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Sept. 17 (Bloomberg) — American International Group Inc. averted the worst financial collapse in history by accepting an $85 billion federal loan and giving the government a majority stake.

The U.S. reversed its opposition to a bailout of AIG, the nation’s biggest insurer by assets, after private efforts failed and the Federal Reserve concluded that “a disorderly failure of AIG could add to already significant levels of financial market fragility,” according to a Fed statement late yesterday.

“It’s an enormous relief,” said David Havens, credit analyst for UBS AG in Stamford, Connecticut. “Nobody really knows what it would have meant if they would have been allowed to fail, but there was an enormous amount of systemic risk. The problem was, nobody really knew how bad it could have been.”

AIG gives up a 79.9 percent stake to the government and senior managers including Chief Executive Officer Robert Willumstad, 63, will give up their jobs. Retired Allstate Corp. CEO Edward Liddy, 62, will be AIG’s new leader, according to a person familiar with the plans, who declined to be identified because the change hadn’t been formally announced. Allstate is the biggest publicly traded home and auto insurer in the U.S.

The two-year revolving loan gives AIG time to sell assets “on an orderly basis,” the New York-based insurer said late yesterday in a statement. The U.S. has the right to discontinue payment of dividends to AIG’s common and preferred stockholders, who are already reeling from a 94 percent drop in common shares this year.

Global Disruptions

The agreement, supported by the Treasury Department, may avoid wider chaos in world markets that threatened to engulf more financial companies. Industry losses could have totaled $180 billion if AIG collapsed, according to RBC Capital Markets.

“This should help to calm the markets in the short-term and hopefully provides AIG some time to get their house in order,” said Michael Cuggino, president and CEO of San Francisco-based Pacific Heights Asset Management LLC, which manages about $3.8 billion.

AIG posted three quarterly losses totaling $18.5 billion. The insurer was pushed to the brink of failure because of a business that sold credit-default swaps, the protection for debt investors that plunged in value as the securities they guaranteed declined. The company covered $441 billion of fixed- income investments for banks and other parties, including $57.8 billion in securities tied to subprime mortgages.

The insurer’s survival became uncertain after credit-rating downgrades on Sept. 15 threatened to force AIG to post more than $13 billion in collateral when the company was already short on cash. AIG couldn’t raise money by selling shares after the stock plunged to less than $4 a share, compared with $70.11 in October, 2007.

Loan Terms

The Fed’s loan doesn’t require asset sales or the company’s liquidation, though these are the most likely ways AIG will repay the Fed, central bank staff officials told reporters on condition of anonymity. Interest will accrue at the three-month London interbank offered rate plus 8.5 percentage points.

The Fed doesn’t have an expectation of whether AIG will be smaller, nonexistent or similar to its current form at the end of the loan’s term, the staffers said.

The Fed or Treasury will end up actually holding the AIG stake, the staffers said. The Fed bailed out AIG while refusing aid to Lehman Brothers Holdings Inc., which collapsed earlier this week, because financial markets were more prepared for a Lehman failure, a Fed staff official said.

“It’s extraordinary, I am floored,” said former Treasury counsel Peter Wallison in an interview. “No one could have possibly imagined this a few months ago. I can’t imagine why the Fed would do this unless they were sure AIG’s failure posed systemic risk. It does speak to the fears in the market.”

From: AIG Gets $85 Billion Fed Loan, Cedes Control to Avoid Collapse

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I doubt it, as the apparent action NOT to bailout Lehman’s is actually a panic move, under normal circumstances the US Treasury and Fed WOULD bailout Lehman’s but the in the current climate of the likelihood that the US government will have to start bailing out other distressed industries in some shape or form such as airlines, insurers and auto manufacturers, though probably not going so far as to nationalize them but rather to make huge loans available to corporations much as the Japanese government did during the early 1990’s which resulted in Japans Great Depression.

Already it is being reported that Bank of America is eagerly sniffing around Merrill Lynch as a better candidate to takeover following Lehman’s bankruptcy, will they get a sweetener form the US Fed?, despite announcements of no tax payers money, they probably will.

Whilst the focus is on the US, the bailouts and unprecedented loans being made available to financial intuitions is not just limited to the US Fed, Central banks right across the globe will be flooding the markets Monday in an attempt to prevent a cascade of failures amongst banks that have already lost their capital bases over the last 12 months and therefore are teetering over the edge.

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The financial sector continues to be buffeted. However you get your news -television, car radio, computer, newspaper - several stories seem to be standing out (besides the obvious and very real trauma suffered by those in Texas in the wake of a terrible hurricane). Former giants in the financial sector are collapsing or struggling to hang on.

The latest casualty? Lehman Brothers folded and Merrill Lynch is being bought by Bank of America, noted here in the New York Times: www.nytimes.com/2008/09/16/business/worldbusiness/16markets.html along with the fact that stocks took a rapid downward turn,fueling talk of a Black Monday.

Since Lehman Brothers has been around for so very long (158 years), the news of the firm’s demise was a huge shock to many, particularly the info (which could change at any moment, though it doesn’t seem likely) that there won’t be a government rescue of the company, no last minute reprieve or intervention as there was with Fannie Mae and Freddie Mac.

Black Monday and stock market crash fears increase as Lehman Brothers goes under…

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Lehman says it will go into Chapter 11. CEO Richard Fuld will almost certainly end up being loathed more than the heads of Drexel, Long-Term Capital Management, or any of the firms that failed in the S&L crisis. His mark as a symbol of Wall Street’s monumental greed and stupidity will live long after he is gone.

Outside New York and the global financial community, Fuld has less name recognition than the giant panda, Yang Yang, in the Atlanta zoo.

More at issue than Fuld’s legacy is that U.S. taxpayers will bear the burden of the failure of his company and other financial firms, not just in the next year but over time. The Treasury may get money to cover the bill by pushing the deficit higher and borrowing money by selling bonds – most of which will be snapped up by China. The IRS will want its pound of flesh at some point. That money may come from the pocket of the working man, or, in the future, from payroll deductions of his children.

It is a shame that Henry Paulson and Ben Bernanke are the only people with a “vote” when it comes to spending the government’s money on emergency funds for banks. In reality, that money may not be paid back. More bank failures are likely. Some pessimists, including NYU economics professor Nouriel Roubini and Wilbur Ross, see that number going as high as 1,000. The FDIC does not have the capital to handle that level of depositor obligations.

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Wreckage from a massive crisis on Wall Street could prompt the Federal Reserve to do an about face and once again cut a key interest rate this week or possibly later this year, economists said Monday.

Just a few days ago, a rate cut appeared largely off the table. Now it has emerged as a possibility as the Fed prepares to meet Tuesday against a backdrop of historic upheaval in the U.S. financial system.

Lehman Brothers Holdings Inc., the country’s fourth-largest investment firm, filed for bankruptcy protection on Monday. And, Bank of America is buying Merrill Lynch in a $50 billion deal.

“It puts a Fed rate cut back on the table,” said Stuart Hoffman, chief economist at PNC Financial Services Group.

Seeking to calm frazzled markets, President Bush assured the country his administration is “working to reduce disruptions and minimize the impact of these developments on the broader economy.”

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The fate of the world financial system hangs from a thread today after the New York office of the Federal Reserve stood up to the big Wall Street financial houses on Sunday and essentially told them, “thanks but no thanks” on their request for a bridge loan to nowhere.

It’s about time. For years, the country’s major broker-dealers and banks have competed with each other to become the No. 1 underwriter of loans, bonds, mergers, mortgages, swaps and equities. The industry’s compensation system is focused on rewarding managers who took big risks, and could bring home top rankings in dealmaker lists.

All the while, banks figured that if they really got into trouble, the federal government would back them up with taxpayer funds. And the government reluctantly complied twice this year, backing up the reckless behavior of high-flying bankers at Bear Stearns in March, and Fannie Mae and Freddie Mac last week with loan guarantees costing untold billions.

But when Lehman Brothers chief Richard Fuld came to the Fed with his hand out on Friday, the central bankers had finally had enough – and told the banking industry that it needed to come up with its own solution to its problems. In meetings over the weekend in New York that must have frozen the veins of bankers used to bullying the government into doing their bidding, the government left Lehman Brothers and all its creditors out to dry, figuring it was better to let the financial system burn to the ground than to risk any more of the Federal Reserve’s withering balance sheet.

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