Bernanke AIG Testimony Ends Week of Bailout Architects

Former Federal Reserve Chairman Ben Bernanke is set to retake the witness stand in a lawsuit accusing the government of imposing illegally harsh terms in the bailout of American International Group Inc., capping a week of testimony from the architects of the insurer’s 2008 rescue.

Maurice “Hank” Greenberg’s Starr International Co., AIG’s biggest shareholder before the rescue, claims in the lawsuit that the government illegally took equity in the company and that a 14 percent interest rate on the rescue loan was extortionate. Starr is seeking at least $25 billion in damages.

Bernanke, set for his second day of testimony today in the U.S. Court of Federal Claims in Washington, yesterday defended the higher rate, saying the $85 billion loan “was intended to prevent the collapse of a systemic firm” while the interest kept its shareholders from reaping a windfall.

The former Fed chairman, who was preceded on the witness stand this week by for Treasury secretaries Henry ‘Hank’ Paulson and Timothy Geithner, has so far given terse, even dismissive responses under questioning by David Boies, and calling the lawyer for Starr a highly formal “sir” when answering.

He defended the easier terms given to banks and other institutions during the bailout. Low-interest lending was meant to “get funds out into the system” to improve liquidity, even though it was understood that the action might lead to a windfall for shareholders, Bernanke testified. “There were offsetting considerations.”

4% Interest

Earlier testimony and documents in the trial, which began Sept. 29, showed that banks paid less than 4 percent interest on their loans from the Fed.

Bernanke said that at the time of the bailout, he didn’t know the basis for what a New York Fed official called a “crazily high” interest rate the government charged AIG.

“I have since learned something about it, but at the time I didn’t know,” Bernanke said. “I understand the overall goal was to minimize the windfall to the stockholders of AIG from being bailed out, but I couldn’t go term by term and explain them.”

Bernanke, Geithner and Paulson were considered the architects of the U.S. response to the financial crisis.

In their testimony, Geithner and Paulson likewise defended AIG’s tougher rescue package and testified that a failure by the New York-based insurer would have been catastrophic for the economy.

Grinning Geithner

Bernanke, who had refused to testify while still head of the central bank, showed little emotion on the witness stand, in contrast to Geithner, who grinned frequently. Bernanke responded to Boies’s pointed questions in a matter-of-fact tone.

At one point, when the lawyer pressed for specifics about prevailing interest rates at the time of the crisis, Bernanke said, “I don’t think it’s worth splitting hairs on this one.”

Bernanke offered little clarity on how the Fed and the Federal Reserve Bank of New York arrived at the terms of the bailout loan, including how the central bank determined it had authority to demand equity as a consideration for the lending.

Bernanke said he didn’t recall whether there was any discussion during a September 2008 Board of Governors meeting about whether Fed emergency lending provisions allowed the terms to include taking equity.

Information about the terms came “only implicitly in the presentation of the proposal by the general counsel,” he said.

Ultimately Responsible

In testimony that ended yesterday, Geithner said he was ultimately responsible for setting the rate, after being authorized to do so by the Fed.

Geithner testified that he wanted the interest rate and other terms of the loan to be “tough enough that they were not viewed as attractive” to other companies that might seek a government bailout.

After Bernanke, 60, took the stand yesterday, Boies asked him if the Fed’s powers to set interest rates for loans to troubled financial institutions included a right to demand equity.

“I don’t recall thinking about it,” said Bernanke, now a fellow-in-residence at the Brookings Institution.

Lawyers at the Fed and New York Fed differed on the scope of that power, according to a May 2008 e-mail introduced earlier in the trial.

A note from Thomas Baxter, the general counsel of the New York Fed, to Geithner stated that “we in New York” have a more expansive view of what the central bank can do under an “incidental powers” section of the law but that some officials at the Federal Reserve Board of Governors “see our conduct as loophole lawyering.”

‘Incidental Powers’

Baxter testified earlier in the trial that those “incidental powers” included the ability to authorize demands for equity as a condition of emergency lending.

Starr was AIG’s biggest shareholder when the financial crisis struck. It claims the government punished AIG, which Greenberg led for almost 40 years, by demanding 80 percent equity and imposing the higher interest rate.

The government’s stake later rose to as much as 92 percent after further government assistance.

The initial loan of $85 billion grew to $182 billion. AIG returned to profitability and repaid the assistance in 2012, leaving the government with a $22.7 billion profit.

Bernanke testified that AIG “actually did worse than I anticipated,” because it required the infusion of funding beyond the initial $85 billion loan.

Geithner, in contrast, said he was pleasantly surprised by how well AIG eventually performed.

Greenberg Encounter

Near the end of his testimony, Boies asked Geithner, who earlier acknowledged that he rebuffed efforts by Greenberg to participate in bailout discussions, about an encounter with the Starr chief executive officer in December 2010.

Boies asked whether Geithner had told Greenberg: “You are the only one who was right about the value of AIG.”

Geithner disputed that wording of his comments, but said “to my surprise, events unfolded in a way that allowed us to realize a positive return.”

The case is Starr International Co. v. U.S., 11-cv-00779, U.S. Court of Federal Claims (Washington).

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