It sounds absurd: the federal government’s top banker asking Congress for permission to borrow up to $700 billion.

The answer to the obvious question — Where will the money come from? — is the real kicker.

Taxpayers.

Treasury Secretary Henry Paulson, a former chief executive on Wall Street, has asked for permission to borrow up to $700 billion to buy what no other investors will buy: soured mortgage loans or their fancier, investment version created by pooling mortgages, called mortgage-backed securities.

The plan, still being hashed out, would essentially make taxpayers investors in these bad debts.

Now, as debate over the Treasury’s proposal heats up in Washington, economists are trying to sort out what this massive bailout could mean for the U.S. economy for years to come.

“If this plan works, we can come out of it fiscally unscathed,” Jared Bernstein, labor economist at the Economic Policy Institute of Washington, said yesterday. But if it fails, he said, taxpayers will become the investors in the mortgage-debt equivalent of “toxic waste.”

The federal government’s last big bailout was during the savings and loan crisis in the early 1990s. Back then, the government shelled out over $750 billion to make depositors whole. The government recouped $500 billion of taxpayers’ investment by selling off the assets of the failed institutions, for a net loss of $250 billion, recalled Mark Zandi, chief economist at Moody’s Economy.com, an economic research firm in West Chester, Pa.

“If you told me the cost to taxpayers of all the things government has done including this relief program is $250 billion,” Zandi said, “I’d say that’s on the high side.”

One reason the Treasury secretary is asking to borrow more than 2½ times that amount, Zandi said, is to reassure panicked investors in the United States and abroad that the government is fully able and willing to back up the investments.

Another reason is that nobody knows exactly what the ultimate cost of the bailout will be, said Thomas A. Lawler, an economist in Leesburg, Va., who worked for 22 years at the mortgage giant Fannie Mae. Lawler now runs a newsletter, Lawler Economic and Housing Consulting Daily.

“The Treasury is going out and buying assets that are extremely hard to value,” Lawler said. “As it is, nobody knows what they’re getting for the money they’re spending.”

The actual cost to taxpayers, Lawler said, could be a lot higher than anyone imagines. “Nobody knows how much it will cost taxpayers. It’s a potential budget-buster.”

The Treasury’s request is akin to asking for a line of credit from the taxpayers for a major repair project whose cost is not known. Imagine borrowing money to repair a house damaged by carpenter ants without knowing the extent of the damage. Do you need to replace the floor boards? Or rebuild the entire room?

Paulson wants permission to issue up to $700 million in taxpayer debt in the form of U.S. Treasury bonds that would be sold on the market to investors. The distressed mortgages would serve as collateral for the bonds, which are backed by the government.

THE HOPE is that some of the mortgages will be modified and turn into money-making investments. The others will be written off. And eventually, the government will be able to sell them on the open market and recoup the taxpayers’ investment.

One concern is that the government, in trying to help out the financial companies whose debt it’s buying, will pay too much.

“If we end up spending and losing a lot of taxpayer dollars … we’re borrowing to make an investment on a lot of bad debt,” said Bernstein, the labor economist.

“These expenditures have the potential to crowd out future spending on stuff many of us would agree is more important and more needed,” Bernstein said, such as federal funding for health care and roads and environmental protection.

The question of how much is too much debt is one that economists answer, in part, by looking at the ratio of the nation’s income to its debt. The Gross Domestic Product, or GDP, is a measure of all the goods and services produced. The nation’s outstanding debt is currently about $5 trillion — just over 40 percent of its GDP, said Zandi, of Moody’s Economy.com.

By that measure, if the country added another $1 trillion in debt ($700 billion that the Treasury wants to borrow plus another $300 billion for other programs) the nation’s debt would jump to about 50 percent of GDP, Zandi said.

“We have very, very deep pockets,” Zandi said. “That’s definitely manageable.”

By manageable, he means that it would not affect the government’s AAA bond rating — at least for now.

“This just brings forward the day of reckoning; the day when budget deficits do become a problem,” Zandi said.

If foreign investors get nervous about the U.S. government’s high debt load, Zandi said, they could demand higher yields on their treasury bonds. And that, in turn, could drive up interest rates.

The more immediate concern, though, is what taxpayers will get in return for investing in these mortgage debts.

Senate Democrats said yesterday that they want the Treasury’s plan to include strict limits on executive compensation and a provision to allow the government an ownership stake in any financial institution that it bails out.

“Do we own much of the financial industry because we’ve given them this money? Do we put restrictions on their pay?” said Dean Baker, an economist and co-director of the Center for Economic and Policy Research in Washington. “These things are up for grabs.”

The bailout, he said, also carries a “moral hazard.”

“If [financial companies] are allowed to get away with the government basically picking up their bad debts,” Baker said, they could say to themselves, “well, you did it once? Why wouldn’t [you] do it again?”

larditi@projo.com