July 14 (Bloomberg) -- Treasury Secretary Henry Paulson put the weight of the federal government behind Fannie Mae and Freddie Mac, the beleaguered companies that buy or finance almost half of the $12 trillion of U.S. mortgages.

Paulson, speaking yesterday on the stairway to the Treasury facing the White House, asked Congress for authority to buy unlimited stakes in the companies and lend to them, aiming to stem a collapse in confidence. The Federal Reserve separately authorized the firms to borrow directly from the central bank. A gauge of bondholders' demand increased at an auction of Freddie debt today.

The steps would bring the U.S. closer to giving an explicit guarantee for the debt sold by the shareholder-owned, federally chartered companies. That reflects a need for the government to bail out an economy that's been rocked by the worst housing recession in 25 years, the credit crisis, and soaring energy costs.

``They appear to be crossing the Rubicon,'' Sean Egan, president of Egan-Jones Ratings Co., a credit-rating company based in Haverford, Pennsylvania, said, referring to Caesar's invasion of Rome to set up a dictatorship.

Treasury spokeswoman Brookly McLaughlin said in a statement today that the authority to buy shares of the two companies ``is not something we expect to use'' and is a ``backstop to serve on an as-needed basis.''

The announcements yesterday in Washington followed weekend talks between the firms, government officials, lawmakers and regulators, after Fannie Mae and Freddie Mac lost about half their value last week.

`Explicit' Guarantee

Paulson's proposal, which the Treasury anticipates will be incorporated into an existing congressional bill and approved this week, signals a shift toward an explicit guarantee of Fannie Mae and Freddie Mac debt. The shareholder-owned companies are government-sponsored enterprises, giving investors the indication of an implicit federal backing.

Fannie Mae and Freddie Mac shares were little changed in New York composite trading after rallying in Europe before U.S. markets opened. Fannie Mae was up 1.9 percent at $10.44 at 10:10 a.m. in New York, and Freddie Mac advanced 2.7 percent to $7.96. Fannie fell 45 percent last week and Freddie Mac lost 47 percent.

``It is time to recognize that the GSEs were always dependent upon government support and now we must make the implicit explicit,'' said Christopher Whalen, co-founder of independent research firm Institutional Risk Analytics in Torrance, California.

Lines of Credit

Paulson proposed that Congress give the Treasury temporary authority to buy equity in the firms ``if needed,'' and to increase their lines of credit with the department from $2.25 billion each. The temporary authority may be for 18 months, a Treasury official told reporters on a conference call on condition of anonymity.

As lenders retreated from the housing market, Washington- based Fannie Mae and McLean, Virginia-based Freddie Mac grew to account for more than 80 percent of the home loans packaged into securities.

``Fannie Mae and Freddie Mac provide an enormous amount of liquidity to the mortgage market'' and ``without them, mortgage rates would be significantly higher,'' Mark Vitner, senior economist at Wachovia Corp. in Charlotte, North Carolina, wrote in a note to clients. ``The bailout is for the housing market and the broader U.S. economy.''

The Treasury and Fed acted yesterday evening in Washington before Asian financial markets opened, and ahead of Freddie Mac's $3 billion auction of short-term notes today. The timing indicated officials were concerned about a collapse in private investors' willingness to fund the firms. The companies issue debt to raise money for their purchases of mortgage securities.

Bill Auction

Freddie Mac sold $2 billion of three-month bills at a yield of 2.309 percent and $1 billion of six-month reference bills at 2.496 percent. The bid-to-cover ratio, which gauges demand by comparing total bids with the amount of securities offered, was more than 50 percent above the average of the past three months, according to Stone & McCarthy Research Associates.

Paulson also proposed that the Fed get a ``consultative role'' overseeing the companies' capital requirements. The central bank's role has already grown during the credit crisis to include sharing supervision of investment banks with the Securities and Exchange Commission.

Yesterday's announcements came two days before Fed Chairman Ben S. Bernanke's semiannual testimony on the economy to Congress, where he will likely face questions from lawmakers on the implications of the Fannie Mae and Freddie Mac turmoil.

Rate Outlook

While the Fed last month signaled that inflation was starting to pose a larger threat than economic growth, the chance of an interest-rate increase this year is fading, analysts said.

``It is hard to see them tightening anytime this year,'' said Brian Sack, senior economist at Macroeconomic Advisers LLC in Washington, who used to work at the Fed. Growth in the second half of the year ``looks weaker than we thought'' as the housing downturn continues, he said.

Paulson said use of the Treasury's credit line or any stock investment ``would carry terms and conditions necessary to protect the taxpayer.'' The Treasury official said he didn't recall any time in the past when the government has taken an equity stake in either company.

Some analysts were skeptical about protecting taxpayers.

`Unmitigated Disaster'

``These companies were going to go bankrupt if they hadn't stepped in to do something, and they should go bankrupt,'' Jim Rogers, chairman of Singapore-based Rogers Holdings, said in an interview with Bloomberg Television. The Paulson plan is an ``unmitigated disaster,'' said Rogers, who in 2006 correctly forecast oil would reach $100 a barrel.

The Treasury also proposed temporary access to a bigger credit line for the Federal Home Loan Banks, the dozen regional lenders that extend credit to customers including commercial banks, thrifts, insurance companies and credit unions.

Congressional reaction wasn't uniform. While Senator Charles Schumer, a New York Democrat who chairs the congressional Joint Economic Committee, expressed support, the head of the Senate Banking Committee refrained from any specific endorsement.

Christopher Dodd, the Connecticut Democrat who chairs the banking panel, said he planned to call over ``coming days'' a hearing with Paulson, Bernanke and Securities and Exchange Commission Chairman Christopher Cox.

Debate in Congress

Dodd said in an interview with CNBC that the it's a ``matter of debate'' whether Paulson's plan would be considered as separate legislation or be added to the existing housing bill, which would provide for up to $300 billion to insure refinanced mortgages.

President George W. Bush in a statement called on Congress to enact the legislation.

The heads of the companies indicated the steps would help them keep access to private capital.

``Given the market turmoil, having options to access provisional sources of liquidity if needed will help to strengthen overall confidence in the market,'' Fannie Mae Chief Executive Officer Daniel Mudd said in a statement. ``We continue to hold more than adequate capital reserves.''

Freddie Mac CEO Richard Syron said ``We are heartened by yesterday's announcement,'' which should ``go a long way toward reassuring world markets that Freddie Mac and Fannie Mae will continue to support America's homebuyers and renters.''

Rubin's Reassurance

The last Treasury secretary to make an emergency statement from the steps of the department's main building was Robert Rubin, who sought to calm investors after the Dow Jones Industrial Average fell 554 points on Oct. 27, 1997.

The slump in Fannie Mae and Freddie Mac last week forced Paulson on July 11 to issue a statement of support for the companies in their ``current form.'' Trading of Fannie Mae that day amounted to 41 percent of its shares outstanding, with a 61 percent figure for Freddie Mac.

Preferred securities tumbled last week as investors questioned if Freddie and Fannie will be able to continue to pay dividends. Freddie Mac's 5.57 percent preferred lost 39 percent this year and Fannie Mae's 5.5 percent preferred dropped 31 percent.

Yesterday's announcement may not offer much help for shareholders, said Andrew Parmentier, a senior policy analyst at Friedman Billings Ramsey & Co. in Arlington, Virginia.

``Any capital infusion of any nature is going to be dilutive to shareholders,'' Parmentier said.

Capital Raised

The companies have already raised $20 billion to cover losses amid the highest delinquency rates in at least 29 years. Freddie Mac said earlier this month it planned to sell $5.5 billion of equity after it reports earnings next month.

The cost to protect against a default on the companies' subordinated debt jumped last week. Credit-default swaps linked to Freddie's bonds rose to 251 basis points, while contracts on Fannie's increased to 246 basis points, according to CMA Datavision. On July 4, both were at 177 basis points and they started the year at 77. A basis point is 0.01 percentage point.

Credit-default swaps are financial instruments based on bonds and loans that are used to speculate on a company's ability to repay debt.

Senior debt of both companies trades as if they were rated A3 instead of Aaa by Moody's Investors Service, according to data from the rankings firm's credit strategy group.

To contact the reporters on this story: Brendan Murray at brmurray@bloomberg.net; Dawn Kopecki in Washington at dkopecki@bloomberg.net

Last Updated: July 14, 2008 11:32 EDT