Non-bank Financial Intermediation Research Articles

The Economics of Non-bank Financial Intermediation: Why Do We Need to Fill the Regulation Gap?

This paper presents an overall analysis of the economics of non-bank financial intermediation, and argues that the financial stability concerns stemming from this sector support the need to fill the regulation gap that exists with respect to other segments. It examines the structure of markets, the economic incentives of the agents involved, and the institutional aspects characterizing this form of intermediation as compared with that performed by banks. The policy framework developed so far has been based mainly on micro-prudential tools, looking at individual institutions and activities. The focus of the regulatory actions should not be (or should not only be) the stability of individual entities. Financial regulators should pay more attention to the effects that the collective actions and activities of non-bank financial entities may have on the financial system as a whole and on the real economy. I find that the effectiveness of micro-prudential tools is strengthened if they are accompanied by a framework containing policy measures to address systemic risk.

Financial stability indicator for non-banking markets

"A mixed frequency indicator is designed to incorporate and extract information from time-series data that are available at different frequencies: daily, monthly, quarterly, etc. Currently, the non-banking financial markets in Romania are supervised by the Financial Supervisory Authority and are composed of three distinct markets: the capital market, insurance, and private pension funds. Due to the mutual exposure between them, facilitated by the financial instruments held in their investment portfolios, there are common risk factors that influence their dynamics. Although a financial shock can affect all three sectors at the same time, the impact can be measured at a different frequency and with a different lag. Surveillance data for capital markets and pension funds are available every month, with a gap of one month, while for insurance the data are available quarterly, but with a gap of two months, similar to GDP data. If a sudden financial event disrupts financial markets or a change in the macroeconomic environment changes the medium-term outlook, what is the impact on non-bank financial intermediation? The stability indicator for non-banking financial markets is a monthly indicator estimated from mixed frequency data. The indicator is designed to provide a signal of financial instability in non-banking financial markets, to the extent that all three markets are disrupted at once."

Investment Funds, Monetary Policy, and the Global Financial Cycle

This paper studies the role of international investment funds in the transmission of global financial conditions to the euro area using structural Bayesian vector auto regressions. While cross-border banking sector capital flows receded significantly in the aftermath of the global financial crisis, portfolio flows of investors actively searching for yield on financial markets world-wide gained importance during the post-crisis “second phase of global liquidity” (Shin, 2013). The analysis presented in this paper shows that a loosening of US monetary policy leads to higher investment fund inflows to equities and debt globally. Focussing on the euro area, these inflows do not only imply elevated asset prices, but also coincide with increased debt and equity issuance. The findings demonstrate the growing importance of non-bank financial intermediation over the last decade and have important policy implications for monetary and financial stability.

Detecting Tail Risks to Preclude Regulatory Arbitrage

Abstract This paper contributes to the debate on the adequate regulatory treatment of non-bank financial intermediation (NBFI). It proposes an avenue for regulators to keep regulatory arbitrage under control and preserve sufficient space for efficient financial innovation at the same time. We argue for a normative approach to supervision that can overcome the proverbial race between hare and hedgehog in financial regulation and demonstrate how such an approach can be implemented in practice. We first show that regulators should primarily analyse the allocation of tail risk inherent in NBFI. Our paper proposes to apply regulatory burdens equivalent to prudential banking regulation if the respective transactional structures become only viable through indirect or direct access to (ad hoc) public backstops. Second, we use insights from the scholarship on regulatory networks as communities of interpretation to demonstrate how regulators can retrieve the information on transactional innovations and their risk-allocating characteristics that they need to make the pivotal determination. We suggest in particular how supervisors should structure their relationships with semi-public gatekeepers such as lawyers, auditors and consultants to keep abreast of the risk-allocating features of evolving transactional structures. Finally, this paper uses the example of credit funds as non-bank entities economically engaged in credit intermediation to illustrate the merits of the proposed normative framework and to highlight that multipolar regulatory dialogues are needed to shed light on the specific risk-allocating characteristics of recent contractual innovations.

Off the radar: Factors behind the growth of shadow banking in Europe

This paper uses novel data from the European Central Bank and the Eurosystem on non-bank financial intermediation to investigate the potential factors of shadow banking growth for a panel of twenty-four countries in the European Union (EU). We find that the EU shadow banking system is highly procyclical and positively related to increasing demand by long-term institutional investors and to more stringent capital regulation. We show that individual entities in the shadow banking system can act as both complements and substitutes to traditional banking. In addition, we estimate four country-specific models using a Bayesian estimation method. We supplement the panel model estimates, which serve as a priori information, with data from a specific economy. We assert that, although some shadow banking determinants are uniform across countries, other may have heterogeneous effects across countries because of country-specific characteristics.

Non-bank financial intermediation in Malta

The paper presents a first estimate of the size of the non-bank financial intermediation (NBFI) in Europe's smallest member state as well as the regulatory implications for its monitoring. The assessment is based on the narrowing-down approach introduced by the Financial Stability Board. Results show that although the broad measure of NBFI is large, the actual NBFI perimeter is rather small, dominated by the locally-based investment funds. The paper also provides an extensive review of the EU and national regulatory framework within which NBFI entities operate, listing also the challenges arising from this sector. Based on extensive research and analysis of information from various reports, articles, web-sites and other sources referenced throughout the paper, it transpires that NBFI in Malta is not only small, but also subject to significant EU and national regulation. Given the benefits that the real economy could gain from NBFI, the main challenge for the regulators is to strike a balance between the optimisation of their benefits and the minimisation of potential losses due to the build-up of risks emanating from this sector.

Non-bank financial intermediation as a factor of vulnerabilities in the global financial system

The article analyzes the indicators that characterize the sector of non-bank fi nancial intermediation. It is revealed that non-bank fi nancing provides a valuable alternative to bank fi nancing for many fi rms and households. It is established that the growth of non-bank fi nancial intermediation may also give rise to vulnerabilities in the global fi nancial system. The methodology for the detection and classifi cation of the structures that may pose bank-like fi nancial stability risks are described. Special attention is given to the problem of implementation of reforms to strengthen oversight and regulation of non-bank fi nancial intermediation at both the country-specifi c and international levels.

Water in the Wine? Monetary Policy and the Impact of Non-bank Financial Intermediaries

Canada was lauded for surviving the 2007-08 global financial crisis relatively unscathed. In part, this was due to the success of our financial services sector. This resilience, especially in contrast to the US banking sector, is partly explained by the smaller size of the non-bank financial intermediation (NBFI) sector in Canada – more popularly known as “shadow banking.” But signs of robust growth in Canada’s NBFI sector after the crisis suggest this resilience might be under threat. The assets of those institutions engaged in non-bank financial intermediation have continued to grow in Canada since the global financial crisis, and now account for a larger share of total financial assets than prior to the crisis. A more important NBFI sector has multiple effects on the financial system and on the economy. On the one hand, intermediaries in the sector, or NBFIs, provide alternatives for both depositors and borrowers that improve the functioning of the economy by increasing competition. On the other hand, they also might increase vulnerabilities, since they are often not as closely regulated, and deposit insurance does not cover their liabilities. We find that, as NBFI deposit growth increases in importance, it can dilute the effectiveness of monetary policy. This drag might be the result of depositors shifting between NBFIs and traditional banks, an effect that is exacerbated as the NBFI sector grows. We also find that contractionary monetary policy causes an increase in business credit growth for NBFIs and a fall in chartered bank business loan growth. Although the overall effect on business credit growth is the desired decrease, the increase in NBFI business loans both decreases monetary policy effectiveness and results in a riskier composition. Lastly, we find the insignificant effect on overall mortgage credit growth following a contractionary monetary policy shock appears to be driven by a shift of credit from traditional banks to NBFIs, and could be a concern from a financial stability perspective. Overall, these results highlight the importance of a growing NBFI sector for monetary policy and financial stability. Our findings suggest that both the traditional monetary policy tool of the overnight rate and tightening mortgage underwriting standards through macroprudential policy might have the unintended side effect of increasing financial instability. One way to reduce this potential side effect is to limit the migration of loans between traditional banks and NBFIs by tightening regulation of NBFIs to level the playing field between the two types of financial institutions. At a minimum, the systemically important NBFIs should face capital requirements and underwriting standards similar to those imposed on traditional banks. We hope these results help the Bank of Canada as it continues to evaluate and model the evolution of monetary policy transmission in the Canadian economy. To that end, NBFIs should be front and centre when the four coordinating bodies that provide systemic financial services oversight next meet.

Investment Funds, Monetary Policy, and the Global Financial Cycle

This paper studies the role of international investment funds in the transmission of global financial conditions to the euro area using structural Bayesian vector auto regressions. While cross-border banking sector capital flows receded significantly in the aftermath of the global financial crisis, portfolio flows of investors actively searching for yield on financial markets world-wide gained importance during the post-crisis “second phase of global liquidity” (Shin, 2013). The analysis presented in this paper shows that a loosening of US monetary policy leads to higher investment fund inflows to equities and debt globally. Focussing on the euro area, these inflows do not only imply elevated asset prices, but also coincide with increased debt and equity issuance. The findings demonstrate the growing importance of non-bank financial intermediation over the last decade and have important policy implications for monetary and financial stability. JEL Classification: F32, F42, G15, G23

Networks and systemic risk in the financial system

AbstractThe complex web of exposures and interlinkages across the financial system highlights the relevance of network analysis in understanding systemic risk and guiding the design of financial regulation. This paper discusses how network models—and those based on epidemiological approaches in particular—offer a compelling description of the structure of real-world financial systems and shed light on different contagion mechanisms seen during the global financial crisis. We also review how these insights may inform macroprudential risk assessment and policy in the areas of stress-testing the financial system and the regulation of systemically important institutions. The role of non-bank financial intermediation and social networks in shaping financial system risk is also briefly considered.

Ten Years of the Global Reform of Financial Regulation: What is ahead?

Global financial crisis of 2008–2009 demonstrated the need for reforms in the system of financial regulation. An institutional mechanism was created under the auspices of the G20 with the purpose to implement a global reform. In the article results of the postcrisis global financial reform are analysed in contingent with review of the evolution of institutional mechanism, which specifics often determined success or its absence in particular directions of the reform. The author selects and reviews three main periods of development of the global financial regulation’s institutional mechanism. In the initial period – the first years after the crisis works were progressing in two directions simultaneously: a) co-ordination of activities of national financial regulatory bodies in coping with the crisis processes and neutralization of its consequences; b) development and reconciliation of major global standards of financial regulation. We can consider that period as successful because crisis processes were overcame in relatively short time, trade and currency wars were also avoided and at the same time international regulatory standards were widely agreed.The second period according to the author’s classification (approx. 2012–2015) – transmission to the implementation of agreed international standards at the national and supranational (EC) levels. That time a range of difficulties and contradictions between leading countries revealed. First of all these problems related to the spheres where the regulations of transnational activities of financial institutions had to be agreed. As the author shows exactly in that time a problem of the so-called asymmetrical sovereignty in the financial policy aggravated.The third period is continuing in the present time. During this period, from the one side, the global financial regulation expands its coverage according to emergence of new challenges, but from the other side the interest to the reform is being loosing and the trend to increase of the independence of the national financial regulators is expanding. So the threat to fragmentation of the international financial markets and revision of already agreed regulatory standards became not illusive.Special attention in the article was paid to analysis of the problem of regulating the shadow banking or non-bank financial intermediation (NBFI), which are till now largely outside of the regulatory mandate of the governance bodies. Rapid growth of transactions by the latter, according to the author’s opinion, is a threat to the global financial stability especially taking into account such factors as its close interconnectedness with traditional financial institutions (banks), exposure to the bank-like risks, the wide implementation of financial innovations for making new unregulated products.Investigating new challenges beyond the perimeter of the post-crisis reform the author came to the conclusion that implementation of financial technologies as well as the necessity to take into account ecological and social factors require serious transformation of the global financial system as well as it’s regulation. Taking into account the global nature of new challenges the need for international co-operation of financial regulatory bodies will be continued.

It’s the Tail-Risk, Stupid!

This paper contributes to the debate on the adequate regulatory treatment of non-bank financial intermediation (NBFI). It proposes an avenue for regulators to keep regulatory arbitrage under control and preserve sufficient space for efficient financial innovation at the same time. We argue for a normative approach to supervision that can overcome the proverbial race between hare and hedgehog in financial regulation and demonstrate how such an approach can be implemented in practice. We first show that regulators should primarily analyse the allocation of tail risk inherent in NBFI. Our paper proposes to apply regulatory burdens equivalent to prudential banking regulation if the respective transactional structures become only viable through indirect or direct access to (ad hoc) public backstops. Second, we use insights from the scholarship on regulatory networks as communities of interpretation to demonstrate how regulators can retrieve the information on transactional innovations and their risk-allocating characteristics that they need to make the pivotal determination. We suggest in particular how supervisors should structure their relationships with semi-public gatekeepers such as lawyers, auditors and consultants to keep abreast of the risk-allocating features of evolving transactional structures. Finally, this paper uses the example of credit funds as non-bank entities economically engaged in credit intermediation to illustrate the merits of the proposed normative framework and to highlight that multipolar regulatory dialogues are needed to shed light on the specific risk-allocating characteristics of recent contractual innovations.

Understanding Bank and Nonbank Credit Cycles: A Structural Exploration

We explore the structural drivers of bank and nonbank credit cycles using an estimated medium-scale macro model that allows for bank and nonbank financial intermediation. We posit economy-wide aggregate and sectoral disturbances to potentially drive bank and nonbank credit growth. We find that sectoral shocks affecting the balance sheets of entrepreneurs who borrow from the financial sector are important for the business cycle frequency fluctuations in bank and nonbank credit growth. Economy-wide entrepreneurial risk shocks gain predominance for explaining the longer-horizon comovement between the two series.

Reassessing the law, finance, and growth nexus after the recent Great recession

The paper provides a reassessment of the relationship between financial structure, financial development, and economic growth conducting cross-section and panel econometric analyses for a sample of 62 countries over 1980–2016. In line with the traditional literature, we confirm the existence of a positive cross-country relationship between the legal system, financial development, and growth even including the experience of the recent Great recession; in addition, when jointly assessing the effect of financial structure and financial development on growth, it emerges that a more bank-oriented economy enjoys higher benefits, in terms of long-run real GDP per capita growth, than a market-oriented one. When we consider variations across countries and over time, we find that both financial structure and financial development affect growth but in an opposite way as the cross-section analysis. In particular, when we control for their joint effect on growth, we observe a positive impact of market-based financial systems, and a negative impact of the overall financial development. We also provide evidence of the existence of a positive and significant relationship between economic growth and Shadow banking during the 2002—2016 period, highlighting the crucial role played by non-bank financial intermediation in complementing traditional banking and in affecting the real economy.

Od pośrednictwa kredytowego do doradztwa w planowaniu finansów osobistych – ewolucja modelu niebankowego pośrednictwa finansowego w Polsce

The article presents the stages of the evolution of non-bank financial intermediation in Poland – from credit intermediaries to financial planners. The evolution results from a number of factors: economic, social, regulatory and technological. Customers expect not so much selling a particular financial product but a solution to their financial problem, find the best deal. In the next few years, we expect consumers will apply a holistic approach to their financial flows, along with the diagnosis of goals and needs, and the document implementing these expectations will be a personal financial plan prepared by the financial planner. As shown in the article, consultancy in the area of holistic, personal financial planning now is better responding and in the future will respond to customer needs than intermediation in the sale of financial products.

Off the Radar: Factors behind the Growth of Shadow Banking in Europe

This paper uses novel ECB/Eurosystem data on non-bank financial intermediation to investigate the potential factors of shadow banking growth for a panel of 24 EU countries. We find the EU shadow banking system to be highly procyclical and positively related to the increasing demand of long-term institutional investors, more stringent capital regulation, and steeper financial development. We also show that individual entities of shadow banking system can act as both complements and substitutes to traditional banking. In addition, we show that the functionality of factors of shadow banking development may vary significantly among countries with country-specific effects playing a role.

Assessing Shadow Banking – Non-Bank Financial Intermediation in Europe

Owing to the disruptive events in the shadow banking system during the global financial crisis, policymakers and regulators have sought to strengthen the monitoring framework and to identify any remaining regulatory gaps. In accordance with its mandate, the European Systemic Risk Board (ESRB) has engaged in developing a monitoring framework to assess systemic risks in the European Union (EU) shadow banking sector. This assessment framework provides the basis for the EU Shadow Banking Monitor, which will be published each year by the ESRB. The framework also feeds into the ESRB’s Risk Dashboard, internal risk assessment processes and the formulation and implementation of related macro-prudential policies. The ESRB’s Joint Advisory Technical Committee (ATC)-Advisory Scientific Committee (ASC) Expert Group on Shadow Banking (JEGS) has accordingly engaged in: conducting a stocktake of relevant available data and related data gaps; defining criteria for risk mapping in line with the work of the Financial Stability Board (FSB) in this area; deriving indicators using this methodology for the purposes of the ESRB’s risk monitoring and assessment. Shadow banking can be broadly defined as credit intermediation performed outside the traditional banking system. This is consistent with the definition used at the global level by the FSB. Against this background, this paper describes the structure of the shadow banking system in Europe and discusses a range of methodological issues which must be considered when designing a monitoring framework. The paper applies both an “entity-based” approach and an “activity-based” approach when mapping the broad shadow banking system in the EU. In turn, the analysis focuses primarily on examining liquidity and maturity transformation, leverage, interconnectedness with the regular banking system and credit intermediation when assessing the structural vulnerabilities within the shadow banking system in Europe. This approach appears the most appropriate for the purpose of assessing shadow banking related risks within the EU financial system. On this basis, the paper complements the EU Shadow Banking Monitor by providing further methodological detail on the development of risk metrics. The paper presents the analysis underpinning the construction of risk metrics for the shadow banking system in Europe and highlights a number of areas where more granular data are required in order to monitor risks related to certain market activities and interconnectedness within the broader financial system. JEL Classification: G23, G18

, (General Characteristics of the Non-Bank Financial Intermediation Sector Obtained from the Surveys of Non-Bank Financial Institutions)

Russian Abstract: В работе представлены результаты анализа мнений небанковских финансовых организаций о ряде общих характеристик секторов небанковского финансового посредничества, полученных в ходе опросов. Приводятся агрегированные позиции небанковских финансовых посредников различных типов по рентабельности деятельности, основных статьях дохода и их изменению в будущем, уровню конкуренции, доли трансграничных услуг, удобству различных систем расчетов, емкости своего сектора и перспективах его развития и т.д. Отдельно приводятся результаты оценки потенциального спроса различных групп небанковских финансовых организаций на размещаемые в ходе IPO/SPO акции, качества государственного регулирования и государственной политики на финансовом рынке со стороны небанковских финансовых организаций, инвестиционных предпочтений различных групп инвесторов.Полученные результаты являются полезными для более глубокого понимания динамики и проблем развития институтов небанковского финансового посредничества, а также для применения тех оценок объема и структуры инвестиционного спроса, которые были получены в ходе проведения исследований. Эти результаты могут быть использованы при разработке мер государственной политики в сфере небанковских финансовых рынков, подготовке законопроектов и нормативных актов в данной сфере.English Abstract: The paper presents the results of the analysis of opinions non-bank financial institutions on a number of general characteristics of the non-bank financial intermediation sector received during the polls. Provides aggregated positions of non-bank financial intermediaries of various types profitability activity main source of income and change in the future, the level of competition, the proportion of cross-border services, convenience of different payment systems, capacity of its sector and its development prospects, etc. Separately the results of evaluation of the potential demand of various groups of non-bank financial institutions to be placed in the IPO / SPO shares, the quality of public management and public policy in the financial market on the part of non-bank financial institutions, investment preferences of different groups of investors.The results obtained are useful for a better understanding of the dynamics and challenges of the non-bank financial intermediation institutions, as well as for the use of the estimates of volume and structure of investment demand, which were obtained in the course of research. These results can be used in the development of public policies in the field of non-bank financial markets, preparation of draft laws and regulations in this area.

China's Monetary Policy and Interest Rate Liberalization: Lessons from International Experiences

China has been moving to a more market oriented financial system, which has implications for the monetary policy environment. The paper investigates the stability of the money demand function (MDF) in light of progress in financial sector reforms that, for example, have resulted in significant financial innovation (so-called shadow banking) and more liberalized interest rates. The analysis of international experience suggests that rapid development of the financial system often leads to structural shifts in the MDF. For example, financial innovation and liberalization alter the sensitivity of money balances to income and the interest rate. For China, we find that the stable long-run relationship between money demand, output, and interest rates that existed between 2002 and 2008 disappears after 2008. This coincides with the period of rapid financial innovation, especially the growth in off-balance sheet and nonbank financial intermediation. The results suggest that usefulness of M2 as an intermediate monetary target has declined with financial innovation and reform. A result that underscores the importance of moving toward increased reliance on more price-based targets such as interest rates.

China’s Monetary Policy and Interest Rate Liberalization: Lessons from International Experiences

China has been moving to a more market oriented financial system, which has implications for the monetary policy environment. The paper investigates the stability of the money demand function (MDF) in light of progress in financial sector reforms that, for example, have resulted in significant financial innovation (so-called shadow banking) and more liberalized interest rates. The analysis of international experience suggests that rapid development of the financial system often leads to structural shifts in the MDF. For example, financial innovation and liberalization alter the sensitivity of money balances to income and the interest rate. For China, we find that the stable long-run relationship between money demand, output, and interest rates that existed between 2002 and 2008 disappears after 2008. This coincides with the period of rapid financial innovation, especially the growth in off-balance sheet and nonbank financial intermediation. The results suggest that usefulness of M2 as an intermediate monetary target has declined with financial innovation and reform. A result that underscores the importance of moving toward increased reliance on more price-based targets such as interest rates.