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Thinking about regulating shadow banks and renaming shadow banks as non-banks…

Summary:
Luigi Federico Signorini in this speech talks about the need for regulation of non-banks. He also points how Financial Stability Board has changed the nomenclature of shadow banks: With the completion of Basel 3, the post-crisis overhaul of banking regulation is essentially over; with a limited number of exceptions, the only issues remaining for the next few years will be the implementation of reforms and the evaluation of their effects, intended or otherwise, over time. Banks, however, do not comprise the entire financial sector. Arguably, non-bank financial intermediation has taken on an increasing role in the global financial system and poses new challenges to regulators. The attention of international co-ordinating bodies such as the FSB is therefore now mainly, and rightly,

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Luigi Federico Signorini in this speech talks about the need for regulation of non-banks.

He also points how Financial Stability Board has changed the nomenclature of shadow banks:

With the completion of Basel 3, the post-crisis overhaul of banking regulation is essentially over; with a limited number of exceptions, the only issues remaining for the next few years will be the implementation of reforms and the evaluation of their effects, intended or otherwise, over time. Banks, however, do not comprise the entire financial sector.

Arguably, non-bank financial intermediation has taken on an increasing role in the global financial system and poses new challenges to regulators. The attention of international co-ordinating bodies such as the FSB is therefore now mainly, and rightly, directed towards what used to be known by the vaguely derogatory name of ‘shadow banking’ but is now more neutrally termed ‘non-bank financial intermediation’. The aim of this speech will be to explore the emerging risks from non-banks, to describe the (not insignificant, but still inchoate) regulatory response so far, and to speculate about a possible agenda for
the medium-term future.

Global non-bank finance concerns everybody, even countries where banks continue to play a dominant role in the internal financial system, like Tunisia – or Italy, for that  matter. In a globally interconnected financial system, no country stands alone; none can remain isolated from market shocks and turbulence whose ultimate source may be in faraway parts of the globe. This is a key point for emerging market and developing economies.

Witness the recent experience of the ‘taper tantrum’, when a number of emerging economies faced external financial conditions that had tightened abruptly and higher generalised risk premia in reaction to a policy decision taken by the US authorities. On that occasion the countries affected found that the negative repercussions on their economy stemming from the generalised repricing of assets could not be mitigated through policy actions (either by relying on floating exchange rates or through capital  flow management measures). It has also become apparent that a low degree of financial deepening may actually increase the sensitivity of emerging asset markets to external shocks.

The issue with non-bank finance, it will be argued, is not the stability of individual intermediaries—micro-prudential risk. As the risk connected to managed assets is borne almost entirely by the ultimate investor, rather than by the manager itself, it is not, or not mainly, the possible default of the manager that should concern regulators.

On the other hand, the actions of asset managers may affect the financial system and the  general economy through their systemic consequences on market developments. The key questions are then whether, to what extent and under what conditions non-bank intermediation can amplify market movements and determine instability. It is, therefore, essentially a macro-prudential question. Understanding and measuring such risks will require data, research and careful reflection; tackling them is likely to require new or reinforced supervisory tools and, quite possibly, a broader mandate for supervisory authorities.

Hmm

We are again seeing some concerns from non-banking financial sector. Here is another recent speech from Luis de Guindos, Vice-President of the ECB.

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Amol Agrawal
I am currently pursuing my PhD in economics. I have work-ex of nearly 10 years with most of those years spent figuring economic research in Mumbai’s financial sector.

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