Fed counters criticisms of AIG rescue

The Federal Reserve on Tuesday parried suggestions that it had mishandled the bailout of American International Group (AIG), the failed insurer.

Neil Barofsky, who oversees the Troubled Asset Relief Program (Tarp), on Tuesday accused the New York Fed of failing to effectively limit payments to the insurer's biggest counterparties. Barofsky also said the high interest rate charged on the Fed's rescue loan failed to address the insurer's liquidity difficulties.

The accusations form part of a 47-page report by the Special Inspector General for Tarp on ‘Factors affecting attempts to limit payments to AIG counterparties'.

The Fed, which bailed out AIG in September 2008, repaid the insurer's eight biggest counterparties - Bank of America, Barclays, Calyon, Deutsche Bank, Goldman Sachs, Merrill Lynch, Société Générale and UBS - in full for their credit default swap exposure to AIG after all of the counterparties bar UBS refused to make voluntary concessions. UBS said it would take a 2% haircut if others did.

Despite Barofsky's accusations, the Fed said on Tuesday that it had acted appropriately. "We believe that our negotiation strategy, including the decision to treat all counterparties equally, was not flawed or unreasonably limited," the Fed said. It was, the central bank added, "natural" for the counterparties to expect full payment from the company following the bailout.

On the charges that the original interest rate of three-month Libor plus 850 basis points levied on the insurer was too severe, the Fed countered: "Those terms were adopted after the consideration of the best way in which to prevent the disorderly collapse of AIG while simultaneously protecting taxpayers' interests."

The Fed added: "We judged at the time, and continue to believe, that it would have been inappropriate to extend credit on terms that would have been more favourable to AIG." The Fed restructured the terms of repayment in November 2008, two months after the original loan was made.

Click here to read Barofsky's report

Click here to read the letter