Body issues warning on rise of shadow banking

Narrow measure of shadow banking activities could pose a threat

London, May 10: Growth in global bond, real estate and money market funds continues to swell the world’s “shadow banking” sector, which provides credit outside the regulated banking system and plugged a market gap opened up by euro zone banks cutting back on their lending, according to the global Financial Stability Board (FSB).

The FSB, which coordinates financial regulation for the Group of 20 Economies (G20), said its “narrow” measure of shadow banking activities that could pose a threat to stability.

Apart from debt investment funds, the measure of shadow banking also includes the repurchase or repo and debt securitization markets as well as hedge funds involved in credit.

Some of the sector's growth was in the euro area where credit was reduced by banks, saddled with bad loans and tougher regulation, the FSB said in its 94-page annual monitoring report.

The measure has risen from 60 per cent of economic output of countries monitored in 2011, to 69 percent in 2015, outpacing growth generally. Shadow banking accounts for about 13 per cent of financial system assets.

The 2007-09 financial crisis prompted the FSB to monitor and recommend rules to mitigate risks in the sector.

“This helps to inform our judgment on appropriate policy responses as we transform shadow banking into resilient marketbased finance,” FSB chairman Mark Carney said.

The FSB will publish a broader review for G20 leaders in July, saying whether additional rules might be needed.

Figures from the Cayman Islands, a key hedge fund center, are included for the first time in the latest report and Luxembourg may be included from next year.

But detailed analysis for China, which has a growing shadow banking sector, was received too late to be included in the narrow measure.

Increases in the narrow measure of shadow banking can also be put down to better reporting and not just an acceleration in activity. Some 65 per cent of the $34 trillion is made up of open-ended fixed income funds, real estate funds and money market funds which have grown about 10 per cent on average over the past four years.

In the meantime, secured funding from broker dealers and secularisations has fallen.

The latest data shows that in a hunt for yield, pension funds and insurance funds in countries like Belgium, Brazil, India and the Netherlands are investing heavily in shadow banks.

The authorities could consider exploring such activity by insurers and pension funds in more depth, the FSB report said.

In some cases the pension and insurance-funded shadow banks in turn provide short-term funding for banks, a chain that could bring risks if markets turn bad.

But a weakening of the still extensive funding links between banks and shadow banks is seen as a positive for financial stability, though they are still above pre-crisis levels.

The FSB has already set out proposals for closer supervision of how asset managers deal with mass redemptions in stressed markets. IOSCO, the global securities regulatory body, is also due to consult on proposals for managing such “liquidity mismatch” risks.