Government Officials Go To 'Bailout Well' Again

Federal officials are hoping they have finally found a way to jump-start the sagging credit markets and get the economy moving again. It involves buying or guaranteeing up to $800 billion in debt — much of it held by the giant mortgage companies Fannie Mae and Freddie Mac.

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STEVE INSKEEP, host:

It's Morning Edition from NPR News. Good morning, I'm Steve Inskeep. If the first few hundred billion don't succeed, try a few hundred billion more. The government is hoping it has finally found a way to jumpstart credit markets and get the economy moving again. Congress is getting involved. And in a moment, a top Democrat, Steny Hoyer, tells us about a plan that could include everything from state aid to road building.

First we have some details on the administration's latest plan. It involves buying or guaranteeing up to $800 billion in debt. Much of it is held by the giant mortgage companies Fannie Mae and Freddie Mac. These moves are similar to efforts undertaken by Japan during that country's long economic slump in the 1990s, and NPR's Jim Zarroli has more.

JIM ZARROLI: The Bush administration may be in its last weeks, but Treasury Secretary Henry Paulson says he's still searching for a way out of the credit crisis.

Secretary HENRY PAULSON (Treasury Department): I am going to run right to the end, OK? And if you've got any doubt about that, I tell you, you're missing the point.

ZARROLI: The initiatives unveiled yesterday by Paulson and the Federal Reserve are aimed at reviving the troubled credit markets. Even though the Fed has cut interest rates nearly to the ground, lending has slowed sharply, and credit spreads which measure the cost of borrowing remain remarkably high. Paulson told a press conference that even companies with AAA credit are having trouble borrowing.

Secretary PAULSON: That tells us that we're seeing some distortions and dislocations as a result of this financial crisis that are clearly not right.

ZARROLI: To address the crisis, the fed plans to buy up to $500 billion in mortgage-backed securities. It will also team up with the Treasury Department to lend up to $200 billion to holders of asset-backed securities, like credit card debt and student loans. NYU professor Mark Gertler says that buying these securities is essentially a way for the government to pour money into the financial system. They're hoping the money will then be lent out by banks to consumers and small businesses. Gertler says the government can afford to buy up these securities because it can borrow money more cheaply than private banks.

Professor MARK GERTLER (Economics, New York University): That's in effect what's going on. The government is directly getting involved in the capital market, effectively borrowing at lower rates than private institutions can, and thus being able to lend the money out at lower rates.

ZARROLI: These new federal initiatives are essentially a form of what economists call quantitative easing, something practiced by the Japanese government in the '90s. At the time, Tokyo had reduced its interest rates as far as it could. Money could be borrowed at no cost, yet the economy was so weak that not even rock-bottom interest rates could persuade investors to part with their money, and the economy kept shrinking. So the Japanese government began buying up all kinds of securities, flooding its economy with new money. Mark Gertler says the U.S. government's approach differs in some ways, but the basic aim is similar.

Professor GERTLER: It's attacking the key problem. What's going on is because of the financial distress. Credit spreads are almost - last week they were almost at depression levels, and this was reducing borrowing and reducing spending. So, these credit policies are a way of directly attacking the problem.

ZARROLI: If these efforts succeed, banks will feel like it's safer to extend more credit. U.S. officials say that the mortgage-backed securities the government plans to buy are essentially safe. But Dean Baker of the Center for Economic and Policy Research says some of the other securities are riskier, like those tied to consumer credit. He says there can be good reasons why lenders are cutting back on the credit they offer. He says with the economy slowing and house prices falling, a lot of consumers simply aren't as creditworthy as they used to be, and taxpayers could get stuck holding a lot of bad assets.

Mr. DEAN BAKER (Co-Director, Center for Economic & Policy Research): The reason why banks aren't willing to buy these up is that they think that there's a lot of really bad debt there. Now, if the Fed steps into the market, why would we think that they're going to be able to determine correctly how much bad debt is in, you know, any pool of loans.

ZARROLI: U.S. officials acknowledge there are risks to this new approach. But as in Japan in the '90s, the most important task right now is to get the economy moving. The consequences, they say, can be dealt with later. Jim Zarroli, NPR News, New York.

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