Why AIG Stumbled, And Taxpayers Now Own It

Steve Kroft Reports On The Troubled Insurance Giant, And Talks To Its New CEO

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The sprawling holding company, that controlled some of the biggest insurance companies in the world, owned and leased more jet aircraft than most of the major airlines, and provided investment income for pensions, municipalities and other institutions around the world, had its tentacles everywhere. And the threat of collapse walked the global financial system to the edge on an abyss.

"I know you're not to blame for any of this, but you are the current proprietor, so to speak. Big picture, what happened?" Kroft asked.

"We strayed from our core skills. … in the late '80s, we put in something called AIG FP. It wasn't an insurance company. It's a company that dealt in very sophisticated financial products," Liddy explained.

With offices in London and Connecticut, AIG Financial Products had fewer than 500 employees, but it made enough bad deals to destroy the rest of the company.

The division was created by longtime AIG Chairman Maurice "Hank" Greenberg, who was forced to resign after an accounting scandal in 2005, and was succeeded by Martin Sullivan.

Like most of Wall Street, AIG FP became enamored with the amount of money to be made in the subprime mortgage market.

Not only did AIG buy billions of the now toxic mortgage-backed securities, the financial products division looked at their computer models and decided that the securities were so safe it could make tons of money insuring them for other investors who bought them.

These private, unregulated insurance contracts were called credit default swaps, and would ultimately expose the giant conglomerate to $64 billion in potential subprime mortgage losses; when the housing bubble burst, AIG didn't have enough money to meet its obligations.

Liddy estimated that just 20 or 30 people were involved in bringing down the company.

"How can 20 or 30 people bring down a company the size of AIG? I mean, that requires a lot of failures, doesn't it?" Kroft asked. "On the part of a lot of different people, on the people in risk management?"

"You know Steve, I don't necessarily see it that way. I think it requires a belief that models are always right and human intervention won't offset them. It assumes that the kinds of risks that were viewed to be so remote could not occur. But in fact, they did occur," Liddy replied.

"This was a pretty colossal screw up. You would agree?" Kroft asked.

"Yeah, I'd say in hindsight, if the people that made that decision had to do it over again, my guess would be that they would not do it," Liddy said.

"What they did was that they underwrote the credit bubble in the U.S. They held up a sign. And they said, 'We're ready to buy the stuff.' It was a cash cow for them. They liked it. They loved the business. And they backstopped the credit bubble and the whole economy," Rich Ferlauto, director of pension investments for the American Federation of State, County and Municipal Employees [AFSCME], told Kroft.

AFSCME's members' pension plans lost $4.3 billion on investments in AIG stock. Ferlauto blames company executives, the board of directors, and a compensation system that rewarded short-term profits while ignoring long-term risk.

Asked why he thinks the people at AIG FP took these risks, Ferlauto told Kroft, "For the most part, I don't think they saw the risk. They knew the risk was out there But they were driven because they thought they could make a buck. They were sort of blindsided by the ability to make short-term money."

"And it was more than a buck," Kroft pointed out.

"This is the kind of money that most average people only dream of and then some. It's like hitting the jackpot every year," Ferlauto replied.