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Volcker said in a recent speech that money market funds have exacerbated stress in the financial markets because they pulled back on short-term lending to European banks.
If money-market funds are to continue providing significant funding to regulated banks, they should be subject to capital requirements, deposit insurance protection and stronger oversight of their investments, Volcker said.
"The time has clearly come to harness money market funds in a manner that recognizes both their structural importance in diverting funds from regulated banks and their destabilizing potential," Volcker said in a speech last month that was highlighted by The New York Times on Saturday.
Today, he noted, the U.S. residential mortgage market is almost entirely dependent on financial support from taxpayers. The federal government placed those entities into conservatorship in 2008 and has funded hundreds of billions of dollars' worth of losses on their mortgage portfolios.
"It is important that planning proceed now on the assumption that Government Sponsored Enterprises will no longer be a part of the structure of the market," Volcker said.
In his interview with the Times, Volcker acknowledged that it will take time to remove government support from the mortgage market, which is still struggling to repair itself, but said policymakers now have "an opportunity to get rid of institutions that shouldn't exist."
Volcker's opinions are highly regarded among some economists and regulators and he was a top adviser to President Barack Obama on financial regulatory reform.
But a measure he championed to restrict banks' ability to bet with their own capital, now known as the Volcker rule, has become a target for financial industry lobbyists seeking to blunt its impact on Wall Street profits.
(Reporting by Lauren Tara LaCapra in New York, editing by Maureen Bavdek)