Housing, banking crisis piles pressure on Bush

By Stella Dawson, Treasury Editor - Analysis

LONDON (Reuters) - The housing crisis in the United States is fast spilling into a banking and financial debacle that could destabilize the world economy and put mounting pressure on the Bush administration to act.

So far the White House and U.S. Treasury have signaled they plan no dramatic steps to shore up the U.S. housing agencies, Fannie Mae and Freddie Mac, whose financing underpins about half of all U.S. mortgages.

But a savaging of their stock on Friday over worries they are short of capital convulsed Wall Street and wiped out about 50 percent of their equity value. Federal regulators then seized mortgage lender IndyMac Bancorp Inc. in the third largest bank failure in U.S. history.

These twin events highlighted the fragility of housing finance in the United States, still reeling after a year of subprime mortgage losses. It also pinpoints how easily fear can spread in financial markets that already are in bear territory.

A severe U.S. market downturn and a sharp economic recession cannot leave a globalize economy unscathed.

To stop the rot, investment bank and housing analysts in research notes this weekend said the federal government may well have to take more aggressive action to bolster Fannie and Freddie -- if only to keep credit lines in a weakened U.S. economy open.

"We see little sign of a bottoming in the financial crisis, especially as applied to the fixed income market," said Deutsche Bank.

CREDIT CHANNELS STOPPERED

Already, credit for riskier borrowers has closed down. Since late 2007 another critical credit channel, from investment banks to corporate borrowers, has been severely damaged as banks repair their balance sheets damaged by subprime losses.

Now a third credit channel, from regional and small U.S. banks, is under pressure as these banks also begin raising capital and recognize losses. IndyMac exemplifies this problem.

A fourth credit channel, capital raising on Wall Street by corporations, has narrowed sharply. Major U.S. and European stock indexes are down over 20 percent over the past year.

Add to this the prospect of Fannie and Freddie reducing their credit availability, and it looks grim.

"They are caught in a vicious cycle," said Deutsche Bank.

Why are Fannie and Freddie so important? They have taken on a bigger and bigger role in insuring and buying up mortgages in recent years, thus providing a key lubricant to the U.S. housing market, especially when other sources of financing seized up.

But a selloff in their stock, down 90 percent since last August, combined with falling value of mortgage debt held in their portfolios, catches Fannie and Freddie in a bind. It weakens their balance sheets when they want to take on new business to keep the U.S. housing machine going.