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Federal Bailout of AIG: Is It Legal?

As a practical matter, yesterday's historic $85 billion bailout of insurance company American International Group (AIG) is regarded by many as a necessary action to prevent more widespread damage to the economy. But practical or not, law bloggers want to know whether the takeover was legal. So here's a quick primer on some of the legal issues related to the AIG bailout, courtesy of the blogosphere:

What specific statutory provisions authorized the Federal Reserve to make an $85 billion loan to AIG?
The answer to this one depends upon who you ask. Writing at Balkinization, Marty Lederman notes that the Fed bases its authority on the Federal Reserve Act of 1932, section 13(3) which provides that "in unusual and exigent circumstances" the [Fed] may authorize any federal reserve bank to discount notes without limit. 

However, David Zaring at the Conglomerate disagrees, contending that while the Section 13(3) might apply to loans, it doesn't authorize takeovers:

There's really no statutory authority for the AIG takeover...I won't bother noting that the DC Circuit, were it to sit in judgment on whether the Fed could buy the world's largest insurer, would undoubtedly conclude that the plain language of its governing statute (which is to make emergency loans, not require takeovers in exchange) would not permit the takeover under Chevron USA v. NRDC.

Which raises the next question...

Is the AIG deal a loan or a takeover?
Eric Posner tackles this issue at Volokh. Posner argues that in his view, "the deal is a loan in form but a purchase in substance." As part of the deal, the Fed will receive AIG equity as collateral for the loan, but "it's going to exercise the option more or less automatically." Posner believes that most courts would interpret the transaction as a sale, not a loan, and if that's the case, then the bailout is illegal.

Can a court review the Fed's decision to bailout AIG?
Most likely not, opines David Zaring at The Conglomerate, though there's not much case law. However, the 2nd Circuit has generally taken the position that "it is not for the courts to say whether or not the actions taken were justified in the public interest, particularly where it vitally concerned the operation and stability of the nation's banking system." Huntington Towers, Ltd. v. Franklin National Bank, 559 F.2d 863, 868 (2d Cir. 1978).

As a matter of policy, was the AIG deal the right thing to do?
OK, so a strict constructionist would never try to prop up an unlawful deal by resorting to policy arguments, but a couple of bloggers have raised some interesting policy issues worth including in this post. First, David Stejkowski at The Dirt Lawyer's Blog wonders where we draw the line on federal bailouts -- should the government save the auto industry?  What about other distressed companies? And while Kelly Erb at Tax Girl is ultimately willing to resign herself to the necessary evil of the bailout to prevent broader damage, she's demanding accountability from the management teams that ran these companies into the ground.

Posted by Carolyn Elefant on September 17, 2008 at 01:37 PM | Permalink | Comments (2)


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