Disclaimer: I am not a finance guy, nor have I ever played one on TV.
My (admittedly limited) understanding of how this might work is that the government would agree to buy assets from these financial institutions that are illiquid because it impossible to put a value on them. If we are talking about the government buying these packages of securitized mortgages, or CDO's (
Collateralized Debt Obligation), then the government is indeed buying something that has a hard asset behind it, namely somebody's house. That of course raises a lot of questions about what exactly the government is going to do with all this real estate.
If the government buys these assets, it does a couple of things. One, it gets the assets that are bought off the books of the financial institution. Second, it sets a price for these assets that the financial institutions can then use to assign a value to similar assets that they still hold on their books. This may help them from suffering the type of overnight under-capitalization that seems to be causing all these firms to go belly up.
What seems to be a further, if not well reported, problem is that the paperwork for some of these CDO's is missing. In other words, let's say a given CDO consists of the mortgage debt of 10,000 houses. The person that owns that CDO theoretically should have or have access to the titles for each and every one of those 10,000 houses to prove that they, in fact, own the mortgage. It seems that a lot of this paperwork is lost or did not follow the CDO when it was sold, and maybe even re-sold, several times. So the firms that own these CDO's may not even be able to prove that they actually own the mortgage, preventing them from foreclosing and/or re-selling the property.
It will be interesting to see how this all shakes out. Bill Gross from PIMCO suggested ( I think tongue-in-cheek) that the government buy up millions of houses and then bulldoze them to reduce the over-inventory of houses for sale, thus correcting a large part of the real estate problem in one fell swoop. Maybe he was kidding, but what will happen if the government suddenly finds itself owning millions of homes that may or may not have been foreclosed on, and that they may or may not have title to? Could be interesting.
