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ITEM 7 / ENTERPRISE RISK MANAGEMENT.....................................................................................................................................................................................$378 million and a net increase of Canadian-dollar exposure of $92 million due to unrealized investment appreciationand positive results from operations; Euro exposure as a result of a reduction in euro-denominated debt outstandingof $231 million, additional purchases of the AIRE real estate investment vehicle of $109 million as well as unrealizedinvestment appreciation and positive results from operations at AIG Europe SA of $147 million; and a net increaseacross currencies of $258 million.For illustrative purposes, we modeled our sensitivities based on a 100 basis point increase in yield curves, a20 percent decline in equities and alternative assets, and a 10 percent depreciation of all foreign currency exchangerates against the U.S. dollar. This should not be taken as a prediction, but only as a demonstration of the potentialeffects of such events.The sensitivity factors utilized for 2012 and presented above were selected based on historical data from 1992 to2012, as follows (see the table below):• a 100 basis point parallel shift in the yield curve is consistent with a one standard deviation movement of thebenchmark ten-year treasury yield;• a 20 percent drop for equity and alternative investments is broadly consistent with a one standard deviationmovement in the S&P 500; and• a 10 percent depreciation of foreign currency exchange rates is consistent with a one standard deviationmovement in the U.S. dollar (USD)/Japanese Yen (JPY) exchange rate.2012 Scenario 2012 as a Original 2011as a Multiple 2012 Multiple Scenario (based onStandard Suggested of Standard Change/ of Standard Standard Deviation forPeriod Deviation 2012 Scenario Deviation Return Deviation 1990-2011 Period)10-Year Treasury 1992-2012 0.01 0.01 0.99 – 0.11 0.01S&P 500 1992-2012 0.19 0.20 1.07 0.13 0.72 0.20USD/JPY 1992-2012 0.11 0.10 0.88 (0.11) 1.00 0.10Liquidity Risk Management..............................................................................................................................................................................................Liquidity risk is defined as the risk that our financial condition will be adversely affected by the inability or perceivedinability to meet our short-term cash, collateral or other financial obligations.The failure to appropriately manage liquidity risk can result in reduced operating flexibility, increased costs, andreputational harm. Because liquidity is critically important, our liquidity governance includes a number of liquidity andfunding policies and monitoring tools to address both AIG-specific, broader industry and market related liquidityevents.Sources of Liquidity risk can include, but are not limited to:• financial market movements – significant changes in interest rates can provide incentives for policyholders tosurrender their policies. Changes in markets can impact collateral posting requirements or create difficulty toliquidate assets at reasonable values to meet liquidity needs due to unfavorable market conditions, inadequatemarket depth, or other investors seeking to sell the same or similar assets;• potential reputational events or credit downgrade – changes can have an impact on policyholder cancellations andwithdrawals or impact collateral posting requirements; and• catastrophic events, including natural and man-made disasters, can increase policyholder claimsThe principal objective of ERM’s liquidity risk framework is to protect AIG’s liquidity position and identify a diversity offunding sources available to meet actual and contingent liabilities during both normal and stress periods.We have structured our consolidated risk target to maintain a minimum liquidity buffer. AIG Parentliquidity risk tolerance levels are established for base and stress scenarios over a two-year time horizon designed toensure that funding needs are met under varying market conditions. If we project that we will breach the tolerance,we will assess and determine the appropriate liquidity management actions. However, the market conditions in effectat that time may not permit us to achieve an increase in liquidity sources or a reduction in liquidity requirements...................................................................................................................................................................................................................................164 AIG 2012 Form 10-K