Treasury is guaranteeing 3.5 trillion in money market funds with 50 billion

September 19, 2008

From the Treasury department:

“The U.S. Treasury Department today announced the establishment of a temporary guaranty program for the U.S. money market mutual fund industry. For the next year, the U.S. Treasury will 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.

President George W. Bush approved the use of existing authorities by Secretary Henry M. Paulson, Jr. to make available as necessary the assets of the Exchange Stabilization Fund for up to $50 billion to guarantee the payment in the circumstances described below.”

And a bit below in the same statement:

“This action should enhance market confidence and alleviate investors’ concerns about the ability for money market mutual funds to absorb a loss. Investors in money market mutual funds with a net asset value that falls below $1 would be notified that their fund triggered the insurance program.

The Exchange Stabilization Fund was established by the Gold Reserve Act of 1934. This Act authorizes the Secretary of the Treasury, with the approval of the President, “to deal in gold, foreign exchange, and other instruments of credit and securities” consistent with the obligations of the U.S. government in the International Monetary Fund to promote international financial stability.”

Comment: I admit that my reaction upon reading this statement was a smile. What is the problem of the economy? It is leverage. Firms like AIG and Lehman fail because they pledged too much with too little capital. And what’s the Treasury doing? It’s guaranteeing a 3.5 trillion industry,  that is deeply exposed to the bankrupt financial sector, with 50 billion dollars. What’s the rationale? It is that the underlying fundamentals of the economy are sound. Are they? I leave that to the reader to decide. Of course, money market funds should be guaranteed to prevent panic. But where will the government find the funds to guarantee everything in the economy? That is the problem.

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