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TechnoratiWASHINGTON — Senior officials from the Bush administration and the Federal Reserve on Friday informed top executives of mortgage finance giants Fannie Mae and Freddie Mac that the government was preparing to seize the two companies and place them in a conservatorship, officials and company executives briefed on the discussions said.
The plan, effectively a government bailout, was outlined in separate meetings that the chief executives were summoned to attend on Friday at the office of the companies' new regulator. The executives were told that, under the plan, they and their boards would be replaced, shareholders would be virtually wiped out, but the companies would be able to continue functioning with the government generally standing behind their debt, people briefed on the discussions said.
It is not possible to calculate the cost of any government bailout, but the huge potential liabilities of the companies could cost taxpayers tens of billions of dollars and make any rescue among the nation's largest ever.
Under a conservatorship, the remaining common and preferred shares of Fannie and Freddie would be worth little, and any losses on mortgages they own or guarantee could be paid by taxpayers. A conservatorship would operate much like a prepackaged bankruptcy, similar to what smaller companies use to clean up their books and then emerge with stronger balance sheets.
The executives were told that the government had been planning to announce the decision as early as Sunday, before the Asian markets reopen, the officials said.
For months, administration officials have grappled with the steady erosion of the books of the two mortgage finance giants.
But the declining housing and financial markets have apparently now forced the administration's hand. With foreign governments growing increasingly skittish about holding billions of dollars in securities issued by the companies, no sign that their losses will abate any time soon and the inability of the companies to raise new capital, the administration apparently decided it would be better to act now rather than closer to the presidential election in two months.
The action would represent a major escalation of the government's role in private lending. The government would be assuming vast obligations it has historically disavowed, potentially using taxpayer money to make up for private business decisions gone wrong.
In an effort to contain the most profound financial crisis in generations, Treasury Secretary Henry Paulson, leaders of the Federal Reserve and other government officials have in recent months upended decades of precedent. A bailout of the two mortgage finance titans would follow a Fed rescue of investment bank Bear Stearns in March and earlier steps to provide implicit government backing to Fannie Mae and Freddie Mac.
Fannie Mae and Freddie Mac have backed 70 percent of new mortgages in recent months, but both have incurred vast losses on their loan portfolios as the housing market has tanked. Paulson, the architect of the plan, and other government leaders view the mortgage firms as vital to preventing an even broader financial crisis and economic downturn.
If the plan is enacted, it would bring under direct government control two companies that have a long and complicated history as hybrid public and private entities. In July, with the companies reeling from losses and as fears grew that they wouldn't be able to raise new cash privately, Paulson gained the power to invest government money in Fannie Mae and Freddie Mac through loans or buying company stock if he concludes it is necessary. In approving the authority, Congress gave Paulson power to invest an unlimited sum.
Although the companies' shares initially soared on that news, their financial positions have worsened in recent weeks, along with their ability to raise money on the markets.
If the government plan succeeds, uncertainty in the markets around Fannie Mae and Freddie Mac could subside, making it easier for the companies to get access to funding at cheaper rates.
That, in turn, could have a spillover effect in the overall market for mortgages, lowering interest rates and helping the battered housing market recover.
The Washington Post contributed to this report.
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