Housing market not out of the woods — yet

The takeover will add tens — perhaps hundreds — of billions of dollars to the national debt at a time when the government faces the looming Medicare and Social Security costs of the now-retiring baby boom.

Putting a price tag on the total cost to taxpayers is difficult. First, it’s not clear just how much cash Fannie and Freddie currently have on hand to weather coming losses; published reports suggest they have been slow to book the full impact of current mortgage losses.

“House prices are still falling," said Robert McKee, chief economist at the London-based advisory firm Independent Strategy Inc. “Losses are going to be made by the agencies and other mortgage lenders over the next year and a half. There's no way of escaping that. And even if they don't carry through foreclosure, they’re going to be in a much more difficult position. So I think we're talking about hundreds, maybe $300 billion worth of taxpayer money being exposed to the home mortgage market. Whether they'll get that back in the future remains to be seen."

Banks and investment funds holding mortgage-backed bonds will be helped by the government promise to buy up the worst of this toxic paper, which will help put a floor under the value of those holdings. But until falling housing prices and rising foreclosure rates begin to stabilize, it’s hard to know how much more banks will have to write down those losses.

There’s a flip side for banks, many of which have big holdings in Fannie Mae and Freddie Mac stock. In return for taking over Fannie and Freddie, the government took $1 billion in new stock. That could help offset some of the losses taxpayers will face in cleanup costs. But it also watered down the value of outstanding Fannie and Freddie stock held by banks, which will now have to write down those holdings.

As a result, the takeover "will shoot another hole in the severely battered hull of the financial system capital," according to Brian Bethune, chief financial economist at Global Insight.

To the extent that the housing market has dragged the U.S. economy into what many analysts are now describing as a recession, the takeover of Fannie and Freddie could mark an important turning point. But the worry is that the downturn in the economy has moved beyond the housing slump and developed a momentum of its own.

Friday’s employment report showed weakness in the job market spreading beyond the housing and construction industries. The global economy has also begun to lose momentum. Combined with recent strength in the dollar, that could put a crimp on the gains in exports that have partly offset the economic weakness in housing and financial sectors.

“Put simply, the economy is in recession and the changes unveiled today are not likely to alter the course of the business cycle," said Merrill Lynch economist David Rosenberg.

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