Europe Threatens U.S. Money-Market Funds: The Ticker

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By Mark Whitehouse

The money-market funds that hold trillions of dollars in U.S. savings are still heavily invested in European banks. That means Europe's financial crisis retains ample potential to tank the U.S. economy.

Here's the scenario: European banks hold a lot of bonds issued by Greece, Spain, Italy and other struggling governments. If some of those governments default, or if markets get worried enough about that possibility, the banks might not be able to pay their own obligations, including the certificates of deposit, commercial paper and other instruments that U.S. money-market funds have bought.

As a result, one or more funds might fail to maintain their value at one dollar per share, much as the Reserve Primary Fund did in the wake of the 2008 Lehman Brothers bankruptcy. If even one fund breaks the buck, panicked investors could rush to pull their money out of all money-market funds. Such a run would cripple the lending markets where U.S. businesses get financing for such everyday activities as paying their workers and buying supplies. Result: Mass layoffs and a new recession, or worse.

Fund managers are aware of the danger, and have been trying to cut their investments in Europe. As of October, the 10 largest prime money-market funds had reduced their European bank exposure to 34.9 percent of assets, down from 51.5 percent in May, according to Fitch Ratings. That's progress, but not enough.

(Mark Whitehouse is a member of the Bloomberg View editorial board)

-0- Nov/22/2011 16:45 GMT