Officials announced that the executives of both institutions had been replaced. Herb Allison, a former vice chairman of Merrill Lynch, was selected to head Fannie Mae, and David Moffett, a former vice chairman of US Bancorp, was picked to head Freddie Mac.

Treasury Secretary Henry Paulson says the actions were being taken because "Fannie Mae and Freddie Mac are so large and so interwoven in our financial system that a failure of either of them would cause great turmoil in our financial markets here at home and around the globe."

The huge potential liabilities facing each company, as a result of soaring mortgage defaults, could cost taxpayers tens of billions of dollars, but Paulson stressed that the financial impacts if the two companies had been allowed to fail would be far more serious.

"A failure would affect the ability of Americans to get home loans, auto loans and other consumer credit and business finance," Paulson said.

Both companies were placed into a government conservatorship that will be run by the Federal Housing Finance Agency, the new agency created by Congress this summer to regulate Fannie and Freddie.

The Federal Reserve and other federal banking regulators said in a joint statement Sunday that "a limited number of smaller institutions" have significant holdings of common or preferred stock shares in Fannie and Freddie, and that regulators were "prepared to work with these institutions to develop capital-restoration plans."

The two companies had nearly $36 billion in preferred shares outstanding as of June 30, according to filings with the Securities and Exchange Commission.