Government Bailout, or Government Fraud Amounting to a Taking? Or Both?

You may have come across some earlier stories in the press to the effect that the management of the 2008 bailout of insurance giant AIG, has been charged to be a taking of AIG’s property. Former managers and shareholders of AIG, the beneficiary of a government bailout, are suing Uncle Sam in the US Court of Federal Claims, claiming that the treatment AIG received in that bailout, amounted to a taking of property. But how is that possible, asked the cynics. After all, the government offered AIG some $182 billion (with a “b”) to enable it to survive and to meet its obligations as an insurer of flaky bonds it had insured against default, and thereby did indeed assure AIG’s survival. So whence comes the chutzpa to sue the generous Uncle?

It turns out that according to the plaintiffs there is more to this story, and the plaintiffs may have something there if they can prove their allegations. We learn all this from our favorite financial reporter, Gretchen Morgenson of the NY Times (Court Casts A New Light on Bailout, Sep. 28, 2014, at p. p 1 of the Times Business Section). Go to http://www.nytimes.com/2014/09/28/business/court-casts-a-new-light-on-a-bailout.html?ref=business

The plaintiffs are former managers and shareholders of AIG, who complain that they and AIG were subjected to disparate and draconian treatment by Uncle Sam, as opposed to others (notably banks) who were also bailed out. For example, they complain that Uncle took 79.9 % equity stake in AIG, consisting of stock with voting rights, a burden no other bailed out company had to bear. This enabled Uncle to make a deal with the holders of the failed insured junk bonds whereby they not only got paid for those bonds with funds ostensibly made available to AIG, but also AIG had to waive its right to sue those bondholders for misrepresenting their bonds’ quality.

Then there is the matter of interest. AIG had to pay 14 % in interest on Uncle’s money, whereas others who were bailed out got away with paying 5%, and some 2.25 %. We won’t go through the whole megillah here; we recommend that you read Ms. Morgenson’s article for the details of this fiasco, and take note of the charge that Uncle was concealing the fact that it was thus indirectly bailing out the big boys, like Societe Generale, Goldman Sachs , Deutsche Bank and Merrill Lynch, while making it appear that it was only bailing out AIG, their insurer who was forced to make it appear that it was  making good on the insurance policies it had issued.

Long story short, the plaintiffs now claim that Uncle subjected AIG to discriminatory, draconian mistreatment and used their [AIG] funds to benefit banks that had foolishly invested in junk, mortgage-backed bonds so they had only themselves to blame for their plight, and then, with Uncle’s help, concealed that fact from the public.

The bottom line charge of this controversy is that Uncle (as its de facto largest shareholder after he seized a majority of AIG’s stock) used AIG to conceal the fact that Uncle was not really bailing out AIG, but merely secretly using AIG as a conduit to bail out the largest banks for the consequences of their own improvidence. So if proven, would all this amount to a [temporary] taking of AIG’s property? Though in an unconventional factual setting, it sure looks that way, and if the court agrees, Uncle will be on the hook for some serious “just compensation.”

So stay tuned — the trial begins tomorrow.

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