HKG ASSUMES WATCH OVER AIG'S LARGE LOCAL SUBSIDIARY

UNCLAS SECTION 01 OF 02 HONG KONG 001726

SIPDIS

STATE FOR EAP/CM AND EEB/OMA, TREASURY FOR OASIA

E.O. 12958: N/A
TAGS: ECON EFIN EINV ETRD HK CH
SUBJECT: HKG ASSUMES WATCH OVER AIG'S LARGE LOCAL SUBSIDIARY


1. Summary: Sharp declines in locally listed Mainland banking and
insurance stocks drove the Hang Seng Index (HSI) down 3.6 percent on
September 17, while HKG authorities intensified their oversight of
AIG's very large local operating subsidiary, AIA. Local media
reported that the HKG's Office of the Commissioner of Insurance
instructed AIA to seek the Commissioner's approval, prior to
transferring material assets or capital to its parent company or
related entities. Hong Kong's Chief Executive and other senior
government officials sought to calm nervous AIA policy holders,
while editorials on September 17 in two large Chinese language daily
newspapers urged the HKG to take extraordinary measures, if
necessary, to protect AIA's financial strength. Market participants
in Hong Kong remain unsure whether AIG still seeks funding from its
global operating subsidiaries, following the USG's recent extension
of credit to AIG and its assumption of control over the company.
End summary.

Hang Seng Continues Sharp Decline
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2. The Hang Seng Index (HSI) opened 390 points higher, reflecting
the market's initial positive response toward the USG's decision to
provide AIG with a significant credit line, in exchange for majority
ownership of the company. Nervous investors in Hong Kong soon began
selling, however, and the HSI was further impacted by sharp declines
in locally listed Mainland banking and insurance stocks. The HSI
closed down 3.6 percent at 17,637, its lowest trading point of the
day. The HIBOR overnight loan rate, as quoted by Hang Seng Bank at
1624 HRS local time, stood at 3.0 percent -- a 50 basis point
decline from the previous day's rate, but still high by recent
standards.

AIG's Operations in Hong Kong and Macau
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3. AIA, a wholly-owned subsidiary of AIG, is a key insurance company
in both Hong Kong and Macau. Local Chinese press reported on
September 17 that AIA accounts for 25 percent of the life insurance
business in Hong Kong, and one-third of the total in Macau.
According to the Ming Pao and Apple Daily newspapers, AIA has 8,700
employees in Hong Kong, with two million customers paying USD 1.7
billion (HKD 13 billion) of annual premiums. Meanwhile, Macau Daily
reported on September 17 that AIA has 1,000 agents in Macau and
approximately 115,000 customers paying USD 100 million (MOP 780
million) of annual premiums. In response to AIG-related
developments in the United States, AIA issued a short press release
on September 16 that emphasized AIA's solid capital base and good
reputation. An unnamed HKG source stated that 1,400 AIA customers
canceled their policies on September 16, and HKG Commissioner of
Insurance Clement Cheung told local media that his office is closely
monitoring the AIG/AIA situation.

HKG May Block Financial Transfers by AIA to Parent
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4. On September 17, Radio Metro Finance and RTHK radio reported that
the HKG instructed AIA to seek the approval of the Office of the
Commissioner of Insurance, before AIA transfers material assets or
capital to other entities, including its parent company and sister
companies under the AIG umbrella. Hong Kong authorities became
concerned by U.S. media reports that AIG will seek to draw on funds
from its global subsidiaries, as a means to stabilize AIG's
financial situation in the United States. Also on September 17,
Commissioner of Insurance Cheung said, "Based on the current
accounting statements and related information, AIA has sufficient
assets to handle the insurance liabilities of its portfolio in Hong
Kong. We will exercise the necessary powers to ensure that policy
holders in Hong Kong are protected."

HKG Officials Reassure Policy Holders
--------------


5. Financial Secretary John Tsang told local media on September 16
that the HKG has been monitoring the financial problems of AIG and
their impact upon AIA in Hong Kong. Tsang said the HKG Office of
the Commissioner of Insurance has maintained close contacts with
regulatory organizations in the United States, senior management of
AIG, and the leadership of AIA in Hong Kong, in an effort to assess
the impact of AIG's problems on AIA's operations and financial
health. Tsang said, "The insurance authority here has a wide range
of statutory powers to protect the interests of policyholders. Hong
Kong has a healthy insurance system and should be able to handle the
current situation."


6. Meanwhile, Chief Executive Donald Tsang said on September 16 that
Hong Kong would maintain a "free economy" and refrain from
government intervention, despite the current financial turbulence.
Hong Kong Monetary Authority Chief Executive Joseph Yam did not

HONG KONG 00001726 002 OF 002


directly address the difficulties of AIG/AIA, while meeting with
local media on September 17. He stressed the HKG's "strong systems"
for supervising the operations and financials of banks, securities
firms and insurance companies. Yam said AIG's problems will
probably not be resolved by government intervention alone, and he
stressed the importance of market-based solutions for the current
global financial difficulties.

Chinese Language Newspapers Urge "Exceptional Approach"
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7. Editorials on September 17 in two large dailies, Ming Pao and
Sing Tao Daily, urged the HKG to take extraordinary measures to
protect the interests of AIA policyholders. Ming Pao's editorial
suggested the government should freeze AIA's assets, if necessary,
to prevent its assets or financial reserves from being shifted to
AIG in the United States. Sin Tao Daily recommended that the HKG
"show its courage" and adopt an "exceptional approach to handle the
crisis." Market participants remained unsure about whether AIG
still needed substantial funding from its operating susidiaries,
following the USG's decision to extend a US$ 85 billion line of
credit to AIG and take over majority ownership of the firm.

DONOVAN