WASHINGTON — The historic seizure Sunday of mortgage finance titans Fannie Mae and Freddie Mac is expected to bolster the nation's sinking housing sector by lowering mortgage rates and jump-starting the obscure background market that is vital to home lending.
Treasury Secretary Henry Paulson announced in a Sunday morning news conference that the government was seizing Fannie Mae and Freddie Mac on the grounds that their weak accounting standards and ambiguous role as quasi-public enterprises posed a growing threat to global financial markets.
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"We examined all options available and determined that this comprehensive and complementary set of actions best meets our three objectives of market stability, mortgage availability and taxpayer protection," Paulson said.
The White House praised the move, saying that "Americans should be confident that the actions taken today will strengthen our ability to weather the housing correction and are critical to returning the economy to stronger sustained growth in the future."
Fannie and Freddie will continue to operate as normal but under conservatorship, a process similar to a Chapter 11 bankruptcy, where a business is allowed to restructure its operations.
Treasury will purchase, as of later this month, Fannie and Freddie bonds in the open market to boost home lending and set an example for investors. It also will provide a special lending fund to help Fannie and Freddie weather any future financial storms. This fund will be open-ended, so it guarantees the two can't become insolvent.
Paulson didn't put a price tag on his plan, but the Congressional Budget Office earlier this year estimated a rescue could cost as much as $25 billion. The Treasury plan was designed to recover the upfront costs over time and could result in profits for the federal government over a larger horizon.
The plan, worked out with the Federal Housing Finance Agency, the regulator of the two entities, will eliminate the dividend on Fannie's and Freddie's common and preferred stock to save about $2 billion in capital that otherwise would have gone to investors.
In the short run, the plan has the effect of diluting the value of current shares of Fannie and Freddie stock. But shareholders may win in the longer term if the plan stabilizes the housing market and leads to a rebound.
FHFA chief James Lockhart appointed private sector bankers to head Fannie and Freddie and said that their "compensation will be significantly lower than the outgoing CEOs," Daniel Mudd at Fannie Mae and Richard Syron at Freddie Mae. He was pointing to a frequent criticism of the for-profit entities that enjoyed implicit U.S. government backing but operated as private companies with huge bonuses for their directors.
Herb Allison, who was chairman of retirement-plan administrator TIAA-CREF, will now run Fannie Mae. David Moffett, who was the chief financial officer of U.S. Bancorp up until last year, will head Freddie Mac. He is a senior adviser to private equity giant The Carlyle Group.
In late July Congress gave the Treasury Department additional powers to inject money into Fannie and Freddie, but Paulson determined an actual takeover would calm nervous markets more than pumping money into the two.
He was supported Sunday by Federal Reserve Chairman Ben Bernanke, who in a statement said the action "will provide critical support for mortgage markets in this period of unusual credit-market uncertainty."
The two mortgage finance companies purchase mortgages from commercial banks and other lenders, then pool them and sell them as bonds in what's called the secondary mortgage market. While arcane and complex, this secondary market makes possible the widespread mortgage lending that's a hallmark of the American way of life.
Fannie and Freddie together own or back more than half of the nation's mortgage debt, or about $5.4 trillion.
Fannie Mae was created in 1938 to boost home ownership after the Great Depression, while Freddie Mac was created in 1970 to provide more competition.