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Non-bank credit: more regulation needed? - 22/03/2012

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For borrowers, it can be a welcome alternative to traditional banking – for others it may threaten financial stability – the Commission is seeking your views on ‘shadow banking’.

Shadow banking entities are typically intermediaries between investors and borrowers. They provide credit and liquidity but do not accept deposits like an ordinary bank. This means that they are not subject to the same regulations as the rest of the banking sector.

Globally, the shadow banking system was estimated to be around €46 trillion in 2010, accounting for 25-30% of the total financial system.

To avoid a repeat of the current financial crisis, the EU is currently implementing regulatory reforms across the financial sector, and in the banking sector in particular. In light of shadow banking’s growth, coupled with the absence of oversight, the Commission has launched a public consultation to increase understanding of what shadow banking actually is and does, and what regulation or supervision may be appropriate.

Shadow banking entities and activities may include:

  • Money Market Funds and other types of investment funds or products with deposit-like characteristics
  • Investment funds that provide credit or are leveraged, such as hedge funds
  • Finance companies and securities entities providing credit or credit guarantees
  • Insurance and reinsurance undertakings that issue or guarantee credit products
  • Securitisation and securities lending and repurchase agreement transactions

Such activities provide additional sources of funding and offer alternatives to bank deposits. They also offer risk diversification away from the banking system.

But such entities are also exposed to many of the same risks as banks, without having the safety net put in place by regulation and supervision. Activities are often financed through short-term funding, which may be withdrawn at any moment by clients.

By evading regulation applied to regular banks, shadow banking may also lead to a regulatory ‘race to the bottom’ within the rest of the financial system – other financial bodies may also try to push certain activities outside the scope of regulation.

Some investment banks already use the shadow banking system. While their main activities are subject to regulation and supervision, transactions conducted using shadow banking are not visible to regulators. And as regulators seek to strengthen supervision within the financial system, there are concerns that more business may move to shadow banking.

The consultation focuses in five areas: banking regulation, asset management regulation, securities lending/repurchase agreements, securitisation and other shadow banking entities.

The Commission will use the outcome of the consultation to decide – together with the EU’s financial supervision authorities – what measures are appropriate at EU level.

Stakeholders are invited to submit comments before 1 June 2012.

A conference on regulation within the shadow banking system will take place in Brussels on 27 April.

More on shadow banking and the April conference

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