After the failure of one effort to overhaul a major part of the mutual fund industry, top government officials worked on Thursday to find alternative ways to rein in what they see as a systemic threat to the financial system.
Treasury Secretary Timothy F. Geithner and other top regulators were given sweeping powers after the 2008 financial crisis that would allow them to force new rules on money market funds, a popular type of mutual fund that has taken some of the blame for the crisis. On Wednesday evening, the head of the S.E.C., Mary L. Schapiro, unexpectedly announced that she was calling off her agency's long-running effort to change rules for money funds.
Mr. Geithner and fellow regulators had urged the S.E.C. to act and could now use their new authority to shift oversight of the money market fund industry away from the S.E.C., a move that has few precedents. But after being surprised by the suddenness of the S.E.C.'s decision, numerous agencies were hudd ling to discuss whether they could carry out such bold moves or would have to rely on more modest alternatives, people with knowledge of the deliberations said.
Regulators and advocates of change were also dealing with the likelihood that an overhaul will now be much more difficult to achieve.
“We're in new territory,†said John Rogers, the chief executive of the CFA Institute, and a member of the recently formed Systemic Risk Council, a body of former regulators and business leaders studying financial reform. “It's going to take awhile for the dust to settle from this particular chapter, and for us to get to a new one.â€
Money market funds, which hold $2.6 trillion and make short-term loans to governments and banks, are usually stable. But they are vulnerable to runs. When one large fund got into trouble in 2008, mass withdrawals occurred at others. This deprived the financial system of cash at a critical time, prompting the Federal Reserve and the Treasury Department to bail out the money funds.
Ms. Schapiro, the S.E.C. chairwoman, circulated a proposal earlier this summer that would have forced the funds to start keeping a capital buffer against losses, or to let their shares float like regular mutual funds, instead of being fixed at $1 a share.
The backers of the S.E.C.'s reforms said they would reduce the chance of money fund panics. The industry, though, waged a fierce lobbying campaign against Ms. Schapiro's proposal. The fund managers, including Fidelity, Vanguard and Charles Schwab, have said that the funds are safe from runs because the S.E.C. in 2010 made them hold safer assets and provide more information to investors. They argue that further changes would lead many investors to exit the funds.
After Ms. Schapiro determined Wednesday that she had not won backing for her plan from a majority of the five-member commission, she called for other regulators to impose reforms on the industry.
The most obvious next step would be for a council of top regulators, the so-called Financial Stability Oversight Council, to vote on designating money market funds as systemically important, which would pave the way for stricter regulations.
The collapse and bailout in 2008 of the insurance company American International Group inspired the formation of the council. One reason A.I.G. was able to build up large risky positions was that it operated under weak and fragmented regulations. To prevent such situations, the Dodd-Frank financial regulation law set up the council and gave it the power to bring a financial company or product under greater oversight if it looked systemically risky.
The council, which includes Ms. Schapiro, Mr. Geithner and the Federal Reserve chairman, Ben Bernanke, has voted in its last two annual reports to support changes for money market funds along the lines Ms. Schapiro advocated. Designating money market funds as systemically risky would require agreement from two-thirds of the council's 10 members.
Several people with knowledge of the issue said that the prospect of a vote by the council had been used in recent weeks as a threat to gain support for new regulations among S.E.C. commissioners. But now that the council is confronted with the possibility of an actual vote, the difficulty of forcing changes on the funds is becoming clearer to advocates and opponents alike.
The problem with the option of designating the money fund industry as systemically important and therefore deserving of regulation is that it would send the issue back to the S.E.C. to draw up new regulations. The commissioners could still fail to agree on rules.
Alternatively, the council has the power to designate specific money funds or fund managers as systemically important. That would shift regulation of those funds to the Federal Reserve.
Any decision could take three to four months, and once approved, a fu nd manager could ask for a judicial review. This timing could stretch the process past the November elections, which may put new regulators into power.
“It's not a slam dunk at all, and nor should it be,†said Senator Pat Toomey, Republican of Pennsylvania. Mr. Toomey opposed Ms. Schapiro's proposed regulations.
Dennis Kelleher, the president of Better Markets, a lobbying group that has supported reforms, doubts the resolve of many regulators to follow through on their push for change. He says he thinks the odds of the council taking strong action “are close to zero.â€
Regulators are also looking at narrower steps that individual agencies can pursue.
The Federal Reserve could limit the ability of banks to borrow from money market funds - this would reduce one of the riskiest holdings at many funds. The Fed could also make banks that run money market funds hold capital to protect against losses in the funds.
Ms. Schapiro's defeat this week “will inform a pretty broad range of potential actions and reactions,†said one person with knowledge of the council's thinking.
A Treasury spokeswoman, Suzanne Elio, said, “Treasury is in the process of consulting with the Federal Reserve Board, the Securities and Exchange Commission and other regulatory agencies to consider the appropriate next steps to reduce risks to financial stability from money market funds.â€
Daniel Gallagher, an S.E.C. commissioner who opposed Ms. Schapiro's plan, said that he did not want to surrender authority to the council of regulators and that he would continue pushing S.E.C. staff to study the potential impact of any changes.
“We have primary jurisdiction over these products, and regardless of whether other regulators think they need to take action, we need to continue to pursue this issue,†said Mr. Gallagher.
Whatever the path forward, regulators are likely to face determined opposition from the mutual fu nd industry and companies like Federated Investors, which gets nearly half its revenue from money market funds. J. Christopher Donahue, Federated's chief executive, said his company would continue to resist further changes. “The idea that this means total victory is just not true,†he said. “To us this is a continuing effort.â€
