Fannie, Freddie and the Fed Loan $400 Billion to Financial Markets

Last Wednesday, Federal regulators agreed to let Fannie Mae and Freddie Mac take on another $200 billion in subprime mortgage debt. The two government-sponsored enterprises (GSE) would buy mortgages from banks, a process known as buying on the secondary market. They then package these into mortgage-backed securities, and resell them to investors on Wall Street. All will go well if the mortgages are good, but if they turn south, then the two GSE's would be liable for the debt. (Source: Washington Post, More Cash for Mortgages, March 21, 2008)

This is in addition to the $200 billion in Treasury notes the Federal Reserve announced it will loan to bail out bond dealers who are stuck with mortgage-backed securities and other collateralized debt obligations (CDO's) that they can't resell on the secondary market. (See Fed $200 Billion Loan Probably Won't Help)

What It Means to You

If Fannie, Freddie and the Fed get stuck with the $400 billion in bad debt, then this will cost three times as much as the Savings and Loan Crisis, which "only" cost the taxpayers $124 billion.

In all likelihood, however, last week's actions have avoided a financial meltdown. Although it is possible that the economy is already headed for a recession, it will be less painful than if the government had done nothing. The worst case scenario is that this debt would get added to the $9 trillion national debt, which is a chronic situation that continues to depress the dollar and raise the price of imports.

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