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February 19, 2013 8:43 pm
An overhaul of rules governing money market funds is being promoted by a European body created after the collapse of Lehman Brothers to monitor risks in the region’s financial system.
The European Systemic Risk Board, a panel comprising central bank governors and regulators from across the EU, has announced recommendations designed to reform a sector that some have blamed for adding to financial market instability.
Recommendations being made by the ESRB include that money market funds – which in Europe manage about €1tn in assets – be forced to have variable net asset values and “to make general use of fair valuation”. The proposals also call for greater transparency and more careful monitoring of liquidity risk.
The role of money market funds, which have traditionally provided the bulk of the short-term funding for banks, has come under scrutiny by regulators around the world since the 2007-08 financial crisis.
European banks, for example, were knocked by the speed with which US money market funds withdrew as problems in the eurozone escalated in 2011, removing a crucial supply of dollar funding. Regulators have increasingly focused on the way such funds are priced as an issue requiring new regulation.
Money market funds typically have a stable $1 or €1 per share net asset value that the industry argues make them an attractive product due to their accounting simplicity.
However, the authorities respond that stable NAVs give investors a false sense of security and contribute to the danger of a run, as investors may rush to withdraw their cash if there is a risk a fund will pay back less than $1.
When a prominent US fund “broke the buck” during the financial crisis in 2008, it was followed by a wave of withdrawals across the industry and government intervention to restore confidence.
While the ESRB’s recommendations focus on the role European money market funds play in the stability of the financial system, the hope is it will accelerate a move towards an international regulatory response.
Aymeric Poizot, analyst at Fitch Ratings, said the impact of a shift towards variable NAVs would be less dramatic in Europe than in the US as half of the funds in Europe already operate on that model.
US regulators have been pushing for reform for some time. New rules introduced in 2010 focused on reducing risks by forcing money market funds to hold higher quality credits and reduce the average maturity of their holdings. But those rules were not deemed to have gone far enough.
The US Securities and Exchange has since tried to push through a much tougher package of reforms. However, this failed to win approval last summer and was referred for further consultation.
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