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Regulation Almost Destroyed Money Market Funds, But Cash Management Needs Kept Them Alive

Jul 17, 2017

Extensive regulatory overhaul in October 2016 changed the money market fund (MMF) industry considerably, especially for institutional clients. Nonetheless, MMFs continue to be an important cash management tool for institutions even though their asset allocations are now much more restricted to preserve the feature of a constant share price. As we show in this paper, regulatory changes to MMFs correctly remove unviable promises of immediate liquidity at a constant share price while holding asset portfolios with varying risk exposures. We emphasize the importance of allowing price signals to reveal the impact of changes in the risk environment on asset holdings. We also believe that quantitative restrictions (e.g., withdrawal fees and gates) are counterproductive for preventing runs: they do not aid price discovery, and incentivize investors to circumvent the restrictions to access to their otherwise liquid assets in times of heightened liquidity demand.