Q&A

What is AIG and why is it in the news?American International Group is one of the biggest insurers in the world. Employing more than 116,000 people in more than 100 countries - including almost 400 in Ireland - it has 74 million customers, most of them in the US.

AIG's share price is in freefall on increased speculation that it will be forced into bankruptcy. At the end of 2006, it was valued at almost $190 billion (€134.6 billion) and was one of the top-five financial companies in the world. Its shares have fallen by more than 95 per cent since then.

What sort of trouble is it in?

Besides selling the usual gamut of ordinary insurance products, AIG sold financial instruments known as credit-default swaps that protect against the possibility of bond default. They are often tied to the US property market, so the bursting of the housing bubble saw the values of these contracts plunge.

Defaults on US mortgage payments have resulted in AIG losing almost $18 billion over the last three quarters.

Could AIG not have done something before now? Did it not see this coming?

Like Lehman Brothers' top brass, AIG executives have been criticised for complacency. Last December, then-chief executive Martin Sullivan said the probability of losses on AIG's portfolio of credit swaps was "close to zero" and any writedowns would be "manageable".

But massive writedowns have forced AIG to raise more than $20 billion this year.

At the end of last week, AIG was warned by credit-rating agencies that it faced downgrades unless it raised capital urgently. It rejected an offer of a capital infusion from JC Flowers over the weekend, saying the buyout firm had strings attached that would have given it control of the company. It then approached the US Federal Reserve for a $40 billion bridge loan.

Why did the Fed not help?

The Federal Reserve Act states that corporations must be "unable to secure adequate credit accommodations" from other institutions. Rejecting JC Flowers' offer did not impress Fed officials.

On Monday evening, AIG did manage to secure permission to access $20 billion of capital in its subsidiaries.

Unfortunately, that was not enough to stave off downgrades from three rating agencies.

Downgrades make it more difficult to raise capital on financial markets necessary to meet ordinary obligations.

Furthermore, downgrades automatically trigger calls for extra collateral.

An analyst at UBS yesterday estimated that collateral calls of $17 billion were triggered by the downgrades, all but wiping out the $20 billion AIG had just managed to access.

How serious will it be if AIG fails?

New York governor David Paterson, who relaxed regulations to allow AIG to access cash from its subsidiaries, said the situation was dire. "I hope you're aware of the risks if we don't act," he told journalists. "It is a systemic problem."

With more than $1 trillion in assets, a bankruptcy would be the biggest in history, dwarfing the $639 billion in assets held by Lehman. Forced selling of hundreds of billions of dollars worth of mortgage-backed assets would depress values further. A bankruptcy would be a "much bigger event" than the implosion of Lehman, according to Bank of America chief executive Ken Lewis, who said he did not "know of any major bank that doesn't have exposure to AIG".

AIG poses systemic risk because it is such a large counterparty in the financial system. It is said to be a larger player than even Bear Stearns in credit-default swaps. A largely unregulated market, there are said to be $62 trillion worth of credit-default swaps outstanding. There is fear that an AIG default could trigger chaos in the credit-default swaps market.

What will happen to Irish policyholders in the event of bankruptcy?

According to the Irish Insurance Federation, AIG's Irish operation is a standalone subsidiary regulated in Ireland and should remain solvent if AIG collapses.

A compensation fund procedure is triggered if an Irish insurance firm goes bust. The firm is put into administration and policies continue to be honoured. The fund is funded by levies on insurance companies who in turn pass on a levy in premiums to customers.

What can AIG do now?

The firm is said to be seeking up to $75 billion in loans from Goldman Sachs and JP Morgan. Both firms are thought to have exposure to AIG through credit-default swaps so it is in their interests to prevent bankruptcy. However, such a massive sum may be beyond both companies.

Yesterday, CNBC quoted one source as saying a private- sector solution was "definitively dead" and a government role in bailing out the insurance giant via a $75 billion loan was back on the table.

There were wild oscillations in AIG's share price yesterday.

Many analysts believe today is the last day that bankruptcy can be averted.