United States: Temporary Guarantee Program for Money Market Funds

Following the collapse of Lehman Brothers, the Reserve Primary Fund, which held $785 million of Lehman’s commercial paper, broke the buck—that is, it reported a net asset value (NAV) of $0.97 (Kiss 2019, 17; Kacperczyk and Schnabl 2010; McCabe 2010; SEC 2009). When the fund’s managers did not quickly restore its NAV to more than the targeted $0.995, investors who had considered MMFs to be safe assets ran from MMFs across the market (SEC 2009; Kacperczyk and Schnabl 2010). Between September 10, 2008, and October 1, 2008, they withdrew $439 billion from MMFs, including from those considered safer than the Reserve Primary Fund (Gorton and Metrick 2010; Kim 2013). The withdrawals forced many MMFs to sell assets at lower prices (Schmidt et al. 2016; Shafran 2020).

The Department of the Treasury created the Guarantee Program to “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” with the hope of stopping these runs (Department of the Treasury 2008d).

The Treasury announced the program on September 19, 2008. That same day, the Federal Reserve announced its Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility (AMLF) (Federal Reserve 2020). The AMLF, like the Guarantee Program, was created to strengthen MMFs. It provided banks with financing by purchasing high-quality asset-backed commercial paper (ABCP) from MMFs (Federal Reserve 2020). By doing so, the Federal Reserve aimed to help MMFs meet investor demands for redemptions and maintain a healthy level of market liquidity (Federal Reserve 2020).

In October 2008, the Federal Reserve announced the Money Market Investor Funding Facility (MMIFF), which was meant to aid the money-market industry by providing liquidity to its investors (Federal Reserve 2010; Wiggins 2020).

The Gold Reserve Act of 1934, as amended in 1976, allowed the secretary of the Treasury, with the president’s approval, to use the ESF to fulfill “obligations of the Government in the International Monetary Fund on orderly exchange arrangements and a stable system of exchange rates” (Gold Reserve Act 1934; Bretton Woods Amendments 1976; USC 1973; Department of the Treasury 2008d). The Act allowed the Treasury to “deal in gold, foreign exchange, and other instruments of credit and securities" (Gold Reserve Act 1934; Department of the Treasury 2008d). Prior to the Guarantee Program, the Treasury used the ESF for various purposes, including the stabilization of exchange rates, stabilization loans, and warehousing (Humpage 2008).

The Congressional Oversight Panel (COP), among others, questioned whether the language of the Gold Reserve Act allowed the Treasury to use the ESF to support MMFs. In October 2008, Congress passed legislation that prohibited the Treasury from doing so again without specific Congressional approval (Shafran 2020). Congress temporarily provided that approval in 2020 during the COVID-19 pandemic, although in that case the Treasury did not reintroduce an MMF guarantee (CARES Act 2020; McNamara 2020).

The Treasury ran the Guarantee Program (Department of the Treasury 2008d). To enroll in the program, MMF managers had to submit a signed agreement and disclose information to the Treasury about their funds, including the number of shares the MMF held, their NAV, their maturity, and the total number of shareholders (Department of the Treasury 2008b; Department of the Treasury 2008a).

In cases where an MMF exercised the Treasury’s guarantee, the MMF was required to notify the Treasury (Shafran 2020).

Several private and governmental agencies adopted new regulatory guidance to support the Guarantee Program. For instance, the Financial Industry Regulatory Authority released guidance on how MMFs should disclose their involvement in the Guarantee Program (FINRA 2008). The Internal Revenue Service also released regulatory guidance regarding the tax effects of the Guarantee Program (IRS 2008b; IRS 2008a).

Congress maintained some oversight over the Guarantee Program. Notably, the COP examined the efficacy of the government’s economic programs, including the Guarantee Program (COP 2009).

On September 19, 2008, when the Guarantee Program was announced, the Treasury noted two goals: to maintain confidence in MMFs, which were an important financial instrument in the US, and to promote global financial stability (Department of the Treasury 2008d). Then-Secretary of the Treasury Henry J. Paulson, Jr., in testimony before Congress, stated that such interventions were designed to protect American taxpayers by stabilizing the financial system (Paulson 2008).

The Guarantee Program was designed to cover 100% of asset shortfalls once an MMF had been liquidated (Shafran 2020).

The Treasury used $50 billion from the ESF to back the Guarantee Program (Shafran 2020). Architects of the program believed that because they were fighting a liquidity run, any losses would be minimal and the $50 billion sufficient to insure the $3.5 trillion MMF market (Shafran 2020).

The Guarantee Program was available to all MMFs regulated under Rule 2a-7 of the Investment Company Act of 1940 (Department of the Treasury 2008f). Rule 2a-7 differentiates MMFs from other mutual funds and limits their “credit, interest-rate, and liquidity risks consistent with the funds’ maintenance of a stable NAV” (McCabe 2010). These MMFs, both retail and institutional and taxable and nontaxable, were required to register with the SEC and maintain a normal share price of $1 per share (Department of the Treasury 2008f). Only MMFs could enroll in the Guarantee Program (Department of the Treasury 2008c). Fund managers wishing to participate were required to enroll in the Guarantee Program starting in October 2008 and then extend their participation, if they wished, once the Guarantee Program was extended (Department of the Treasury 2009; Department of the Treasury 2008g; Department of the Treasury 2008h).

Participating MMFs were required to have an NAV at or above $0.995 on September 19, 2008 (Department of the Treasury 2008f). Architects of the program chose this cutoff to prevent damaging runs while at the same time not curing “losses that had already been sustained (because of credit mistakes) at the few funds that were already in trouble” (Shafran 2020).

At its height, the Guarantee Program covered 366 MMF-management companies and 1,486 individual funds (Shafran 2020). All of the largest MMF firms had enrolled by October 1, 2008 (Macey 2011). However, as liquidity returned to the financial system, not all institutions remained in the program (Shafran 2020).

The Treasury only insured MMF balances held as of the program’s announcement on September 19, 2008 (Department of the Treasury 2008f). This was intended to discourage investors from moving money from traditional banks to MMFs to take advantage of the new guarantee. Policymakers worried that the program could create a run on traditional banks (Shafran 2020). Given that investors who invested in MMFs after the announcement of the Guarantee Program were not covered by the guarantee, there was no incentive to shift funds from traditional banks to MMFs to take advantage of it.

When it announced the Guarantee Program in September 2008, the Treasury charged quarterly fees to participating institutions that varied according to the NAV of the MMF (Department of the Treasury 2008f). For MMFs with NAVs equal to or greater than $0.9975 at the close of business on September 19, 2008, the Treasury charged one basis point on the size of the insured fund (Department of the Treasury 2008f). For MMFs with NAVs equal to or greater than $0.995 on September 19, 2008, the Treasury charged 1.5 basis points (Department of the Treasury 2008f). These fees were meant to cover the first three months of participation in the program (Department of the Treasury 2008f).

When the Guarantee Program was extended in November 2008, the Treasury increased the quarterly fees. For MMFs with NAVs equal to or greater than $0.9975 on September 19, 2008, it raised the fee to 1.5 basis points (Department of the Treasury 2008h). For MMFs with NAVs equal to or greater than $0.995 on September 19, 2008, it raised the fee to 2.2 basis points (Department of the Treasury 2008h). These fees were meant to cover the costs of participation in the program until April 30, 2009 (Department of the Treasury 2008h).

The Treasury revised the fees again in March 2009, when it extended the program until September 2009 (Department of the Treasury 2009). This time, the fees covered a six-month period rather than a quarter (Department of the Treasury 2009). For MMFs with NAVs equal to or greater than $0.9975 on September 19, 2008, the Treasury charged 1.5 basis points on the size of the insured fund (Department of the Treasury 2009). For MMFs with NAVs equal to or greater than $0.995 on September 19, 2008, it charged 2.3 basis points (Department of the Treasury 2009).

The Treasury decided on the size of the fees to encourage mass participation while also charging “something that would be meaningful as a percentage of the margins earned by most managers” (Shafran 2020). The three payments MMFs made summed to 4 to 6 basis points per year, depending on their NAVs (Shafran 2020). This range was based on the Treasury’s estimate that MMF profits ranged from 4 to 10 basis points per year (Shafran 2020). Moreover, though the Department of the Treasury sought to charge firms fees that were meaningful, the COP said that “the fees the government charged the financial institutions for the guarantees in all of the programs were lower than fees commercial entities would have charged for the same protection,” leading to potential moral-hazard concerns (COP 2009).

The Guarantee Program was created as a form of “death insurance,” meaning that an MMF manager who wanted to exercise the program’s guarantee had to shut down the fund (Shafran 2020). To exercise the guarantee, the NAV of an MMF had to fall below $0.995, what was termed a “Triggering Event” (Shafran 2020). The parent company, then, could restore the value of the MMF (Shafran 2020). However, if the parent company decided not to restore the value of the MMF or could not do so, the MMF could file a claim with the Treasury within 24 hours of the Triggering Event (Shafran 2020). Upon filing the claim, the MMF would be required to stop redemptions. Next, within five days, the assets in the MMF would be liquidated, with the proceeds going to investors (Shafran 2020). Within 30 days of the Triggering Event, the MMF could file a claim with the Treasury to cover any shortfalls (Shafran 2020). Requiring an MMF that used the guarantee to liquidate created incentives for parent companies to restore the NAVs of their MMFs. Liquidation would have “draconian” consequences, including negative reputational effects (COP 2009).

The Guarantee Program had no other conditions (Department of the Treasury 2008f).

The Guarantee Program was originally established for three months, after which the secretary of the Treasury was to decide whether to extend or terminate it (Department of the Treasury 2008f). Later, in November 2008, the Treasury extended the Guarantee Program until the end of April 2009 (Department of the Treasury 2008h). Again, the secretary of the Treasury had the power to extend or terminate the Guarantee Program after this date (Department of the Treasury 2008h). In March 2009, the secretary of the Treasury extended the Guarantee Program through September 18, 2009, on which date the Guarantee Program ultimately ended as scheduled (Department of the Treasury 2009).

Architects of the Guarantee Program have noted that a clear termination date was crucial so that “everyone [would] understand we were not looking to permanently reshape the industry” (Shafran 2020).