Plan B: Nationalization

Amazingly, the Paulson statement seems to have worked! Stock indices are in not-down territory, the dollar is up, Fannie's up 10% in early trade, and even Freddie's up 27 cents. Even if the stocks are trading wholly on option value, every indication is that the option value is higher today than it was going in to the weekend.

Then again, at this point Fannie and Freddie between them have a market cap of $16 billion, against $5 trillion or so in actual and potential liabilities, which means that to all intents and purposes they're trading at zero already. Now's not a bad time to nationalize them, as Chris Whalen says:

We see a federal takeover of FRN and FRE as not only inevitable, but as an avenue to rationalize and shrink these institutions, and thereby remove a costly distraction from the Washington political scene...
JP Morgan Chase or BAC, for example, have almost as much bank-level capital as the GSEs combined supporting one fifth of the commitments.
With spreads over Treasury debt on GSE paper widening, neither FNM nor FRE can long survive - even if you could convince private investors to provide new private capital... suffice to say that with $90 billion in combined equity and six trillion in on and off-balance sheet footings, the enterprises are manifestly unsafe and unsound, and can only survive the yawning trough in real estate valuations that lies before us with unconditional sovereign backing.

I'd add that if the government pays say $10 billion to buy assets with a (current) book value of $90 billion, it might be able to get away with presenting the deal as something other than a bailout. Not that it has much choice in the matter: as Paul Krugman says this morning,

Fannie and Freddie can't be allowed to fail. With the collapse of subprime lending, they're now more central than ever to the housing market, and the economy as a whole.

For the time being, Paulson's attempt to preserve the status quo seems to be working. But if and when there's another lurch downwards, I hope he has a decent nationalization plan up his sleeve.

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