difficulties Leading Up to 
Federal Assistance: 

* July 2008 to August 31, 2008: 

- The super senior collateralized debt obligation (CDO) securities 
protected by American International Group Financial Products' (AIGFP) 
super senior credit default swap (CDS) portfolio continued to decline 
and ratings of CDO securities were downgraded, resulting in AIGFP 
posting additional $5.9 billion collateral. 

- AIG was doing a strategic review of AIG's businesses and reviewing 
measures to address the liquidity concerns in AIG's securities lending 
portfolio and to address the ongoing collateral calls regarding AIGFP's 
super senior multi-sector CDS portfolio, which as of July 31, 2008, 
totaled $16.1 billion. 

* Early September 2008: These collateral postings and securities 
lending requirements were placing increasing stress on the AIG parent 
company's liquidity. 

* September 8 to September 12, 2008: AIG's common stock price declined 
from $22.76 to $12.14, making it unlikely that AIG would be able to 
raise the large amounts of capital that would be necessary if AIG's 
long-term debt ratings were downgraded. 

* September 11 or 12, 2008: AIG approached the Federal Reserve with two 
concerns: 

- AIG had significant losses in the first two quarters of calendar year 
2008, primarily attributable to AIGFP and decreasing values in their 
securities, leading AIG to request to place large amounts of cash 
collateral. 

- AIG's investments in mortgage-backed securities (MBS) were very 
illiquid. Consequently, AIG would not be able to liquidate its assets 
to meet the demands of counterparties. Since AIG is not regulated by 
the Federal Reserve, the agency was not aware of the company's 
financial problems. 

Also, because AIG was facing a downgrade in its credit rating the next 
week, it needed immediate liquidity help. Over the weekend, the Federal 
Reserve was examining AIG to determine if it was systemically 
important, meaning that its failure would have a broader effect on the 
economy. This was the same weekend that Lehman Brothers went into 
bankruptcy. 

* September 12, 2008: 

- Standard & Poor's (S&P), placed AIG on CreditWatch with negative 
implications and noted that upon completion of its review, the agency 
could affirm the AIG parent company's current rating of AA-or lower the 
rating by one to three notches. 

- AIG's subsidiaries, International Lease Finance Corporation (ILFC) 
and American General Finance, Inc. (AGF), were unable to replace all of 
their maturing commercial paper with new issuances of commercial paper. 
As a result, AIG advanced loans to these subsidiaries to meet their 
commercial paper obligations. 

* September 13 and 14, 2008: AIG accelerated the process of attempting 
to raise additional capital and discussed potential capital injections 
and other liquidity measures with private equity firms, sovereign 
wealth funds and other potential investors. AIG also met with 
Blackstone Advisory Services LP to discuss possible options. 

* September 15, 2008: 

- AIG was again unable to access the commercial paper market for its 
primary commercial paper programs, AIG Funding, ILFC and AGF. AIG 
advanced loans to ILFC and AGF to meet their funding obligations. 

- AIG met with representatives of Goldman, Sachs & Co., J.P. Morgan, 
and the Federal Reserve Bank of New York (FRBNY) to discuss the 
creation of a $75 billion secured lending facility. 

- S&P, Moody's, and Fitch Ratings (Fitch) downgraded AIG's long-term 
debt rating. As a result, AIGFP estimated that it needed in excess of 
$20 billion to fund additional collateral demands and transaction 
termination payments in a short period of time. 

* September 15, 2008: AIG's common stock price fell to $4.76 per share. 

* September 16, 2008: 

- AIG's strategy to obtain private financing failed. Goldman, Sachs & 
Co. and J.P. Morgan were unable to syndicate a lending facility. 
Consequently, counterparties were withholding payments from AIG, and 
AIG was unable to borrow in the short-term lending markets. 

- To provide liquidity, both ILFC and AGF drew down on their existing 
revolving credit facilities, resulting in borrowings of approximately 
$6.5 billion and $4.6 billion, respectively. 

- AIG was notified by its insurance regulators that it would no longer 
be permitted to borrow funds from its insurance company subsidiaries 
under a revolving credit facility that AIG maintained with certain of 
its insurance subsidiaries acting as lenders. Subsequently, the 
insurance regulators required AIG to repay any outstanding loans under 
that facility and to terminate it. 

- The Federal Reserve extended the facility to AIG to prevent systemic 
failure. AIG had no viable private sector solution to its liquidity 
issues. It received the terms of a secured lending agreement that FRBNY 
was prepared to provide. AIG estimated that it had an immediate need 
for cash in excess of its available liquid resources. That night, AIG's 
Board of Directors approved borrowing from FRBNY based on a term sheet 
that set forth the terms of the secured credit agreement and related 
equity participation. 

* September 22, 2008: 

- The inter-company facility was terminated effective September 22, 
2008. 

- AIG entered into the Fed Credit Agreement in the form of a two-year 
secured loan. 

[End of section] 

Footnotes: 

[1] AIG comprises at least 223 companies and it has operations in 130 
countries and jurisdictions worldwide. 

[2] The securities lending program allowed insurance companies, 
primarily the life insurance companies, to lend securities in return 
for cash collateral that was invested in residential mortgage-backed 
securities (RMBS). When the value of these securities declined in 2007, 
AIG incurred significant losses when it had to return the cash 
collateral when its borrowed securities were returned. Collateralized 
debt obligations are securities backed by a pool of bonds, loans, or 
other assets. Credit default swaps are bilateral contracts that are 
sold over the counter and transfer credit risks from one party to 
another. The seller, who is offering credit protection, agrees, in 
return for a periodic fee, to compensate the buyer, who is purchasing 
it, if a specified credit event, such as default, occurs. 

[End of section] 

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