US to Implement "Temporary" Backstop to Money Market Funds (Updated)

Oh boy, bye bye the US AAA rating (at some point, not due specifically to this move, but from the philosophy it represents) and the dollar. The financial markets are simply too large for the US taxpayer to stand behind them all, but that isn’t going to prevent the authorities from trying. And like the Term Auction Facilty, expect it to be some time before this “temporary” guarantee is reversed.

Details not out quite yet, will update the post soon. It shows in “Breaking News” at the Wall Street Journal.

Update 8:25 AM: Here is the Treasury press release. Money market funds must pay a fund to receive the guarantee. Presumably, who pays the fee will not be disclosed (the powers that had to create the Term Auction Facility, which does not reveal who its users are, to overcome the stigma of accessing the discount window). But will money market funds sign up on a large scale basis? Funds that are part of fund families may deem it cheaper to absorb losses than pay the fees. This move may be directed at stand-alone money funds like Reserve.

In other words, like the recently passed $300 billion housing bill that is widely anticipated to have considerably less takeup than its maximum amount, this may expose the Treasury less that it appears to. However even though the press release says the backup will exist for the next year, expect it to be renewed.

From the press release

The U.S. Treasury Department today announced the establishment of a temporary guaranty program for the U.S. money market mutual fund industry. For the next year, the U.S. Treasury will insure the holdings of any publicly offered eligible money market mutual fund – both retail and institutional – that pays a fee to participate in the program.

President George W. Bush approved the use of existing authorities by Secretary Henry M. Paulson, Jr. to make available as necessary the assets of the Exchange Stabilization Fund for up to $50 billion to guarantee the payment in the circumstances described below….

The Exchange Stabilization Fund was established by the Gold Reserve Act of 1934. This Act authorizes the Secretary of the Treasury, with the approval of the President, “to deal in gold, foreign exchange, and other instruments of credit and securities” consistent with the obligations of the U.S. government in the International Monetary Fund to promote international financial stability. More information on the Exchange Stabilization Fund can be found at

A look at the balance sheet of the Exchange Stabilization Fund shows that it had assets of $47.9 billion as of its fiscal year ended September 30, 2007.

In other words, the Treasury had some spare cash sitting around it could deploy for this purpose. Clever.

Update 8:50 AM: Oh, there are more dollar signs this move than just the Treasury deploying assets from an idle fund. Bloomberg reports “Fed to Help Meet Fund Redemptions, Buy Agency Debt “:

The Federal Reserve said it will lend to banks to meet demands for redemptions from money-market mutual funds and plans to buy agency debt from primary dealers to aid financial-market liquidity.

The Fed will extend loans to banks to purchase “high- quality” asset-backed commercial paper from money market funds, the Fed said in a statement in Washington. The loans will be at the discount rate, the Fed said. The rate is currently 2.25 percent. The Fed didn’t provide a size for either initiative….

The central bank said it will buy short-term discount notes issued by Fannie Mae, Freddie Mac and the Federal Home Loan Banks “to further support market functioning.”

From the Fed’s press releases (here and here):

The Federal Reserve Board on Friday announced two enhancements to its programs to provide liquidity to markets. One initiative will extend non-recourse loans at the primary credit rate to U.S. depository institutions and bank holding companies to finance their purchases of high-quality asset-backed commercial paper (ABCP) from money market mutual funds. This should assist money funds that hold such paper in meeting demands for redemptions by investors and foster liquidity in the ABCP markets and broader money markets.

To further support market functioning, the Federal Reserve also plans to purchase from primary dealers federal agency discount notes, which are short-term debt obligations issued by Fannie Mae, Freddie Mac, and the Federal Home Loan Banks…..

Similar to secondary market purchases of Treasury securities, purchases of Fannie Mae, Freddie Mac and Federal Home Loan Bank debt will be conducted with the Federal Reserve’s primary dealers through a series of competitive auctions via the Desk’s FedTrade system. A series of purchase operations are planned over the next several weeks.

The ABCP market went into serious contraction in the first acute phase of the credit crisis (September-August 2007) and has continued contracting since then. Wonder why it is a focus now. Is this to keep the auto loan and credit card receivables market going? Informed readers are encouraged to speak up.

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  1. Eric

    I would assume whoever pays the fee will want you to know they did.

    If Fidelity, for example, steps up and pays, I expect it will be front and center on their web page.

  2. Anonymous

    Today we will all be a little richer. The numerator in
    our fraction of wealth will go up. But watch out for
    the denominator. It may give a surprise as well. May God bless Ameristan!

  3. Stuart

    The Financial oligarchy just mounted a successful coup d’etat. Their mole, Paulson, is their hero. The public silently mourns, muddled in ignorance and disbelief.
    Our own burning of the books.

  4. alan greenspend

    I LOVE your blog, visit everyday and I apologize for not contributing comments before.

    Who sets the USA AAA rating? Which agency? Do we know their criteria for making a rating change and can that be altered by the law breaking US government?

    Dr. Setser has always been our go to guy for TIC data. Doesn’t look like the US will be able to borrow our way out of debt at the pace we are acquiring new debt.

    Trying to keep my predictions of the future accurate is very difficult with this changing playing field.

  5. Marcus Aurelius

    was thinking, as I drifted off to sleep early this morning, that this will end the same way the TAFs did – with a whimper.

    Reality will not conform to the new rules.

  6. Stuart

    The funding requirements now will blow the financing abilities from abroad out of the water. The Chinese are already raising alarms about having too many treasuries as are so many other nations. I can’t see the Russians being too generous, nor any of those SWFs that have been beaten up on earlier injections. And with the Fed now out of short term dated paper one has to belief this is nothing but hugely inflationary.

  7. Anonymous

    In a push me -pull you world, the voice of our creditors is about to be heard – follow the 10 year bond as we move to neverland. (No, not the one in Cal)

  8. Anonymous

    The latest actions of the Treasury and Fed remind of a story from the war in Viet Nam. Remember the American troops who “destroyed the village in order to save it”? Our policymakers seem to be destroying capitalism in order to save it.

  9. Anonymous

    How do we now prevent the formation of high yield mutual funds composed of distressed debt, which are
    insured by the new facility? Will the government have to give a pass to the portfolio of every money market fund? Mechanics should be interesting.

  10. Anonymous

    Anon of 10:06 gets at the real problem here. It is just another increase in moral hazard, as with all insurance. If there really is a secret desire among the leaders in the administration to bankrupt the government in order to “save” us all from terrible social programs, I believe they are putting in place the tools necessary to finally get it done.

  11. Matthew Dubuque


    The credit card and automobile receivables are clearly a source of concern here, as well as the short term instruments that finance those that hold them.

    The overall rationale behind the move to insure money market funds is that the potential for a true banking panic was unaddressed without it.

    Almost all of the literature in finance (Journal of Finance, NBER, papers from various Federal Reserve branches, etc.) on the subject of banking panics has dealt with deposit-related runs on commercial banks and to a lesser extent investment banks.

    The banking function offered by money market accounts from non-commercial bank actors was yet another Achilles heel of Milton Friedman’s wet dream of unregulated financial marketplace.

    Most Americans view “money market funds” as safe and secure and if additional funds “broke the buck” the scope of THAT panic would have implications for the short-term financing market every bit as great as the carnage caused by AIG.

    Matthew Dubuque

  12. doc holiday

    So, where do people think they can run to?

    Re: redemptions from money-market

    A liquidity trap tends to limit the amount of race tracks and casinos that can stay open for business, so to panic now, is a little late IMHO, yah shoulda been ready a year ago…

    Re: there is little left to support bond prices under the circumstances until they pull some new action Sunday night. According to Bloomberg, the 2-yrs fell the most in 23-yrs, while odds of a rate cut in the next few meetings have fallen hard. The curve has slid to a flattened pose with the 2-10-yr yield spread back at 163, after a brief trip through 200.

  13. Anonymous

    Its not a done deal by any account. It has to get past Schumer and Frank.
    So expect that somehow the money will end up lowering troubled mortgages (one could de-toxify the RMBS by supporting the underlying mortgages) and that the AIG model will be be the paradign for punishing wall street.

    Then there are the Republican issues. Can’t see Shelby Bunning etc (and McCain??) stepping aside.
    Could it be that the Uebercapitalists implode due to their internal contradictions??
    Interesting times

  14. fatbear

    A2/P2 spread blew out over past few days – from 82 bp on Monday to 361 yesterday – literally off the chart – means that the “real economy” is being starved – CP for mid-market non-financials over 6% – devastating

  15. mxq

    Oh man…here’s a doozy of a headline at NYT:

    “Congressional Leaders Were Stunned by Warnings”

    Seriously…do any of these people have access to a computer?

    If no – do not vote for them

    If yes -Have they read lately?

    If no – do not vote for them

    If yes – do not vote for them b/c they haven’t done anything while knowing full well the ridiculous festering problems that have been occuring for the last 2 years.

  16. ruetheday

    I agree with Anonymous of 12:59.

    This is not a done deal by any stretch.

    Wall Street is expecting a detailed plan will be made public by Monday morning and that it will pass both houses and be signed by Bush before Congress adjourns Friday afternoon.

    There are a lot of Republicans that oppose the MOAB on ideological grounds and there are a lot of Democrats that want to tag on a bailout for homeowners along with an extension of unemployment benefits and other safety nets. This is an election year, and each side is wary of how the other side will use this against them.

    Now, I do think that SOMETHING will go through next week. But it may not be the sort of “we pay top dollar for toxic waste” plan the street thinks.

  17. Anonymous

    This is Roubini’s take on best bailout. I agree with him:

    “So of the five possible uses of fiscal policy – income relief to households (the 2008 tax rebate), rescue/bailout of financial institutions (Bears Stearns, Fannie and Freddie, AIG), purchase of assets of failed institutions (an RTC-like institution), recapitalization of undercapitalized financial institutions (an RFC-like institution), government purchase of distressed mortgages to provide debt relief to households (an HOLC-like institution) – the last option is the most important and effective to resolve this severe financial and economic crisis.”


  18. Anonymous

    Dumb Questioning here:

    But don’t money market funds offer a higher yeild for more risk?

    I think so, and…., if bank recapitalization is a need; then why don’t we just raise FDIC limits rather than insure risk takers?

    I’m sorry if Money Markiter’s thought x or y was safe or not! When they break the BUCK, they’re GONE!!

    And holders of theese funds “just” might find safe haven in banks!

    Thats all, GOV stay out!!!

  19. G

    Friends I have in the banking industry are running around with their hair on fire about this idea.

    They argue that depositors were already scared, and that having UNLIMITED amounts guaranteed within money markets will mean large depositors could easily flee their banks to the “safety” of money market funds that would have higher limits.

    Therefore, another unintended consequence of the money market guarantee is that it will actually weaken bank’s deposit base.

    So, when finally implemented, best guess is we’ll likely see a limit only up the $100k; similar to the FDIC limit.

  20. Richard Kline

    “Senndd innn the _clowwnnns_, there ought tooo be CLOWNNNNNNSSS, welll, maaaayybbe nexxxxt YEAARRRRR . . . .”

    When the trapeze high-fyler doesn’t make the swap over and hits the deck, in go the men with funny noses. And just so, now: “Hank and Ben, yer on, get out there and fake it!” But that high flyer is still just as broken and/or dead . . . .

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