The Federal Reserve meanwhile said it would give Fannie and Freddie access to emergency funds on the same terms as banks, “should such lending prove necessary”.
The rescue plan, announced by Treasury secretary Hank Paulson, came after a weekend of crisis talks involving Mr Paulson, Fed chairman Ben Bernanke, and New York Fed chief Tim Geithner.
It goes further than many market participants expected. In effect the government is seeking full discretion to inject both debt and equity into Fannie and Freddie, and take them over if necessary.
The Fed will act as a bridge by providing a backstop source of emergency finance in the interim while Congress passes the required legislation.
The extent of the move reflects Washington’s fears that failure to bolster Fannie and Freddie could deepen financial turmoil, undermining domestic and foreign investors’ fragile confidence in US capital markets and the dollar. “We need to stabilise the current situation,” a senior Treasury official said on Sunday night.
In a statement released on Sunday before the start of trading in Asia – where central banks are among the biggest holders of Fannie and Freddie debt – Mr Paulson said the two enterprises, which own or guarantee more than $5,300bn in US mortgages, “play a central role in our housing finance system and must continue to do so in their current form”.
Mr Paulson outlined a three-pronged strategy to resolve the crisis at Fannie and Freddie, whose shares have collapsed over concerns about their potential losses on mortgage holdings.
Under the plan, the Treasury will be authorised to increase its existing $2.25bn lines of credit to Fannie and Freddie. In addition, the Treasury will have temporary authority to purchase equity in either of the two entities if needed. Support will be at the discretion of the Treasury secretary. “Use of either the line of credit or the equity investment would carry terms and conditions necessary to protect the taxpayer,” Mr Paulson said.
The third part of the plan allows Fannie and Freddie to borrow from the Fed’s “discount window” through which it extends emergency finance in return for collateral. The Fed will also be granted a consultative role in shaping the future regulatory framework for Fannie and Freddie.
A senior Treasury official said Mr Paulson had spoken to all key figures in Congress and was confident that the authorising legislation would be inserted into the housing bill making its way through Congress and swiftly approved.
The market will get the chance to express its views on Paulson plan today when Freddie begins marketing $3bn in short-term debt. Wall Street bankers said Treasury officials had been in touch with big investment and commercial banks to ensure they were still considering placing bids for the bond sale.