The European Central Bank (ECB) recently issued its opinion on the European Commission’s proposal for a Regulation on money market funds.
We have set out the key findings of the ECB below.
The ECB is of the view that it should not be necessary for existing CNAV MMFs to convert to VNAV MMFs given the fact that CNAV MMFs will be required to maintain a NAV buffer.
The ECB considers that there are some aspects of the NAV buffer that may warrant further assessment:
- The requirement that all CNAV MMFs maintain a 3% NAV buffer does not take into account the fact that each MMF has a distinctive risk profile, this fact may have undesired consequences on the investment policies of CNAV MMFs. Market pressure to rapidly build up or replenish the NAV buffer may incentivise low-risk profile CNAV MMFs to step up their profitability objectives
- The proposed Regulation should allow for more flexibility in the means used to maintain the NAV buffer, including an extension of the replenishment period.
The role of MMFs in intermediation
While welcoming the proposed Regulation from a financial stability perspective, the ECB warns that its effect may be that the intermediation capacity of MMFs is potentially reduced.
In addition, the ECB is of the view that an assessment should be made as to whether the reallocation of funds from MMFs to the banking system could be substantial and whether this would in fact impact short-term money markets.
The proposed Regulation sets forth requirements for the eligibility of securitised assets for investment by MMFs. The ECB suggests that the benefits of the contemplated restrictions to investment in asset backed commercial paper be evaluated against their impact on the functioning and depth of the securitisation markets.
Internal rating systems
The Regulation proposes that credit rating agencies be banned from assigning ratings to MMFs. The ECB notes that internal rating models may yield similar credit assessments to those of rating agencies, meaning that the number of highly-rated issuers would remain limited. Thus, the risk of forced asset sales in the case of economic downturns is not necessarily mitigated. The ECB also emphasises that ethical issues should also be addressed to assure that internal ratings results are not influenced by vested interests.
In the Appendix to its Opinion, the ECB sets out a number of recommended changes to the text of the proposed Regulation. Of particular significance is the amendment to Article 46 which would make the Regulation applicable from 1 January 2015.
The proposal is scheduled to be reviewed by the ECON Committee of the EU Parliament in September 2014. We will provide a further update once the findings of the ECON Committee have been made public.