investors decide to close out their riskier positions and move into
"cash", they don't actually go to the bank and get a stack of
twenties. Most just sell their stocks and let their broker sweep the proceeds
into a money market fund which, they assume, is the same thing as cash
because it holds high-quality short-term commercial paper that almost never
assumption breaks down as soon as you look at a typical money market fund's
holdings and see that it owns, among other disturbing things, a lot of
European bank debt.
But at least
you can get your money out with a mouse click, right?
not. Apparently the Fed, cognizant of the potential weakness of the money
fund system, is considering withdrawal limits:
Eyes Limiting Money-Market Fund Withdrawals
NEW YORK -
The Federal Reserve Bank of New York said it supports limiting some types of
money-market fund withdrawals in a bid to protect those funds from suffering
the equivalent of a bank run.
recommendations came from a staff report released Thursday. New York Fed
President William Dudley in a press release accompanying the document said he
"strongly" endorses the ideas put forth by authors Patrick McCabe,
Marco Cipriani, Michael Holscher
and Antoine Martin.
reform of money funds is essential for our nation's financial
stability," Mr. Dudley said.
propose that money-market funds could be strengthened if they were to have a
"minimum balance at risk." As envisaged by the authors, this
balance "would be a small fraction of each shareholder's recent balances
that would be set aside in the event that they withdrew from the fund,"
the press release said.
transactions would be allowed as they are now, this special minimum balance
would be locked up for 30 days. "The delay would ensure that redeeming
investors remain partially invested in the fund long enough to share in any
imminent portfolio losses or costs arising from their redemptions," the
advanced in the New York Fed paper seeks to force investors to be more
mindful of what they are doing with money-market fund investments. Many
perceive the funds to be a very safe and liquid place to park funds. But that
notion was tested during the 2008 financial crisis, and some have worried
that in the current environment, money-market funds could be a prime conduit
for importing Europe's ongoing financial crisis to the U.S.
funds currently hold some $2.7 trillion in assets, according to the paper.
They own, as of late 2011, around 40% of all dollar-denominated commercial
paper, the New York Fed said.
provides fodder for Securities and Exchange Commission Chairman Mary Schapiro
as she inches her divided agency toward a vote as early as this summer on a
proposal to strengthen money-fund regulations. SEC officials described the
New York Fed paper as a "blueprint" for the changes Ms. Schapiro
would like to make.
joined by Federal Reserve and Treasury Department officials, sees money funds
as one of the weakest links in the financial system despite reforms adopted
two years ago to make the industry more resilient to widespread redemptions.
Fund firms and other experts say the cash-like investments rarely run into
float her proposals, Ms. Schapiro needs "yes" votes from two of her
four fellow commissioners. For months, three of the commissioners have said
they don't believe there is sufficient evidence additional money-fund overhauls
are needed, effectively blocking the proposals' advancement.
A number of
Fed officials have been anxious about money-market funds for some time.
Central bankers see the funds as a prime source of risk in large part because
their structure is such that when trouble, or the fear of trouble, arises,
investors have every incentive to withdraw all their funds. That can create
the equivalent of a bank run.
congressional testimony Wednesday, Fed Chairman Ben Bernanke said
money-market funds are currently a potential source of financial-market
instability. He expressed his support of regulators' attempts to lower the
source of risk posed by money funds.
In a healthy
society lots of things can be legitimately seen as risk-free, starting with a
sound currency and moving through the financial instruments based on that
currency and administered by well-capitalized and sensibly-regulated banks.
unhealthy society fewer and fewer things are risk-free. The banks can no
longer be trusted to survive, governments run out of money, and even the
currency stops functioning as a store of value.
and market instability go hand-in-hand, with each amplifying the volatility
of the other. So along with inflation-induced booms and busts comes an
increase in the incidence of capital controls, where panicked governments
limit citizens' and foreign investors' ability to move wealth around. The
Fed's proposed money market fund rules are both a perfect example of this and
a sign of things to come. Once the crisis really gets going, expect controls
to be imposed on bank accounts and international funds transfers initially,
and from there who knows. Maybe IRAs and 401(K)s?
If history is
any guide, by the end of this process gold will be the only remaining
risk-free asset, and its value in debased fiat currency terms will be