The largest financial bailout in US history has investors around the world breathing a sigh of relief – for the moment.
On Sunday, Washington took over ailing mortgage giants Fannie Mae and Freddie Mac, a move that was praised by China and Japan, the biggest buyers of their bonds.
However, the markets are under no illusion that the bailout will end the global credit market misery.
US Treasury Secretary Henry Paulson said it is difficult to know the ultimate cost of this, but it had to be done: “Fannie Mae and Freddie Mac are so large and so interwoven in our financial system that a failure of either of them would cause great turmoil, here at home and around the globe.”
The companies – which own or guarantee almost half of the outstanding home mortgage debt in the US – have been placed under federal control because house prices there are plunging after the bubble burst and banks stopped lending following the sub-prime mortgage crisis.
Guy Cecala, who publishes the industry news letter Inside Mortgage Finance, agreed that the US Treasury’s move was essential to restore confidence: “If you have no confidence in private institutions because you are worried about their ability to survive, you need someone like Uncle Sam who nobody will question the ability to survive stepping in and actually acting as a backstop.”
But this is a big gamble for the US government; if house prices do not start to turn around there, Fannie Mae and Freddie Mac’s assets – that is the mortgages on which they are expecting repayments – will fall in value, leaving the American taxpayer with a massive bill.