The EU's executive launched a consultation with industry on Monday with a view to writing rules to control shadow banking. It opens up a new front in the regulatory drive of Brussels, which some analysts believe has been slow to tackle the causes of a financial crisis that struck Europe almost five years ago.
"What we do not want is for financial activities and entities to circumvent existing and foreseen rules, allowing new sources of risk to accumulate in the financial sector", said Michel Barnier, the EU official in charge of regulatory reform. "That is why we need to better understand what shadow banking actually is and does, and what regulation and supervision may be appropriate."
The European Union regulation will be cast within the Financial Stability Board's (FSB) broad framework, although there is always scope for them to sharpen certain rules. The difficulty in agreeing on an exact definition, however, may undermine attempts to regulate it.
"Many institutions such as hedge funds act similarly to banks when, for example, they buy corporate bonds or lend to companies using the funds of investors or savers", said Graham Bishop, an expert in EU regulatory policy. "And they face similar risks, often borrowing on a short-term basis and lending over a longer term, making them vulnerable to short-term funding risks. "Ultimately, it may be down to national and pan-European regulators to keep tabs on the ever-changing sector. This could prove difficult to agree on with countries such as Britain reluctant to see further powers given to pan-European financial authorities."
"If you seek to define shadow banking, it will migrate to escape regulation", Bishop said. "We need to give regulators more leeway to ask if activities like these are something that poses a risk to the financial system."
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