By: David Rogers

Trying to calm financial markets at home and abroad, the Bush administration on Sunday evening asked Congress to give the Treasury Department new authority to extend credit and to purchase securities from the two mortgage giants Fannie Mae and Freddie Mac.

Treasury Secretary Henry Paulson described the proposal as a “temporary” step and a “liquidity backstop.” But portions of the request do break new ground, and the timing of the announcement at 6 p.m. appeared clearly aimed toward reassuring international markets before they opened in Asia and risked spreading further turmoil to Europe and Wall Street.

Paulson acted after weekend consultations with leading members of Congress, and House Financial Services Committee Chairman Barney Frank (D-Mass.) told Politico that he is prepared to add the Treasury request to a pending housing bill that passed the Senate Friday night.

That measure must still undergo some changes in the House, but Frank was optimistic that the remaining issues and Paulson language can be resolved quickly this week.

“The markets are overreacting, and it’s an appropriate response to that,” Frank said of Treasury’s request. “In the long run, markets are rational, but there are moments when they can be hysterical as well.”

Paulson promised that both the extended credit and purchase of equities by the government would “carry terms and conditions to protect the taxpayer.”

Administration officials and Frank said the hope is that the new credit line won’t be needed; in fact, Paulson did not explicitly name its value. But given the dramatic drop in stock values for the two mortgage finance companies last week, the decision was that the government couldn’t just stand by.

“Fannie Mae and Freddie Mac play a central role in our housing finance system and must continue to do so in their current form as shareholder-owned companies,” Paulson said. “Their support for the housing market is particularly important as we work through the current housing correction.”

At the same time, he acknowledged that debt generated by the two government-sponsored entities is held by financial institutions around the world, and “its continued strength is important to maintaining confidence and stability in our financial system and our financial markets.”

Paulson’s proposal has three parts:

A temporary increase in the line of credit the GSEs have with Treasury. Treasury would determine the terms and conditions for accessing the line of credit and the amount to be drawn.
To ensure capital, the plan includes temporary authority for Treasury to purchase equity in either of the two GSEs if needed.
To protect the financial system going forward, the plan strengthens the GSE regulatory reform legislation currently moving through Congress by giving the Federal Reserve a consultative role in the new GSE regulator’s process for setting capital requirements and other prudential standards.

One byproduct of the request may be faster action on the housing bill. Behind the scenes, Paulson has been a strong ally for many in Congress, like Frank, who are trying to move the measure forward. Adjustments are needed so as not to undercut the secretary. The most likely casualty will be a package of Community Development Block Grant funds in the Senate bill.

And Frank indicated he was prepared to give some ground on prior House demands to raise the loan limits to better reflect the costly housing market in California, home of Speaker Nancy Pelosi.

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