Speech at the panel on “Cross-border dimensions of non-bank financial intermediation: what are the priorities for building resilience globally?”, as part of the UK G7 Presidency Conference on “Safe Openness in Global Trade and Finance” hosted by the Bank of England
In the years since the global financial crisis, non-bank financial
intermediaries (NBFIs) have shown continuous growth, and now account for
more than half of global financial assets.
Although there are a variety of reasons for this development, one of
the factors has been the stricter banking regulation adopted after the
global financial crisis constraining the risk-taking of banks. The regulatory reforms of the last decade have promoted financial stability, especially in the banking sector. At the same time, these reforms have been accompanied by an expansion of actors outside the regulatory perimeter.
NBFIs have grown faster than banks over much of
the past decade: in the euro area, their assets have almost doubled,
reaching €48 trillion in December 2020 (Chart 1). In the same period,
non-bank finance has become an important source of funding for the real
economy: its share of credit to non-financial corporations has increased
from about 15% to 30% (Chart 2).
The growth of NBFIs is not the only factor shaping the rapid change
of global financial markets. Digitalisation is challenging traditional
financial intermediation, for example through the emergence of
decentralised finance platforms that are becoming increasingly used. But
we can expect more disruptive changes if two related – but up to now
parallel – trends eventually converge.
On one side, global technological companies – or “big techs”, such
as Google, Amazon, Facebook and Apple (GAFA) – have started offering
financial services and, given their size, their large customer base and
their access to unique information, are becoming more and more relevant
global players in the markets. On the other side, digital assets such as
crypto-assets and stablecoins are growing rapidly, although their
take-up and reach in payments has remained limited so far. If big techs
start issuing global stablecoins, we could see these two trends meet and
alter the functioning of global financial markets.
Today, I will argue that if we are to address the cross-border
challenges stemming from the expansion of NBFIs, we not only need to
strengthen the regulatory and macroprudential approach to these
institutions, we also need to widen the regulatory perimeter.
It took the global financial crisis to overhaul the regulation of
banks and the coronavirus (COVID-19) crisis to trigger discussions on a
more robust framework for money market funds, investment funds and
margining practices. We should not wait for another crisis to regulate
an increasingly digitalised finance with new global players.
Cross-border challenges from the growing role of non-banks in financial intermediation
Non-bank financial intermediation can bring benefits to both
investors and the real economy across the globe. It allows firms to
diversify their sources of funding, including across borders. This
diversification can promote risk-sharing, thereby reducing the impact of
country-specific or banking sector-specific shocks on the real economy
and strengthening financial stability.
At the same time, if underlying risks and vulnerabilities are not
kept in check, they have the potential to affect financial stability,
both domestically and globally.
The financial shock at the onset of the coronavirus pandemic last year
is a case in point: while the banking sector proved to be relatively
resilient, vulnerabilities were revealed in parts of the non-bank
financial system.
From a cross-border perspective, three factors increase the risk of contagion through non-bank financial intermediation.
Interconnectedness
First, NBFIs are highly interconnected at the international level.
This is due to their cross-border activities, but also to their
interdependencies with the banking sector. Banks own asset management
companies operating in multiple countries, provide liquidity to global
NBFIs, or invest in their shares. Globally, banks’ cross-border claims on NBFIs have been constantly growing over the past five years (Chart 3).
Cross-border activity can foster international diversification and risk-sharing.
At the same time, it increases the risks of contagion and spillovers
from a sudden loss of risk-appetite among NBFIs or a sudden loss of
confidence in some NBFIs. Moreover, in a system with a higher share of
fund-intermediated cross-border flows, monetary policy shocks can be
propagated across borders more quickly and forcefully.
When economic conditions diverge, this may have adverse consequences
for foreign jurisdictions, as was the case in the “taper tantrum” of
2013.
Concentration in financial centres
NBFIs are often located in financial hubs, both
regional and global (Chart 4). This geographical concentration is higher
than for banks and it is driven by several factors such as network
effects, human resources and legal systems. In certain cases,
exploitation of regulatory or tax arbitrage is also likely to play a
role.
The high concentration poses a particular
challenge for effective supervision and risk monitoring. The migration
of financial activities to foreign financial centres could affect the
complexity and transparency of such activities, making it more difficult
for domestic authorities to curtail systemic risk. It will also make it
more challenging for authorities to coordinate with each other in a
crisis and, if necessary, intervene.
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