The relationship between AIG and the government is proving to be a political headache for the Obama administration. Earlier this year, the Treasury and the Federal Reserve Bank of New York failed to stop controversial bonuses at the firm. Last fall, in an effort to staunch a cash bleed at AIG, they agreed to fully compensate big banks that bought AIG's insurance on risky assets.
The bailout of AIG, owned 80% by taxpayers, is one of the most controversial of the government's unpopular bailouts. Yet with so much taxpayer money at stake, the government is asserting its ownership.
"AIG is the best example of why the government should never get itself in the position of even having to make these tradeoffs," said Anil Kashyap, an economics professor at the University of Chicago Booth School of Business. "It's why you don't want the government involved in the private sector in the first place."
Treasury Secretary Timothy Geithner, who ran the New York Fed when it bailed out AIG last year, has come in for particular attack by critics who say he is putting the interests of Wall Street ahead of Main Street.
Federal officials say their intent has been to protect the financial system from an AIG collapse, which Federal Reserve Chairman Ben Bernanke warned could have plunged the U.S. into a 1930s-style meltdown. As the controlling shareowner, the government says its aim is to make the company strong enough to someday repay the roughly $90 billion it owes the government.
"The company is in a much stronger position today to repay the government, and that's in all of our interests," a Treasury spokesman said.
The biggest flashpoint has been over compensation, a hot-button political issue with Wall Street bonuses back on track and unemployment climbing over 10%.
Last month, the U.S. pay czar, Kenneth Feinberg, announced he cut 2009 compensation, including salaries and stock, for the top 13 AIG employees by 57%. In recent weeks, officials from the New York Fed and the Treasury Department have urged Mr. Feinberg, to avoid making 2010 pay similarly restrictive for some top AIG executives and employees, according to people familiar with the discussions.
Fed and Treasury officials told Mr. Feinberg that tough restrictions could ultimately jeopardize the government's ability to recoup its roughly $90 billion in loans because key employees would leave. Unlike other firms subject to Mr. Feinberg's review, AIG isn't expected to pay back the government's investment for several years, making it subject to the pay czar's rulings for the foreseeable future.
U.S. officials made a similar argument to Mr. Feinberg ahead of his 2009 decision, these people said. At the government's urging, Mr. Feinberg let three top AIG employees keep their full 2009 retention awards after the individuals balked at renegotiating the payments. However, Mr. Feinberg made other cuts to compensate for allowing the full amounts to be paid.
AIG has been making the same argument to Mr. Feinberg and other officials. Government officials say the firm has been among the most aggressive in pushing back against proposed pay curbs.
The government's relationship with AIG is raising concerns among lawmakers and others, who question whether the U.S. is looking out for the interests of taxpayers. A report by the special inspector general overseeing the Troubled Asset Relief Program said the New York Fed "refused to use its considerable leverage" to compel AIG's trading partners, including Goldman Sachs Group Inc., to accept lower prices for more than $60 billion in complex securities they insured with AIG.
The Treasury and the Fed argued the U.S. had to either make the payments in full, which it did, or allow AIG to file for bankruptcy, which they say would have caused broad economic ruin.
Government officials say the securities the government bought from AIG's counterparties are now worth more than the loan issued to finance the purchases. The New York Fed originally lent $24.3 billion to finance the purchase of the securities. At the end of September, the outstanding loan was $19.3 billion, while the portfolio was valued at $23.5 billion.
Rep. Scott Garrett (R., N.J.) said the report underscores the peril of having the government making decisions for private companies. "The public now is going to be suspect of what the government is doing on their behalf with AIG, and that's not good for Wall Street or Main Street," he said.
Others say the government is right to advocate on behalf of AIG. "Unfortunately...the truly emotionally satisfying things are all going to just hurt us," said Douglas Elliott, a fellow with the Brookings Institution. "The taxpayer is better off venting their anger in a different way rather than punishing the companies that we own."
From the beginning, problems with AIG's compensation have bedeviled the government. A year ago, when the government was structuring its second rescue of the firm, a handful of Treasury officials pushed for tough compensation curbs, but met resistance from other officials who worried about an exodus of talent, according to former Treasury officials. The government did ultimately require some compensation restrictions.
In March, AIG ignited a political firestorm when it paid $165 million in retention bonuses. Officials at the New York Fed had long been aware of the payments but didn't attempt to stop them, and only alerted Treasury a few days before the money was to go out the door. Mr. Geithner ultimately allowed the payments after concluding the government had no legal standing to block them.