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The US government was on the brink of a deal to take control of the world's largest insurance company, AIG

The Federal Reserve late yesterday agreed to provide $85 billion in emergency funds to insurance giant American International Group to prevent a bankruptcy that threatened to send tremors through the U.S. and global financial markets.

In exchange, the Fed would gain rights to 79.9 percent of AIG's stock and have the power to veto dividend payments to shareholders. Two sources said the government would replace the chief executive.

The rescue represents a turnaround for federal officials, who this weekend declined to provide taxpayer money to bail out investment bank Lehman Brothers, which then failed to find a buyer and was forced to file for bankruptcy.

The Fed justified the action by saying a bankruptcy involving AIG would cause significant problems in the broader financial markets.

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