Rae, who is in the closing days of his stint as Liberal leader, rallied supporters of candidate Yvonne Jones at the official launch Wednesday night of her headquarters in Happy Valley-Goose Bay.
Rae spelled out his thoughts about Penashue, and accused him of buying his 79-vote victory in 2011.
"[It's] spelt b-u-y election," said Rae. "That was [where] the candidate in question spent thousands of dollars [more] than was permitted, and received thousands of dollars in donations than was permitted, and claimed not to know about it."
Penashue resigned his seat last month amid an Elections Canada investigation that found his 2011 campaign accepted illegal donations.
Rae chastized Penashue for not being accountable during months of questioning in Parliament.
"It all was someone else's fault and someone else's problem, and somebody else's movie until suddenly he announced he was resigning," he said.
"I'm going to have another kind of b-u-y election — spelled byelection — and the Liberal party is going to win the real byelection."
Rae also challenged Penashue's claim this week that Labrador voters should side with the government, as well as Penashue's expectation that he will be put back in cabinet.
"So, let's stop the politics of fear right now in Newfoundland, and say we're voting for hope, we're voting for work, we're voting for talent, we're voting for experience. We want the strongest possible voice in the House of Commons for the people of Newfoundland and Labrador."
Rae said it's better to have Yvonne Jones in Ottawa as a strong Member of Parliament rather than have a weak member of cabinet.
He and Jones will campaign on Thursday in western Labrador.
Skeptics speak out
Meanwhile, Penashue's claim that he held up a project in Newfoundland until he got money for the Trans-Labrador Highway is being met with skepticism and outrage.
Liberal MP Scott Andrews and NDP MP Jack Harris both attacked Penashue's statement during appearances Wednesday on CBC's Power and Politics.
Andrews said there's a reason why someone else answered questions for Penashue in the House of Commons leading up to his resignation.
"You know, it's no wonder that Stephen Harper kept a muzzle on Peter Penashue while he was in Ottawa, because every time he opens his mouth he says something stupid," said Andrews.
Harris called the claim shameful.
"I think it's outrageous if he did that — I mean that's a boast," said Harris.
"But if he did that, he's not doing his job. He claims he's going to be back in the cabinet again. He's already saying I'm going to be back in the cabinet, here's what I did and I put it to sock it to the Newfoundlanders."
On Tuesday evening, Penashue told a campaign rally that he would not approve an unspecified project in Newfoundland until he secured $85 million for the Trans-Labrador Highway.
"I will tell you a secret," Penashue told supporters. "I did not sign the approvals in Newfoundland until I had my $85 million for the road in Labrador, and I held their project for six months."
However, the Tories are refusing to identify what the project in Newfoundland was.
His campaign manager, Joe Goudie, told CBC News on Thursday that the Conservatives "won't be releasing that information." An official with the party made a similar declaration on Wednesday.
Tory MP and parliamentary secretary Kellie Leitch, when asked by Power and Politics host Evan Solomon about the mystery project, said that she did not know, or whether there was such a project.
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