Money Market Mutual Funds
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.
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.
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 1990.1
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. Officials at small banks protested that they were at a particular disadvantage, since MMMFs returned some funds to large banks by investing in their certificates of deposit, but did not invest in CDs at smaller banks. Federal Reserve officials agreed that interest rate regulations should be adjusted to level the playing field, and so did Congress. Governor J. Charles Partee, for example, testified in 1980 that the Federal Reserve supported the "gradual deregulation of maximum rates payable on deposit instruments" rather than extending controls to money market funds, which was another proposal at the time (Partee 1980). 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.
Market participants and regulators were aware of the risk of runs on MMMFs soon after the first ones were established (Bouveret, Martin, and McCabe 2022). For example, in the 1978 edition of The Money Market (p. 78), Marcia Stigum posed the following hypothetical:
"Suppose short-term interest rates were to rise sharply; then the market value of the securities in the fund's portfolio would be temporarily depressed. Suppose also that a large number of investors simultaneously redeemed their fund shares for cash. It is conceivable that such a fund would be forced to sell off some of its securities at a loss, and that the actual market value of the securities backing its remaining outstanding shares would fall below its fixed share value. In that case, if redemptions continued, the fund would run out of money before all shares were redeemed."
MMMFs are vulnerable to runs because they use accounting methods designed to provide a stable share value, typically $1.00. If investors perceive that a fund has or will have losses, investors have an incentive to be the first to withdraw at the fixed value, leaving losses for the remaining investors to absorb.
Run risk was largely unrealized during the first few decades of operations at MMMFs, though some episodes of losses did occur. In 1980, abrupt and large increases in interest rates caused losses for one MMMF. In 1989 and 1990, defaults of two commercial paper issuers caused losses for about a dozen MMMFs. In 1994, investments in derivatives tied to interest rates led to losses again for about a dozen MMMFs. In all these cases except one, investors did not lose money because losses were covered by the financial institutions that sponsored the funds. The exception was the Community Bankers U.S. Government Fund, which in 1994 became the first money market fund to "break the buck" and fail because its assets were worth less than $1.00 per share. No sector-wide run developed, though.2
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 issued its first regulation governing MMMFs in 1977. That regulation sought to limit the use of certain accounting practices that supported fixed $1.00 valuations (SEC 1977).3 However, after strong resistance from the industry, the SEC issued exemptions to that rule and then switched approaches with a new rule issued 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.
Federal Reserve lender-of-last-resort interactions with MMMFs
MMMFs are not depository institutions, so they do not normally have access to loans from the Federal Reserve. However, the Federal Reserve is the lender of last resort to the American financial system, and in exigent and unusual circumstances Federal Reserve Banks can extend loans more widely. These powers were invoked in 2008 and 2020 to make loans that supported MMMFs amidst the severe runs on these funds. Federal Reserve officials were concerned that the disruption of MMMFs could significantly impact economic activity. In particular, because MMMFs could not continue their normal purchases of commercial paper, large corporations that depended on the commercial paper market encountered severe strains.
In both 2008 and 2020, the Federal Reserve made loans to banks that purchased commercial paper from MMMFs. In 2008, the facility that accomplished this effort was named the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility. In 2020, a similar facility was named the Money Market Fund Liquidity Facility. In 2008, the Fed created two additional facilities, reflecting the severity of that crisis. In the Commercial Paper Funding Facility, the Fed made loans to a limited liability company that purchased newly issued commercial paper. The Fed also made loans available directly to MMMFs in the Money Market Investor Funding Facility, though this facility was never used.
Federal Reserve monetary policy interactions with MMMFs
The growth of MMMFs in the 1970s first began to affect the Fed's conduct of monetary policy by affecting measurements of the money stock. Because investors used MMMFs as substitutes for deposit accounts, flows between deposits and MMMFs made existing money stock measures volatile and less useful (Partee 1980). As a result, the Board of Governors redefined monetary aggregates in 1980 to include MMMFs in the M2 money stock measure (Simpson 1980).4
While bank and thrift deposits are subject to reserve requirements, MMMF shares have not been. Some in Congress supported proposals to extend reserve requirements to MMMFs, as did Paul Volcker, chairman of the Board of Governors from 1979 to 1987. Volcker suggested that extending reserve requirements to MMMFs would help the Federal Reserve implement monetary policy. At the time, the Fed's approach to monetary policy focused on targeting monetary aggregates, and reserve requirements helped make the level of those aggregates more predictable. Volcker said that "there is a clear logical case for closing a gap in a monetary control system built on the premise that reserves should be assessed against transaction balances wherever they might be held" (Volcker 1981). In addition, this proposal addressed the concerns of officials at depository institutions about an unlevel playing field; since the Federal Reserve did not pay interest on reserves at the time, banks were at a competitive disadvantage against MMMFs. Indeed, the Monetary Control Act of 1980 had extended reserve requirements to S&Ls and savings banks that were offering transaction accounts. By the same logic, Volcker and others recommended extending those requirements to MMMFs. However, Congress chose against this path. Money fund stakeholders and the SEC successfully argued that MMMFs were sufficiently distinct from banks to not warrant reserve requirements. The prevailing tide of the early 1980s was against regulation and in favor of promoting financial innovation.5
A few decades later, the Federal Reserve began interacting with MMMFs directly in the conduct of monetary policy. In contrast to the way monetary policy was implemented in 1981, by 2013 the Fed's approach was to target the level of short-term interest rates rather than measures of the money stock. To that end, the Fed began interacting with MMMFs through the overnight reverse repurchase facility (ON RRP). Because overnight repurchase agreements are a large part of short-term money markets, the Fed uses the facility to transact with major participants in that market, including MMMFs. The ON RRP is designed to ensure that short-term interest rates do not fall below the Federal Reserve's target range. Participants can earn interest by temporarily selling a security to the Fed overnight and buying it back the next day at a slightly lower price.
In a 2023 interview, former Fed Chair Ben Bernanke judged that the Fed would benefit from new legislation that would fix "a structural flaw that was never corrected by Congress, which is that the Fed is restricted on normal grounds to lending only to banks and not to other types of financial institutions" (Somner 2023). The roots of these statutory limitations go back to the Fed's establishment in 1913, when the financial system was more centered on banks and MMMFs did not yet exist. For their part, MMMF stakeholders have generally preferred that MMMFs remain outside the banking system and banking regulation.
Endnotes
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1 See Hershey (1973) for the Reserve Primary Fund's establishment in 1972, SEC (1990, p. 30240) for the number of funds in 1975 and 1990, and Subcommittee on Financial Institutions (1980, p. 4) for the number of funds in 1980.
- 2 The 1980 episode involved the Institutional Liquid Asset Fund. This fund was more exposed to short-term rates than other funds because it held a relatively longer-maturity portfolio of securities. As the fund's yield fell below market rates, some of the fund's institutional clients withdrew to invest directly in money market instruments, causing the fund to realize losses. To avoid failure, the fund's sponsor, Salomon Brothers, and investment advisor, First National Bank of Chicago, provided financial support. See Carrington and Herman (1980) and Foldessy and Blum (1980).
The 1989-1990 episode involved the defaults on commercial paper issued by Integrated Resources, a financial services firm, and Mortgage and Realty Trust, a commercial real estate investment trust. MMMFs had come to invest about half of their assets in commercial paper by the end of the 1980s (SEC 1990, p. 30241) In all the MMMFs that experienced losses, sponsors of those funds again provided financial support to cover the losses. See Clements (1990) and Laing (1990).
In the 1994 episode, the Community Bankers fund had invested in derivative products known as structured notes. These investments were issued by Federal Home Loan Banks and the Student Loan Marketing Association (Sallie Mae). Other MMMFs made similar investments. These investments, which were essentially bets on interest rates, quickly lost value amidst a rise in interest rates in 1994. Barrons called the authority to buy such investments a "crazy loophole" in SEC regulations, which allowed for such investments only if issued by U.S. government-sponsored enterprises. See Jasen and Taylor (1994) and Bary (1994).
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3 In one accounting method, known as penny rounding, MMMFs round the value of their shares to the nearest penny. As long as the value of a share does not fall more than half a cent below $1.00, the valuation remains $1.00. In another accounting method, known as amortized cost, MMMFs value their investments at their initial costs. If those investments change in value, MMMFs gradually change the value over the remaining life of the investment.
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4 Because of the similarities between MMMFs and deposits, some bank officials inquired whether MMMFs violated the provision of the 1933 Banking Act that prohibited deposit and check services outside the banking system. The practice of redeeming MMMF shares by check was of particular concern and had become a popular feature after its introduction by the Fidelity Daily Income Trust in 1974. In an influential 1979 episode, the Justice Department responded to an inquiry from the Bowery Savings Bank by declining to view these practices as violating the 1933 act. The Justice Department deemed check-writing a "formality" that did not alter the nature of money market fund investors as shareholders rather than depositors. Justice Department officials also emphasized that MMMFs did not offer deposits, since their investors would be shareholders rather than creditors in the event of a bankruptcy; and unlike bank depositors, these investors had exposure to fluctuations in the value of the investments, even though MMMFs have always sought to maintain steady values of $1.00 per share. The Bowery Savings Bank's letter can be found on p. 472 of Subcommittee on Financial Institutions (1980). A retyped version of the Department of Justice's letter can be viewed at archive.org: https://archive.org/details/DOJLetterHeymannLippeLybeckerGlassSteagallAct.
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5 The Federal Reserve did temporarily impose a kind of reserve requirement on MMMFs in 1980. In the Credit Control Act of 1969, the Board of Governors had been given authority to "regulate and control any or all extensions of credit" whenever the president determined such an action was necessary for the purpose of preventing or controlling inflation. With the approval of President Carter, the Board imposed a special deposit requirement on MMMFs on March 14, 1980, as part of a wide-ranging program to reduce inflation. MMMFs were required to deposit with the Federal Reserve 15 percent of the increase in their total assets after that date, at no interest. The requirement was lifted on July 28, 1980. For more information, see the Federal Reserve Bulletin, April 1980, p. 317, and the 1980 annual report.
References
Bary, Andrew. (1994) "Investors' Money Slips Through a Crazy Loophole in Money Fund Rules." Barron's, October 3, p. MW10.
Bouveret, Antoine, Antoine Martin, and Patrick E. McCabe. (2022) "Money Market Fund Vulnerabilities: A Global Perspective." Finance and Economics Discussion Series 2022-012. Washington: Board of Governors of the Federal Reserve System. Available online.
Carrington, Tim and Tom Herman. (1980) "How Adviser's Gamble on Interest Rates Led to Trouble for an ILA Money Fund." Wall Street Journal, October 9, p. 31.
Clements, Jonathan. (1990) "Money Market Funds Shedding Lower-Grade Paper." Wall Street Journal, October 22, p. C1.
Foldessy, Edward P. and David J. Blum. (1980) "Salomon Brothers and Chicago Bank Act in Bid to Avert Run on Big Money Fund." Wall Street Journal, October 8, p. 3.
Hershey, Robert D. (1973) "Overnight Mutual Funds for Surplus Assets," New York Times, January 7, p. 163.
Investment Company Institute. (2012) "History of Rule 2a-7 – The Evolution of Money Market Fund Regulation." Available online.
Jasen, Georgette and Jeffrey Taylor. (1994) "Derivatives Force First Closure of Money Fund." Wall Street Journal, September 28, p. C1.
Laing, Jonathan R. (1990) "Never Say Never—Or, How Safe is Your Money Market Fund?" Barron's, March 26, p. 6.
Makhija, Anmol. (2025) "United States: Reserve Primary Fund Suspension, 2008." Journal of Financial Crises, vol. 7 no. 2.
Partee, J. Charles. (1980) Statement before the Subcommittee on Financial Institutions of the Committee on Banking, Housing and Urban Affairs, United States Senate. January 24. Available on FRASER.
Securities and Exchange Commission (1977). Valuation of Debt Instruments by Money Market Funds and Certain Other Open-End Investment Companies. Federal Register, vol. 42. No. 109, June 7, p. 28999. Available on FRASER.
Securities and Exchange Commission (1990). Revision to Rules Regulating Money Market Funds. Federal Register, vol. 25 no. 143, July 25, p. 30239. Available on FRASER.
Simpson, Thomas D. (1980) "The Redefined Monetary Aggregates." Federal Reserve Bulletin, February, pp. 97-114. Available on FRASER.
Somner, Jeff. (2023) "Ben Bernanke Talks About Bank Runs, Inflation, A.I., Market Bubbles, and More." New York Times, June 9.
Stigum, Marcia. (1978) The Money Market: Myth, Reality, and Practice. Dow Jones-Irwin.
Subcommittee on Financial Institutions of the Committee on Banking, Housing, and Urban Affairs, United States Senate (1980). Hearings on Money Market Mutual Funds. Available on FRASER.
Volcker, Paul A. (1981) Statement before the Subcommittee on Domestic Monetary Policy, Committee on Banking, Finance and Urban Affairs, June 25. Available on FRASER.
Published December 12, 2025. Jonathan Rose contributed to this article. Please cite this essay as: Federal Reserve History. "Money Market Mutual Funds." December 12, 2025. See disclaimer and update policy.
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