The Special Inspector General for the U.S. government's financial system bailout said Wednesday that the $168 million in retention payments to American International Group Inc. (AIG) represented a "failure" that occurred when the U.S. Treasury Department "outsourced its oversight" to other agencies.

"This was a failure of communications, a failure of management," inspector general Neil Barofsky told the House Committee on Oversight and Government Reform. He highlighted the fact that the Treasury Department did not find out from better-informed officials at the Federal Reserve Bank of New York about the $168 million of retention payments for employees in the insurance company's troubled financial services division until two weeks before they were issued last March. And even when Treasury Department officials found out about the imminent payments, they did not alert Treasury Secretary Timothy Geithner for an additional 10 days, he said.

Committee Chairman Edolphus Towns, D-N.Y., asked Barofsky if he would characterize the lack of cooperation as a break-down in communications between the Treasury and the New York Federal Reserve.

"I think that would be kind, to have it as a breakdown," Barofsky said. "Communications were virtually nonexistent." As guardians of the taxpayer-funded bailout, the Treasury Department had specific responsibilities to oversee executive compensation that the New York Fed did not, Barofsky said. To the New York Fed, the $168 million in retention payments was not significant compared to the size of the government's $180 billion bailout of the insurance company and did not identify it as a politically explosive issue.

"They didn't think it was that big a deal - $168 million was a drop in the bucket," Barofsky said. "Their concern was paying back the debt. The Federal Reserve was looking at this as a creditor."

Barofsky agreed with lawmakers' comments that "retention payments" paid to AIG administrative employees, including to a file administrator and kitchen assistant, were not necessary to keep irreplaceable employees from resigning.

"Somebody who made the decision to give these bonuses made the decision to make everyone happy and not to act in the interest of American taxpayers," said ranking member Rep. Darrell Issa, R-Calif.

Barosky said in any future government bailouts of this magnitude, the Treasury Department should either take on the primary oversight role or establish specific procedures to maintain communications.

There need to policies in place to ensure a "comprehensive and not ad-hoc review of executive compensation and other politically sensitive issues," Barofsky said. He also said he planned to work with "pay czar" Kenneth Feinberg to review compensation packages for the highest-paid executives at seven companies that have received special government assistance.

"That's clearly within our jurisdiction," Barofsky said.

-By Kristina Peterson, Dow Jones Newswires; (202) 862-6619; kristina.peterson@dowjones.com