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August 24, 2012

FSOC Must Act or Risk Irrelevance

There is a very important article in today’s New York Times on a crucial topic: the choice facing the Financial Stability Oversight Council (FSOC) in light of the SEC’s inability to regulate systemically significant money market funds (MMFs), which indisputably pose a threat to the financial stability of the United States. After all, the fact the government had to create a rescue program for the $3.7 trillion industry in 2008 shortly after the Lehman collapse establishes that.

Moreover, statements by FSOC itself in its annual report and by senior officials of the members of FSOC like Fed Governor Tarullo emphasizing the systemic significance of MMFs and the need to regulate them should put this issue to rest.  As important, this should also allow everyone to focus on how best to protect the US taxpayers and the government from having to bailout the industry again and how to reduce the industry’s role in precipitating and/or spreading the next financial crisis.

We addressed some of the issues in a post yesterday, but that was focused mostly on FSOC’s power, authority and mechanics for taking action under these circumstances.  The key issue now is that the FSOC must act under these circumstances because it is the right thing to do and because they are required under the law to do so.  However, we recognize that there are a number of real (and perceived) hurdles FSOC would have to overcome to act.

First, as identified in yesterday’s post. FSOC must decide which avenue to exercise authority here because that determines which procedural steps it must take. Then, of course, it must take the steps consistent with the avenue, many of which could be time consuming. Moreover, because it would be the first time FSOC has done this, it will be precedent setting and you can be sure that it’ll be lawyered up and every angle will be considered. While some of this is understandable, prudent and appropriate, none of that should be allowed to cause either extensive delay or, worse but possible, paralysis.

Second, that this is being done on an extremely important issue where the industry is already fully engaged in the battle and in the face of a primary regulator’s failure to act also makes it more difficult, but no less important. And, even if all these hurdles are overcome, it’s an unfortunate reality that some of the FSOC members aren’t as strongly committed to reform as they should be and getting them to act in normal circumstances can be difficult, never mind in a high profile circumstance like this.

But, none of that should matter because the law doesn’t say FSOC should act when they feel like it or when it’s easy.  No matter when they act — if they are ever going to use their power — it will be precedential and consequential. Indeed, FSOC exists for this very circumstance and it is why FSOC was given the legal authority to act under these circumstances. 

Much more importantly, given that is it beyond dispute that MMFs pose a real and serious threat to the financial stability of the country, the prior public statements of FSOC itself about the systemic risks of MMFs, and the clear legal duty to act, FSOC must act and regulate MMFs.  Failure to act — and act relatively quickly — on such a high profile, important issue will make FSOC look powerless and, likely, irrelevant, no matter what after-the-fact spin or explanation is offered.  It will be difficult to take FSOC seriously in the future if it does not act here. This is a watershed moment for FSOC.  It may not be the ideal time, issue or circumstance, but that is irrelevant to its legal duty and clear mandate to act.



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