The U.S. government has grounds to demand that American International Group Inc. pay any significant damages should Maurice “Hank” Greenberg win his $25 billion claim that federal officials shortchanged investors in the 2008 bailout of the insurer.
Greenberg and other investors who sued the government initially estimated damages at $25 billion. Later calculations put the figure closer to $40 billion. The smaller figure would be the equivalent of more than the twice insurer’s $9 billion in net profit last year.
During any U.S. attempt to establish a legal right to the money based on an indemnity promise in AIG’s bailout agreement, taxpayers would probably have to foot the bill initially. Damages would be paid out of the so-called Judgment Fund, which is administered by the Department of Treasury.
“It’s this bottomless financial pit that the government dips into when it has to pay a judgment,” said John Echeverria, a professor at the Vermont School of Law.
AIG isn’t a party to the class-action suit, which was filed by Greenberg’s Starr International Co. on behalf of him and about 275,000 other AIG investors. As a condition of an $85 billion bailout loan, AIG’s management agreed to pay damages resulting from litigation tied to the rescue, according to U.S. court filings.
“If I was the government, I would absolutely look to AIG and to anyone else to pick up some of the tab,” said David Zaring, a professor of legal studies and business ethics at the University of Pennsylvania’s Wharton School. “That would just be financially prudent.”
Still, pursuing AIG for reimbursement of damages would create the awkward and legally unfavorable circumstance of putting the arm on someone else for government conduct, Zaring said.
“It’s the government’s own actions that are being sued about,” he said.
AIG acknowledges in its most recent quarterly report that it might have to pay the Greenberg damages: “A determination that the United States is liable for damages, together with a determination that AIG is obligated to indemnify the United States for any such damages, could have a material adverse effect on our business,” the company said in a filing.
In trying to collect a large judgment from AIG, the government would be harming a company it said it had to save in 2008 to prevent catastrophic damage to the U.S. economy.
Stephen Aiello, a spokesman for Starr International, declined to comment directly on who should pay damages. “This is up to the government to decide how they want to handle this, if they lose the case,” Aiello said.
Nicole Navas, a spokeswoman for the Justice Department, declined to comment on how the government would respond to an adverse judgment. Matt Gallagher, an spokesman for New York- based AIG, declined to comment on the trial.
If the U.S. loses at trial, it may have a hard time collecting from what was once the world’s largest insurer. U.S. Court of Federal Claims Judge Thomas Wheeler, who is hearing the case in Washington without a jury, said in a pre-trial ruling that Starr had raised “legitimate questions about the viability” of government defenses, including the indemnity clause.
Wheeler rejected a government motion to strike the defenses as invalid, saying he wanted to hear more about them at trial. Starr argued the clause was invalid because the bailout agreement that contained it was illegally imposed on AIG.
It isn’t clear that the clause is enforceable, said John Echeverria, a law professor at the Vermont Law School who writes the Takings Litigation blog. “I’ve never run across an indemnity agreement like that.”
The U.S. doesn’t have much practice getting reimbursement from third parties after making payments from the Judgment Fund, according to Nancie Marzulla, a Washington attorney who specializes in federal claims litigation.
“I’m not aware of any case where the government has gone after a third party and recovered for any damages” that were levied against it, Marzulla said.
The trial began Sept. 29, and is now scheduled to conclude before the Nov. 27 Thanksgiving holiday. The losing side is almost certain to appeal the court’s decision and any final resolution is probably years off.
The case has featured testimony by former Treasury Secretary Henry Paulson, former Federal Reserve Chairman Ben Bernanke and former Treasury Secretary Timothy Geithner, who was head of the Federal Reserve Bank of New York when it bailed out AIG.
Starr claims the government cheated shareholders by demanding an 80 percent equity stake in the company, after already having all the company’s assets as collateral, and by imposing a 14 percent interest rate on the $85 billion loan while charging other rescued companies less than 4 percent.
David Boies, Starr’s lead attorney, argued that U.S. officials didn’t have the authority under the Federal Reserve Act to demand equity or to discriminate against AIG with what he called an extortionate interest rate.
Responding to the multibillion-dollar damage claims, government lawyers argued that the real harm is zero because AIG’s alternative to the bailout was bankruptcy.
AIG has a possible defense to the government’s invocation of the indemnity agreement. It isn’t responsible for damages if they resulted primarily from the government’s gross negligence or willful misconduct, according to Elliott Stein, a financial litigation analyst for Bloomberg Intelligence.
Wheeler could issue a ruling that the government is liable without awarding damages or without concluding it was grossly negligent or engaged in misconduct, Stein said.
To assist in that outcome, the government might frame its closing arguments to try to minimize any finding of gross negligence or misconduct, said Larry Cunningham, a law professor at George Washington University who has co-authored with Greenberg “The AIG Story,” a history of the company.
“They could say, ‘If you do find that we violated the law, we acted in good faith,” Cunningham said. “We were trying to do the right thing.”
The case is Starr International Co. v. U.S., 11-cv-00779, U.S. Court of Federal Claims (Washington).
–With assistance from Zachary Tracer in New York.