Attorney Melanie Fein has posted another paper to the President's Working Group Report on Money Market Fund Reform (Request for Comment) web page. This one, entitled, "The Latest Fallacy About Money Market Funds," says, "A number of falsehoods have emerged during the past two years concerning money market funds ("MMFs") and their role in the financial system. This paper examines the latest fallacy and explains why it is false.... The latest fallacy about MMFs claims that MMFs can cut off the supply of funds to the banking system and thereby imperil the ability of banks to provide loans to the economy. Therefore, supporters of this fallacy argue, MMFs are a source of systemic risk and should be subject to structural changes to ensure that they provide a continuous supply of credit to the banking system, even during times of financial stress and market instability."
She explains, "Proponents of the fallacy have said that MMFs have the capacity to "bring down" the financial system by creating "systemic funding difficulties" for large banks. The fallacy is premised on the following claims: "[L]arge banks depend on MMFs for short-term funding." MMFs are "a critical source of short-term, wholesale funding for large, global banks." "MMFs shareholders can pull their funds on demand, and have done so en masse when risk is amplified. This in turn creates systemic funding difficulties for large banks that rely on MMFs for their funding." "[P]rime MMFs essentially collect funds from individuals and firms to provide financing to large banks, which in turn use the proceeds to buy securities and make loans." Institutional investors in MMFs "threaten the ability of MMFs to fund the activities of the banking sector"."
Fein's latest paper continues, "These ominous claims and forebodings have little basis in reality. They overlook key facts regarding the multitude of diverse sources of funding and liquidity available to banks. They ignore federal regulations making it impossible for MMFs to act as a source of guaranteed finance for the banking system. They disregard complex economic, regulatory and other factors influencing credit availability."
She adds, "The latest MMF fallacy has been promoted in testimony and submissions to Congress and the Securities and Exchange Commission primarily by a group of academic economists. Interestingly, almost all of these academics have ties with the Fed. The academic proponents of the fallacy have used it as a rational to advance a proposal they have propounded to impose a capital buffer requirement on MMFs. The capital buffer concept has been discredited elsewhere as impractical, ineffective, and inappropriate for MMFs. This paper explains why the rational for the capital buffer concept is misguided and wrong."
Fein states, "The view that MMFs threaten the ability of banks to make loans to the economy reflects unawareness of the regulatory limits under which MMFs operate as well as the way that banking organizations fund their activities and manage their liquidity risk. Banks do not rely on MMFs as a primary source of funding for loans because they have ample other funding sources and because MMFs are not structured for that role.
She concludes, "Claims by academics that MMFs threaten the economy by destabilizing the ability of banks to supply credit are fallacious. It is not true that "large banks depend on MMFs for short-term funding" or that MMFs are "a critical source" of funding for large banks. One need only look at the annual reports filed by bank holding companies with the SEC, which are available on the SEC's website, to see that this claim is unfounded. Public company filings show that banking organizations have access to a variety of funding sources and are subject to numerous liquidity risk factors having nothing to do with MMFs."
Finally, Fein says, "Imposing a capital buffer requirement on MMFs, as academic proponents of the latest MMF fallacy have proposed, would do nothing to improve funding and liquidity risk management at banks. To the contrary, it would more likely encourage the erroneous view that MMFs are a stable source of funding for bank loans and thereby subvert prudent liquidity management at banks."