Fed Publishes History of Money Funds
The Federal Reserve published a "History" piece on "Money Market Mutual Funds," which gives a nice basics and brief overview of the asset class. They write, "Money market mutual funds (MMMFs) arose in the 1970s. At the time, market interest rates were higher than the rates that commercial banks were permitted to pay on their deposits by federal banking regulation, spurring the growth of investment alternatives outside of banks including MMMFS. Since MMMFS are not banks, they developed largely outside of the sphere of Federal Reserve operations or regulations until the advent of severe financial crises in 2008 and 2020, when the Fed made emergency loans to support MMMFs and the broader economy. In addition, since 2013 the Fed has interacted with MMMFs regularly through open market operations in the context of implementing monetary policy." The Fed explains, "Money market funds began largely as a workaround to regulations that limited the interest rates depository institutions were allowed to pay depositors. These limits, known as Regulation Q, were required by federal law beginning in 1933 and were implemented by the Federal Reserve and other financial regulators. As interest rates rose in the 1970s, Regulation Q gave depositors an incentive to find short-term investments outside of the banking system, such as Treasury bills, commercial paper, and repurchase agreements. MMMFs offered consumers the ability to invest in those instruments with some additional conveniences, including the ability to withdraw funds at any time, diversify across instruments, choose any specific investment size, and economize on administrative expenses." They comment, "These basic forces led to the establishment of the first MMMF in 1972. The number of funds grew to 36 in 1975, 90 in 1980, and 649 in 1990. Officials at depository institutions such as banks expressed concern that they could not compete with the interest rates offered by MMMFs. At times in the 1970s, depository institutions lost substantial amounts of funds to MMMFs.... The Monetary Control Act of 1980 required the phasing out of regulations on saving deposit interest rates. Thus, the presence of MMMFs played a central role in the unwinding of these 1930s-era regulations." The article adds, "A seminal moment in the history of MMMFs came in September 2008, when the Reserve Primary Fund suffered losses on commercial paper issued by Lehman Brothers. Investors staged a run, which quickly spread to affect many other money market funds. Over $400 billion was withdrawn from prime MMMFs, i.e., those that invested not just in safe government debt but also in somewhat riskier assets such as commercial paper (Makhija 2025). MMMFs experienced a second major episode of severe runs in 2020 at the onset of the pandemic. To protect investors, the Securities and Exchange Commission issues ... [a] new rule ... in 1983, known as rule 2a-7. This rule, which has since been revised several times, has governed several practices at MMMFs, including limitations on the maturity, credit quality, and liquidity of MMMF investments (Investment Company Institute 2012). After the 2008 crisis, the SEC revised this rule to allow funds to impose gates or fees to stop runs. However, in practice, the potential for MMMFs to impose gates or fees exacerbated runs in 2020 rather than preventing them, and revisions in 2023 largely removed the gates and fees. Much MMMF activity has migrated into funds that can invest only in government securities, which are subject to less stringent regulation because of the relative safety of those investments."
