Bailout Is Bigger Than Pentagon's Budget

Cost of Rescue to Add to Challenges for Next President

Treasury Secretary Henry Paulson says mortgage giants Fannie Mae and Freddie Mac will step up their purchases of mortgage-backed securities to help provide support to the crippled housing market.
Washington Post Staff Writers
Saturday, September 20, 2008; 11:00 AM

The $700 billion that the U.S. government estimates that it will cost to buy the risky investments of financial institutions in coming months approaches is more than what it costs to run the Pentagon for a year.

That estimate of the economic rescue plan that the Treasury department sent to Capitol Hill today is on top of the nearly $200 billion he said earlier this month that he is willing to spend on the government's rescue of Fannie Mae and Freddie Mac.

The Pentagon budget last year was about $600 billion. Over time, Congress has appropriated a total of about $650 billion for the war in Iraq, plus $200 billion for Afghanistan.

The spending for the bailout will add to nearly record projected deficits this year and next. The package made public today asked Congress to raise the federal debt limit from $10.6 trillion to $11.3 trillionWhat effect that spending will have on the U.S. economy is unclear, although it will almost surely complicate any policy plans the next administration will have, fiscal observers said.

"The campaign agendas become irrelevant, this is the agenda of the new president," said Robert L. Bixby, executive director of the nonpartisan Concord Coalition. "Because this is of such magnitude, it is going to be job one of the new president."

Presidential candidates Sens. John McCain (R-Ariz.) and Barack Obama (D-Ill.) have promised billions in new tax cuts or new spending. But an expanding deficit could impair future economic growth, particularly if lawmakers pay down that debt by raising taxes.

The weak economy and a sharp increase in government spending has led the Congressional Budget Office to project that the deficit will be a near-record $407 billion when the budget year ends later this month.

The next president is likely to face a shortfall in January of well over $500 billion, according to congressional analysts.

Under the proposal Treasury Secretary Henry M. Paulson Jr. laid out yesterday, the government will buy securities through a reverse auction process. While those securities are currently almost worthless, administration officials plan to hold them several years in the hopes that they will regain some, if not all, of the money the government spends.

In the meantime, the impact on the deficit is not clear because the money may not be completely lost. The Congressional Budget Office will determine next week what portion of the government's purchases should be counted against the deficit, essentially trying to determine how much will be recovered or lost, based on complicated economic models.

Fiscal observers noted that the problem now facing the government is the one that has plagued Wall Street over the last year: how to determine what these complicated loans are worth.

"If you have a smoothly functioning market, and you buy a security, it is worth what you paid for it, because that is what the market says it is worth, but the problem here is the market is not working," said James R. Horney, director of federal fiscal policy at the nonpartisan Center on Budget and Policy Priorities in Washington. "That is the whole issue: what are these things really worth?"

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