Could the SEC Become Irrelevant?

New SEC Chair Mary Jo White many well be facing an early test of her leadership. The battle ground could be money market reform. The stakes are high – the SEC could find itself becoming less than relevant in a critical corner of the markets.

Treasury Secretary Jacob Lew testified regarding the annual report of the Financial Stability Oversight Counsel or FSOC before the Senate Committee on Banking, Housing and Urban Affairs, the Secretary informed the Committee. Money market funds, and the need for reform, were one key topic. The Secretary told the Committee that: “The Council remains concerned that vulnerabilities in wholesale funding markets could lead to destabilizing fire sales. Specifically, run-risk vulnerabilities related to money market mutual funds (MMFs), which became apparent during the financial crisis, still remain despite an initial set of reforms implemented [by the SEC] in 2010. In November 2012, the Council issued proposed recommendations for public comment to implement structural reforms of MMFs to reduce the likelihood of runs.”

Secretary Lew’s testimony echoes that of former SEC Chairman Mary Schapiro. In testimony before the same Senate Committee almost one year ago, Ms. Schapiro testified that: “. . . money market funds as currently structured pose a significant destabilizing risk to the financial system. While the Commission’s 2010 reforms made meaningful improvements in the liquidity of money market funds, they remain susceptible to the risk of destabilizing runs.” Testimony before the Senate Committee on Banking, Housing and Urban Affairs (June 21, 2012).

In the year since Ms. Schapiro’s testimony no reform has taken place. No proposed regulations have been issued for comment by the SEC. Two months after her testimony the Commission did consider proposals for reform. The proposed rules were not issued because the Chairman could not muster three votes necessary to issue the release. Ms. Schapior issued a statement on August 28, 2012 regarding the need for reform. Commissioners Gallagher and Paredes issued retorts calling for more study despite all the work which had been done on the question.

While the Commission studied, the FSOC moved forward. In November 2012 the Council “issued for public comment proposed recommendations to the SEC with three alternatives for reform to address the structural vulnerability of MMFs,” according to Secretary Lew in his testimony yesterday.

The next month the SEC staff completed another report on money market reform. Commissioner Gallagher praised it. In remarks on December 5, 2012 the Commissioner noted that the staff report provided needed research.

Whether the December SEC staff report is sufficient to generate new proposals for reform in this area has yet to be determined. What is clear however, is that the if the SEC fails to act the FSOC will. Secretary Lew told the Senate Committee yesterday that the FSOC is prepared to move forward if the SEC does not: “The Council is currently considering the public comments on the proposed recommendations [issued in November 2012]. If the SEC moves forward with meaningful structural reforms of MMFs before the Council completes its process, the Council expects that it would not issue a final recommendation to the SEC. However, if the SEC does not pursue additional reforms that are necessary to address MMFs’ structural vulnerabilities, the Council should use its authorities to take action in this area.”

New SEC Chair Mary Jo White suggested that a new approach for money market funds is under consideration in her May 1, 2013 remarks to the Investment Company Institute General Member Ship Meeting. Perhaps. But the clock is ticking. If the SEC fails to act, it may find itself becoming less than relevant in this critical area of the markets.

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