FSB to strengthen the oversight and regulation of the shadow banking system

The Financial Stability Board (FSB) has poublished a note entitled Shadow Banking: Scoping the Issues. This note provides information on the work of the FSB to develop recommendations to strengthen the oversight and regulation of the shadow banking system. The “shadow banking system” can broadly be described as “credit intermediation involving entities and activities outside the regular banking system”. Intermediating credit through non-bank channels can have advantages, for example by providing an alternative source of funding and liquidity.

However, as the recent financial crisis has shown, the shadow banking system can also be a source of systemic risk both directly and through its interconnectedness with the regular banking system. It can also create opportunities for arbitrage that might undermine stricter bank regulation and lead to a build-up of additional leverage and risks in the system. Enhancing supervision and regulation of the shadow banking system in areas where systemic risk and regulatory arbitrage concerns are inadequately addressed is therefore important.

The note sets out the current thinking of the task force - in particular on the first item. It proposes that monitoring and policy responses should be guided by a two-stage approach: firstly by casting the net wide to cover all non-bank credit intermediation so as to identify potential areas where new risks might arise; and then secondly by narrowing the focus to those parts of the system where maturity/liquidity transformation, flawed credit risk transfer, and/or leverage create important systemic risks.

Based on the work of the task force, the FSB will consider initial draft recommendations and has welcomed comments from the public on this note. Comments should be submitted by 16 May 2011 b to secretariat of the Financial Stability Board, c/o Bank for International Settlements, CH-4002, Basel, Switzerland.

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