Bold, Creative, Aggressive Policy Action Needed for GSEs to Survive

Investors flocked to Monday morning's routine Freddie Mac auction, indicating that they remain confident that the GSE won't fall, yet economists say much more action is needed to give Fannie Mae and Freddie Mac the boost they need to survive the current crisis.

At 9:45 EDT, $3 billion worth of debt was sold with higher demand than at a previous auction held on July 7. Fannie will hold a similar auction of debt on Wednesday.

The two government-sponsored enterprises (GSEs) finance about half of the $10.6 trillion of mortgage debt in the U.S. housing market. Shares of Fannie and Freddie have nosedived since the start of the month, falling 50% and 59% respectively.

On the weekend, U.S. officials announced plans to allow the companies to borrow from the Fed's discount window and said the Treasury may take an equity stake in the GSEs. Shares of the companies opened the week sharply higher but sentiment rapidly deteriorated. At 1 p.m. EDT, shares of Fannie were down 6.3% and those of Freddie were down 16.3%.

Brian Bethune, chief U.S. financial economist at Global Insight, said "Bold, creative, aggressive policy action is needed for the GSEs to survive in their current capacity as private entities, and it is needed now."

He called the capitalization-crisis of Fannie Mae and Freddie Mac a "potentially dangerous turn of events in the current U.S. business cycle" that must be "defused swiftly and effectively, because failure to do so would risk a further meltdown of the housing and mortgage markets of proportions not seen since the depression era."

Bethune said access to the discount window "will be a very effective tool," but that the Treasury also needs to specify how much capital it intends to infuse into the GSEs within the next two or three days. "This capital infusion needs to be very significant - perhaps as much as $20 billion, or higher, for both entities - in order to defuse the speculative selling of GSE stocks that has been unleashed and reverse the negative psychology quickly and effectively," he added.

Meanwhile, Barney Frank, chairman of the House Financial Services Committee, said investors were "inaccurately worried" that the GSEs were becoming insolvent.

"I am reasonably certain the loans will never have to be made and certain that if they were made, they'd be paid back," Frank said Monday on CNN.

By Patrick McGee and with contributions from Adam Button and edited by Sarah Sussman