If there is anything that comes close to fitting perfectly the description of an accident waiting to happen, it is surely the curious, bastard offspring of the US Government known as Fannie Mae and Freddie Mac.

Fannie and Freddie are billion-dollar companies that sit astride the US mortgage market. They provide a sea of liquidity to the US housing market, buying billions of dollars of mortgages and packaging them as securities.

A Fannie or Freddie-backed mortgage is guaranteed by one of the two institutions, so that if the borrower defaults it will be Fannie or Freddie who will be on the hook. They guarantee only prime mortgages to borrowers in reasonably good standing, so they were not directly affected by the sub-prime crisis.

But as all US house prices fell sharply, many prime borrowers have also fallen into trouble - and so have Fannie and Freddie.

Here is the crucial flaw. As quoted companies, Fannie and Freddie raise capital through the stock market and issue bonds in the fixed income market just like other companies, but there has always been a fundamental ambiguity about who is ultimately guaranteeing the mortgages.

Markets have long assumed that, given that they were established by Congress, they will be backstopped by the Government. So if they go bust, and by some measures they are already technically insolvent, either they go under and interest rates rise as the US mortgage market seizes up, or the Government bails them out at vast cost to the budget deficit, which also means rates go up.

Either way, we may not have to wait much longer for the accident to happen.

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