Money market mutual funds were mentioned in both Federal Reserve Chairman Ben Bernanke's Economic Update before the House Committee on the Budget and in Treasury Secretary Timothy Geithner's Financial Reform speech on Thursday of last week. Bernanke was asked about the European debt situation and its possible impact on money market funds, and he was questioned by a member over the penalties that low rates are inflicting on savers. We excerpt from these exchanges below.
During Fed Chairman Bernanke's testimony on "The Economic Outlook and the Federal Budget Situation Before the Committee on the Budget, U.S. House of Representatives, Representative Todd Young (R-Indiana) asked, "I'd also like you to speak to the money market mutual fund market. Right after Lehman, there was a bailout of the money market mutual funds because of a panic over so-called 'breaking the buck'.... There was an intervention by the U.S.... Could that also be something that people begin demanding ... [that] we bail out the money markets as a result of a disorderly default in Europe?" (See the C-Span Video here. This discussion starts around 2:02.)
Bernanke responded, "The Federal Reserve has been ... working ... to understand the exposures of banks to European nations, banks and economies, and trying to help them manage the risks and reduce the risks whereever possible.... We pay close attention to money market mutual funds. Of course, the SEC is the primary regulator there. They too, like our banks, have been working to reduce their exposure to Europe. They have substantially reduced their exposure to the Eurozone countries, and all that's to the good."
Young interrupted and asked, "Is there a reason why the Financial Stability Oversight Council (FSOC) ... has not characterized the money market mutual funds as a systematic risk?" Bernanke answered, "It did point to MMMFs as an area that needed more work.... The things that were done in 2008, such as the Treasury using the Exchange Stabilization Fund to guarantee MMMF deposits [sic] were outlawed by Dodd-Frank.... So it's very important that the MMMFs take the necessary actions to be safe."
Bernanke added, "The SEC, which has already imposed some improvements in these funds, is considering additional steps and consulting with the Federal Reserve. We are quite sympathetic to the idea that more might need to be done in order to ensure that we don't see another run like we did in 2008."
In another exchange, Representative Diane Black (R-Tennessee) asked, "Does a zero interest rate encourage savers to save?" Bernanke responded, "It may, because there's both what economists call substitution effects and income effects, because you may need to save more to get the same return, but...." Black interrupted, "I'm not sure that putting my money into accounts where I'm going to get a zero return is probably what I would want to do especially in an economy that's so uncertain."
Bernanke says, "Let's think this through. Suppose in order to solve savers problems, suppose the Fed raised interest rates sharply. That would almost certainly throw the economy back into recession. It would mean the stock market would decline. It would mean returns on other investments would go down. And it might mean increase deficits might lead to more concerns about our federal government. So, again, we understand the concern that savers have, but we are trying to deal with a bad situation, and this is one of the tools we have to try to get the economy back to full employment."
Congressman Black added, "I know my time is out, but I'm not advocating a sharp increase. I'm just saying that there's not an incentive right now if there's zero percent interest. Thank you." Then Chairman Ryan added, "There's a case for normalizing policy."
Also on Thursday, U.S. Treasury Secretary Tim Geithner, on The State of Financial Reform, commented, "[W]e are putting in place a carefully designed new set of safeguards against risk outside the banking system and enhanced protections for the basic 'infrastructure' or plumbing of the financial markets. Money market funds will face new requirements designed to limit their vulnerability to 'runs' like the one that took place in 2008, with the SEC planning to propose significant reforms this year. Important funding markets like the tri-party repo market are now more conservatively structured.... Designated financial market utilities will be subject to comprehensive oversight and required to hold stronger financial cushions against risk."
Geithner also said, "I want to conclude by emphasizing that the U.S. financial system is getting stronger, and is now significantly stronger than it was before the crisis.... We have shut down or restructured the weakest parts of our system that played a central role in the crisis. Banks and other financial institutions with more than $5 trillion in assets at the end of 2007 have been shut down, acquired, or restructured. The asset-backed commercial paper market has shrunk by 70 percent since its peak in 2007, and the tri-party repo market and prime money market funds have shrunk by 40 percent and 33 percent respectively since their 2008 peaks. Finally, we have been able to dramatically reduce the expected costs of the financial rescue to levels that were unthinkable in early 2009. The financial assistance we provided to banks through TARP, for example, will result in taxpayer gains of approximately $20 billion."
