banks'combined exposures exceeded $ 50 billion. 1 money market mutual funds and others that held aig's roughly $ 20 billion of commercial paper would also have taken losses. in addition, aig's insurance subsidiaries had substantial derivatives exposures to aig - fp that could have weakened them in the event of the parent company's failure. moreover, as the lehman case clearly demonstrates, focusing on the direct effects of a default on aig's counterparties understates the risks to the financial system as a whole. once begun, a financial crisis can spread unpredictably. for example, lehman's default on its commercial paper caused a prominent money market mutual fund to " break the buck " and in addition, many of these same banks had borrowed securities from aig's securities lending program for which they had given aig cash as collateral. upon an aig bankruptcy, the banks would have taken possession of the securities instead of receiving back their cash, exposing them to possible losses on those securities. suspend withdrawals, which in turn ignited a general run on prime money market mutual funds, with resulting severe stresses in the commercial paper market. as i mentioned, aig had about $ 20 billion in commercial paper outstanding, so its failure would have exacerbated the problems of the money market mutual funds. another worrisome possibility was that uncertainties about the safety of insurance products could have led to a run on the broader insurance industry by policyholders and creditors. moreover, it was well known in the market that many major financial institutions had large exposures to aig. its failure would likely have led financial market participants to pull back even more from commercial and investment banks, and those institutions perceived as weaker would have faced escalating pressure. recall that these events took place before the passage of the emergency economic stabilization act, which provided funds that the treasury used to help stem a global banking panic in october. consequently, it is unlikely that the failure of additional major firms could have been prevented in the wake of the failure of aig. at best, the consequences of aig's failure would have been a significant intensification of an already severe financial crisis and a further worsening of global economic conditions. conceivably, its failure could have resulted in a 1930s - style global financial and economic meltdown, with catastrophic implications for production, income, and jobs. the decision by the federal reserve on september 16, 2008, with the full

agency had had such tools on september 16, they could have been used to put aig into conservatorship or receivership, unwind it slowly, protect policyholders, and impose haircuts on creditors and counterparties as appropriate. that outcome would have been far preferable to the situation we find ourselves in now. second, the aig situation highlights the need for strong, effective consolidated supervision of all systemically important financial firms. aig built up its concentrated exposure to the subprime mortgage market largely out of the sight of its functional regulators. more - effective supervision might have identified and blocked the extraordinarily reckless risk - taking at aig - fp. these two changes could measurably reduce the likelihood of future episodes of systemic risk like the one we faced at aig.