Lael Brainard

Market turmoil caused by measures to contain Covid underscores need to make sure the financial sector can withstand a wide range of shocks, Federal Reserve Board governor Lael Brainard has said.

Speaking online at the 2021 annual Washington conference at the Institute of International Bankers on March 1, Federal Reserve Board governor Lael Brainard said regulators and international standard-setters have an opportunity to draw important lessons from the Covid shock, to identify fragilities, such as in prime money market funds [MMFs] and other vehicles with structural funding risk.

“A number of common sense reforms are needed to address the unresolved structural vulnerabilities in non-bank financial intermediation and short-term funding markets,” she said. 

She explained that vulnerabilities at prime MMFs appeared to have increased while their assets had doubled in the three years to March last year. As the Covid shock hit, investors rushed towards cash and the safest financial instruments, which saw net redemptions amount to 30% of assets in the worst two weeks in March.

This saw funding costs soar for borrowers, necessitating emergency funding facilities from the Fed for these vehicles.  

Potential reforms

Ms Brainard referred to several potential reforms contained in the President’s Working Group on Financial Markets, while the US Securities and Exchange Commission has requested comments on these options. 

Among the reforms under consideration are swing pricing on investors moving first that would kick in when redemptions pass a certain threshold, meaning those cashing out would receive less for their holdings. She cited the EU’s case of using swing pricing for more than a decade for European mutual funds, which has slowed redemptions during periods of stress.

Other potential measures include time-delayed redemptions for minimum balances along with funds carrying capital buffers to absorb losses.

Market convulsions 

She also discussed market convulsions experienced by the US Treasuries market in mid-March last year when dealers were overwhelmed by the pace of selling because some market participants were dumping the bonds to fund losses elsewhere in their portfolios.

Calming these markets necessitated substantial Fed intervention. Among the measures being discussed to stop a reoccurrence of the problem include enhancing market transparency.

Another idea is for the Fed to provide standing facilities to backstop repos in stress conditions, but said these measures involve complex trade-offs that need further analysis. 

And though central counterparty clearing houses (CCPs) stood up well to the volatility and surging trading volumes, Ms Brainard nonetheless expressed concern saying that institutions were likely considerably helped by the massive emergency interventions and the strong capitalisation of banks. 

She said this is an opportunity for CCPs to consider their liquidity risk-management plans, including their assumptions regarding the ability to raise cash from non-cash assets.

They could also assess the trade-offs between their own risk-management decisions and broader financial stability concerns, particularly as CCPs may have contributed to deleveraging by some market participants in March due to the increases in margins they collected when trading and volatility spiked, she said.

Ms Brainard said CCPs could revisit their margin models and look into ways to reduce procyclicality and consider increasing transparency to help clearing members anticipate margin calls during periods of volatility.

The comments echo remarks from the International Swaps and Derivatives Association, and the Financial Stability Board is conducting a review of CCPs. 

This article first appeared in The Banker’s sister publication Global Risk Regulator.


All fields are mandatory

The Banker is a service from the Financial Times. The Financial Times Ltd takes your privacy seriously.

Choose how you want us to contact you.

Invites and Offers from The Banker

Receive exclusive personalised event invitations, carefully curated offers and promotions from The Banker

For more information about how we use your data, please refer to our privacy and cookie policies.

Terms and conditions

Top 1000 2023

Request a demonstration to The Banker Database

Join our community

The Banker on Twitter