Historic Housing Bill

On Saturday, the U.S. Senate passed the biggest housing bill of the credit crisis. In effect, the Federal government issued a blank check to Fannie Mae and Freddie Mac to help shore up their accounts and keep them in business. They passed a bill that opened a credit line to these banks known as Government Sponsored Entities. In effect, it removed the implicit support of the entities, and created explicit backing, much like the FDIC does for depositors.

Here’s how it works:

After the President signs the bill, the FHA will be allowed to insure $300 billion in new home loans for at-risk borrowers if lenders agree to write down loan balances to 90% of the home’s current appraised value. Congress does not expect to extent the entire line of credit, but it does expect $68 billion to be utilized in the next few years.

We’ve noticed one thing in this latest interchange between Wall Street and Washington. Free market adherents have become increasingly ineffective. President Bush, who at one time vowed he would veto this rescue package, has agreed to sign it. Both the House and the Senate passed the bill with widespread support. There were only a few Republican holdouts who voted against it on principle.

This tells us a few things. For one, Congress is willing to help bolster the economy, even if it means indirectly financing semi-private banks. It seems the invisible hand can no longer be trusted in the market. Second, Fannie and Freddie bondholders shouldn’t worry about their positions any more. Apparently, the Feds are willing to back up these institutions — this means Bill Gross will live to invest another day.

Finally, this means additional liquidity will soon hit the market. This is not good news for inflation. Prices had begun to stabilize. This may push commodities up again. Nor is this bill good news for the dollar. The dollar already began falling again on Saturday. Time will tell if we hit another all time low against the Euro.

Have a pleasant week.