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ITEM 8 / NOTE 12. DERIVATIVES AND HEDGE ACCOUNTING.....................................................................................................................................................................................designated as hedges of the change in fair value of foreign currency denominated available-for-sale securitiesattributable to changes in foreign exchange rates. We previously designated certain interest rate swaps entered intoby GCM with third parties as cash flow hedges of certain floating rate debt issued by ILFC, specifically to hedge thechanges in cash flows on floating rate debt attributable to changes in the benchmark interest rate. We de-designatedsuch cash flow hedges in December 2012 subsequent to the announcement of the ILFC Transaction.We use foreign currency denominated debt and cross-currency swaps as hedging instruments in net investmenthedge relationships to mitigate the foreign exchange risk associated with our non-U.S. dollar functional currencyforeign subsidiaries. We assess the hedge effectiveness and measure the amount of ineffectiveness for these hedgerelationships based on changes in spot exchange rates. For the years ended December 31, 2012, 2011, and 2010we recognized gains (losses) of $(74) million, $(13) million and $28 million, respectively, included in Foreign currencytranslation adjustment in Accumulated other comprehensive income related to the net investment hedgerelationships.A qualitative methodology is utilized to assess hedge effectiveness for net investment hedges, while regressionanalysis is employed for all other hedges.The following table presents the effect of our derivative instruments in fair value hedging relationships in theConsolidated Statement of Operations:Years Ended December 31,(in millions) 2012 2011Interest rate contracts: (a)Loss recognized in earnings on derivatives $ – $ (3)Gain recognized in earnings on hedged items (b) 124 152Foreign exchange contracts: (a)Loss recognized in earnings on derivatives (2) (1)Gain recognized in earnings on hedged items 2 1(a) Gains and losses recognized in earnings for the ineffective portion and amounts excluded from effectiveness testing, if any, are recorded inNet realized capital gains (losses).(b) Includes $124 million and $149 million, for the years ended December 31, 2012 and 2011, respectively, representing the amortization of debtbasis adjustment recorded in Other income and Net realized capital gains (losses) following the discontinuation of hedge accounting.The following table presents the effect of our derivative instruments in cash flow hedging relationships in theConsolidated Statement of Operations:Years Ended December 31,(in millions) 2012 2011Interest rate contracts (a) :Gain (loss) recognized in OCI on derivatives $ (2) $ (5)Gain (loss) reclassified from Accumulated OCI into earnings (b) (35) (55)(a) Hedge accounting was discontinued in December 2012 subsequent to the announcement of the ILFC Transaction. Gains and losses recognized inearnings are recorded in Income (loss) from discontinued operations. Previously the effective portion of the change in fair value of a derivative qualifying asa cash flow hedge was recorded in Accumulated other comprehensive income until earnings were affected by the variability of cash flows in the hedgeditem. Gains and losses reclassified from Accumulated other comprehensive income were previously recorded in Other income. Gains or losses recognizedin earnings on derivatives for the ineffective portion were previously recorded in Net realized capital gains (losses).(b) Includes $19 million for the year ended December 2012, representing the reclassification from Accumulated other comprehensive income intoearnings following the discontinuation of cash flow hedges of ILFC debt...................................................................................................................................................................................................................................AIG 2012 Form 10-K 279