The financial crisis brought sweeping reforms to money market funds, but the Financial Stability Board (FSB) is proposing measures to enhance the sector’s resilience after the pandemic exposed its fragility.
The FSB published a final report that sets out policy proposals intended to address systemic risks and to minimize the need for extraordinary central bank action to support the sector in future crises.
In particular, the FSB aims to tackle two interrelated risks revealed in March 2020: that money market funds are susceptible to sudden, large redemptions, and they can have trouble selling assets to meet redemptions in stressed markets.
To address these risks, the report proposes a variety of measures including seeking to impose the cost of redemptions on the investors that are redeeming; to ensure funds can absorb credit losses; and to avoid regulatory thresholds that can create “cliff effects.”
The report also sets out how local regulators can use these options, given that vulnerabilities in individual jurisdictions may vary depending on the market structure and how funds are constructed.
Individual jurisdictions “need flexibility to tailor measures to their specific circumstances,” the FSB said.
Yet it also stressed that the initial market turmoil caused by the onset of the pandemic highlighted “important cross-border considerations.”
“International coordination and cooperation on implementing policy reforms is critical to mitigate spillovers and avoid regulatory arbitrage,” the group noted.
The FSB said that it will work with the International Organization of Securities Commissions (IOSCO) to review the progress in adopting reforms to enhance money market fund resilience by the end of 2023, with a follow-up assessment of their effectiveness in addressing financial stability risks in 2026.
IOSCO also plans to revisit its policy recommendations for money market funds in light of the FSB’s report and its policy proposals.
Separately, the FSB submitted a report to G20 finance ministers and central bankers setting out its plans for enhancing resilience in the fund sector (along with IOSCO), and its work on improving cross-border payments, which is another segment of the financial market that was disrupted by the pandemic.