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Fannie Mae and Freddie Mac are expected to get further financial leeway from the government, enabling the mortgage-finance companies to expand their roles in the stricken housing market.

The federal regulator that oversees Fannie (FNM) and Freddie (FRE, Fortune 500) has been discussing with them an arrangement in which the cash cushion they are required to maintain - now nearly $20 billion for the two - could be reduced, several people familiar with the matter said Monday. Under a deal that could be announced as soon as this week, the freed-up money would be put into buying mortgages of struggling borrowers so they could refinance into more affordable loans, these people said.

The people spoke on condition of anonymity because the move by the Office of Federal Housing Enterprise Oversight has not yet been finalized. The momentum toward an agreement was reported online Monday by The Wall Street Journal. Influential Democrats in Congress have been pushing such a plan.

The brewing arrangement would be the third step the government has taken in recent weeks to allow Fannie and Freddie to shoulder larger burdens in the mortgage market despite multibillion-dollar fourth-quarter losses and expectations of further red ink in 2008.

The $168 billion economic stimulus package enacted last month included a temporary increase in the cap on mortgages that the companies can purchase or guarantee, from $417,000 to $729,750 in high-cost markets free credit report .com. And, as a reward for filing timely financial statements following multibillion-dollar accounting scandals, Fannie and Freddie were freed on March 1 of a combined $1.5 trillion cap on their mortgage-investment holdings.

Walter Schmidt, senior vice president at FTN Financial Capital Markets in Chicago, said that if the capital constraints were lifted, it would solidify investors’ sense that the government is taking concrete steps to fix the mortgage market’s woes.

But even if the capital constraints on Fannie and Freddie are eased, the companies still would face the difficult task of raising additional funds. Fannie and Freddie, which together hold or guarantee around $4.9 trillion in home-loan debt, have had difficulty lining up buyers for their mortgage-linked securities amid plunging home prices and rising foreclosures.

Fannie’s CEO Daniel Mudd on Monday held a previously scheduled meeting with Federal Reserve Chairman Ben Bernanke.

In after-hours trading, shares of Fannie rose 54 cents to $22.75, while Freddie stock gained 38 cents to $21 after both closed lower in regular trading Monday. The shares have touched fresh 52-week lows recently as the companies have been buffeted by losses from the mortgage crisis. 

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