Today's Papers

When Giants Fall

The New York Times, Washington Post, and Los Angeles Timeslead with the news the papers have been previewing all weekend: The U.S. government officially took control of mortgage giants Fannie Mae and Freddie Mac yesterday. In basic terms, this means that the government now has control over the companies that fund around two-thirds of all new home mortgages. Or, as the LAT succinctly summarizes: “Washington’s move means the federal government will directly back the great majority of the nation’s home mortgages.” And if the magnitude of that fact is still not clear, the papers all make sure to emphasize that this is A Big Deal. The NYT calls it “a seismic event” and the Wall Street Journal characterizes it as the “most dramatic market intervention in years.”

USA Todayfronts the Fannie and Freddie news but leads with a new poll taken over the weekend that shows John McCain got a big bounce from the Republican Convention. He now leads Barack Obama by 50 percent to 46 percent, a marked turnaround. Among likely voters, McCain leads 54 percent to 44 percent. The huge 19-point advantage that Obama had on handling the economy has virtually disappeared, and Republicans are also much more enthusiastic about voting than before the convention. Experts are quick to warn that post-convention bounces are often fleeting. “It is really surprising how quickly convention memories fade,” one political scientist said. The WSJ leads its world-wide newsbox with Hurricane Ike killing dozens in Haiti as Cuba rushed to evacuate those in the path of the Category 3 storm. The hurricane is expected to reach the Gulf Coast this week.

When Treasury Secretary Henry Paulson announced the government’s takeover of Fannie and Freddie yesterday, he described it as the only viable option to deal with the current crisis. “Failure of either of them would cause great turmoil in our financial markets here at home and around the globe,” Paulson said. The plan put the two companies under the management control of their regulator, the Federal Housing Finance Agency, and their chief executives were summarily fired. The government will receive $1 billion of preferred shares in each company and the Treasury is committed to providing as much as $100 billion to each company to cope with any shortage of capital. In exchange for its help, the government would also get the right to buy up to 80 percent of the companies for a nominal fee.

In what the LAT calls “perhaps the most unexpected aspect of its rescue effort,” the government also announced that the Treasury would buy at least $5 billion of new mortgage-backed securities issued by the two companies. This could help restore confidence and even bring down the interest rates for some home mortgages. The companies could then expand to ease the pain of the credit crunch until the end of 2009, at which point Paulson said he wants the companies to shrink dramatically by reducing their mortgage holdings by 10 percent a year. Of course, that’s all likely to change, depending on the makeup of the next administration and Congress, and some were already speaking up against plans to shrink the mortgage giants dramatically.

“There is no guarantee that the takeover will work,” declares the WP, “and it comes at a potentially massive cost to taxpayers.”

So how much will all this cost? No one knows, and estimates are hard to come by (yesterday, the NYT explained that it’s unlikely the Treasury will release an estimate on such a huge bailout before the presidential elections). If, as many predict, problems in the mortgage market continue and foreclosures rise, it could add up to “an expensive tab,” notes USAT. The NYT points out that the Congressional Budget Office said two months ago it might cost $25 billion, but many think the final figure will be significantly higher. And the Post says the $29-billion rescue of Bear Stearns could seem like chump change once this is all over. But, on the upside, if the companies return to profitability, the government would be first in line to get its money back.

Existing shareholders are likely to incur huge losses, while the plan protects holders of the companies’ debt. These bondholders, which include mutual funds, foreign central banks, and government investment funds, are “the biggest winners” (WP) since their investment has the explicit backing of the U.S. government. Asian investors cheered the news, and markets rallied at the opening bell today. Most politicians, including the two running for president, expressed their support for the plan.

The NYT and WSJ both front deeply reported blow-by-blow accounts of how the decision to take over Fannie and Freddie was made in marathon 18-hour days that led officials to realize they really had no other choice. The NYT emphasizes that when Congress awarded Paulson the power to bail out the mortgage giants if necessary, he never intended to use it. “But he quickly learned that getting those powers made their execution inevitable,” says the NYT. Paulson began telling his friends that he “felt like a dog who’d caught a bus and didn’t know what to do with it.” Investors became nervous about putting money in the company without knowing the Treasury’s plans, and fears that foreign governments would stop buying the companies’ debt began to grow.

The WSJ highlights that until last month, Treasury officials thought that if they had to intervene, it would be through an equity investment. It was only in the middle of August that officials began to realize that wouldn’t be enough and, on Friday, Paulson told the companies they either agreed to a takeover or one would be forced on them. The NYT says that Fannie’s chief executive pleaded with Paulson to save the company since it was in better shape than Freddie, but Paulson refused. He shouldn’t feel too bad, though. The NYT reports that the head of Fannie Mae could collect  a $9.3 million exit package, while the chief executive of Freddie Mac could get at least $14.1 million. That is, of course, on top of the millions they’ve already earned while running the companies so spectacularly for a few years.

How did we get here? The NYT says that the “downfall of Fannie and Freddie stems from a series of miscalculations and deferred decisions, both by their executives and government officials.” First, the companies expanded rapidly and ignored risks and then they failed to raise enough rainy-day capital while lawmakers just stood by and watched.

In a Page One column, the WP’s Steven Pearlstein also looks into the events that led to yesterday’s takeovers and says that while executives at Fannie and Freddie, along with their regulators, share some of the blame, “a good chunk of the responsibility should be assigned to elected politicians.” Lawmakers were so busy arguing about the ideological basis for Fannie and Freddie that they neglected to increase oversight.

Several are quick to note that as much as the takeover plan might help reassure investors that the mortgage market isn’t going under, it’s hardly a panacea. The WSJ points out that “it won’t cure the housing market’s biggest ailments: falling home prices and rising foreclosures.” And investors are also likely to conclude the takeover is a sign that the country’s economic problems are far from over. Meanwhile, the NYT notes that the dramatic announcement also highlighted how reliant the U.S. economy is on Asian investors.

In other news, the NYT’s Carlotta Gall goes to the village in Afghanistan where U.S. forces carried out an airstrike on Aug. 22. The strike has become a source of controversy because a U.N. investigation said that more than 90 civilians were killed while the U.S. military has insisted that the real number is between five and seven civilians. But the senior American commander in Afghanistan has requested further investigation, due to what he called “emerging evidence.” Gall talks to villagers, including a doctor, and counts the graves, all of which appear to support the account from the Afghans. The U.S. military says militants encouraged the villagers to exaggerate their stories, but many of those who spoke to the NYT have ties to the government and insist they wouldn’t take orders from the Taliban.

The LAT fronts a look at a debate currently going on in the Pentagon about whether the military should develop its capacity for cyber attacks. Until now, the focus has always been on defending U.S. networks and intelligence gathering, but some senior officials think the Pentagon needs to take a more proactive approach in developing its capabilities to carry out electronic attacks. Those pushing for these new programs have been citing Russia’s use of cyberspace to try to convince Pentagon leaders that the United States can’t stand back and needs to develop more advanced cyberwarfare methods.

Now that we know former Attorney General Alberto Gonzales repeatedly mishandled highly classified information while on the job, the WP’s editorial board has a few basic questions: “Was Alberto R. Gonzales the least intellectually gifted attorney general in history? Did he possess the worst memory? Was he incapable of telling the truth? All of the above?”