The US government's emergency actions in the financial crisis went on trial Monday as lawyers accused it of having illegally seized teetering insurance giant AIG in September 2008.
David Boies, the lawyer for Hank Greenberg, the former chairman of American International Group, sought to make a case that there was no need for the government to take the company over even if it appeared insolvent as the financial system was melting down.
Providing AIG with liquidity, as was done with banks at the time, was all that was necessary to stabilize the situation, Boies argued.
But instead the government took a step further, injecting $85 billion into the company for a nearly 80 percent share of ownership, erasing much of the value of the equity of existing shareholders.
Boies accused the government of "illegal exaction" that was backed up and justified by efforts to "demonize" the company, which Greenberg, 89, had built into the world's largest insurer.
The government had already made a fully-secured loan to the insurer, Boies said as the trial opened.
"They had a loan that they charged extortion interest rates on… and yet they reached out to grab 79.9 percent of the AIG shareholders' equity," he said.
"There was especially no justification of the taking of equity."
- Geithner 2008 moves in question -
Greenberg is suing the government via his Starr International Company, which was the largest single shareholder in AIG at the time of the government rescue.
Starr still holds about 1.3 percent of the company and is seeking $40 billion for its losses.
Key witnesses expected in the six-week trial include former Federal Reserve chairman Ben Bernanke and ex-New York Federal Reserve Bank President Timothy Geithner, who later became treasury secretary.
Both were instrumental in the takeover of the company, which as a privately owned insurer was not regulated by the Federal Reserve.
The trial will force Bernanke and Geithner to rehash the events of 2008, when they had to orchestrate the rescues of investment bank Bear Stears, housing finance giants Fannie Mae and Freddie Mac, and brokerage Merrill Lynch before letting Lehman Brothers collapse and then seizing AIG.
At the time they justified the takeover of a private non-bank by arguing that "a disorderly failure of AIG could add to already significant levels of financial market fragility and lead to substantially higher borrowing costs, reduced household wealth, and materially weaker economic performance."
The bailout gave AIG the necessary liquidity to stay afloat, sparing the giant insurer a possible bankruptcy that could have devastated the global financial system.
At the same time, shareholders like Starr saw their stakes plummet in value by the dilution from the government, which ultimately put $182 billion into AIG.
The trial could also put in focus one of the government's most controversial actions during the crisis that has never been clearly justified: paying out tens of billions of dollars to AIG's counterparties in credit derivatives, including both Wall Street banks like Goldman Sachs and foreign banks like DeutscheBank.
Critics say the Fed should have demanded the counterparties accept less than the face value of their credit default swaps, since they would have gotten nothing if AIG failed.