Recent Securities and Exchange Commission rules could actually exacerbate runs say Fed economists. “Giving [a financial institution] the option to impose gates or fees may be destabilizing because the option itself can trigger damaging runs that otherwise would not have occurred,” write economists Marco Cipriani, Antoine Martin, Patrick McCabe, and Bruno M. Parigi in the New York Federal Reserve’s Liberty Street Economics blog.
The SEC in July passed rules aimed at strengthening the $2.6 trillion MMF market, including requiring prime money funds to abandon their fixed $1 share price and adopt a floating rate like other mutual funds. Also, the rules allow all MMFs to temporarily block investors from withdrawing cash during times of stress or allow the funds to impose fees for investors to redeem shares – so-called gates and fees.
It’s the gates and fees that the Fed says could create runs. This has long been the opinion of Melanie Fein, a former senior counsel to the Board of Governors of the Federal Reserve System and fierce critic of the new rules. The floating NAV and gates and fees “are unlikely to achieve the SEC’s stated goal,” she wrote in a letter to the SEC in late 2013. “It is doubtful that either of these ideas would prevent institutional MMF investors from reallocating their assets in a crisis.”
In fact, her assessment then was the same conclusion the Fed drew in its blog post – itself a conclusion of a larger staff report released in April. “The imposition of liquidity fees in particular could cause investors to withdraw preemptively from prime funds in anticipation of a crisis to avoid such fees and potentially exacerbate liquidity pressures and trigger the crisis sought to be avoided,” Ms. Fein wrote.
The SEC rules do give some flexibility on fees. The fees “would give fund boards the ability to impose liquidity fees or to suspend redemptions temporarily, also known as ‘gate,’ if a fund’s level of weekly liquid assets falls below a certain threshold,” the SEC says in its rules fact sheet. Funds that must use the floating NAV also get a bit of a tax and accounting break as the IRS has proposed new regulations “to allow floating NAV money market fund investors to use a simplified tax accounting method to track gains and losses that could be used beginning today.” This would eliminate some of the burden of tracking individual purchase and sale transactions for tax reporting purposes.
The SEC rules will go into effect two years from now, so it’s not too late for treasurers to adjust investment policies as needed.