ESRB published the fourth issue of its annual Non-bank Financial Intermediation Risk, or NBFI, Monitor for 2019 (previously called the Shadow Banking Monitor). This report considers a range of systemic risks and vulnerabilities related to non-bank financial intermediation, including those related to interconnectedness, liquidity, and leverage. The report also highlights that further work is required to address remaining data gaps and improve risk assessments by developing metrics to measure liquidity, leverage, and interconnectedness.
The Risk Monitor, which covers data up to the end of 2018, contributes to the monitoring of a part of the financial system that has grown in recent years and now accounts for nearly 40% of the financial system in EU. It identifies several key risks and vulnerabilities in the shadow banking system in EU:
- Liquidity risk and risks associated with leverage among some types of investment funds and other non-bank financial institutions
- Interconnectedness and the risk of contagion across sectors and within the non-bank financial system, including domestic and cross-border linkages
- Activities-related risks—procyclicality, leverage, and liquidity risk—created through the use of derivatives and securities financing transactions
The report reveals that some non-bank financial institutions remain vulnerable to a repricing of risk, with potential spillovers to funding conditions of other financial sectors. In EU commercial real estate markets, transaction volumes and prices are near their previous peak in 2007. Given the increasing role of non-bank financial institutions, new forms of interconnectedness and transmission channels may arise. Cross-border reallocation of commercial real estate funding can result in excessive swings in asset prices and global commercial real estate markets may become more correlated. The growth of leveraged loans also reflects an increase in risk-taking. The low interest rate environment supports strong investor demand for such loan products which offer higher rates of return, but also carry greater risks. In an economic downturn, highly indebted borrowers may then be unable to refinance existing loans, resulting in higher default rates.
Furthermore, the report reveals that the use and reuse of financial collateral in derivatives and securities financing transactions can create intermediation chains, which can spread funding liquidity shocks. Haircut and margining practices in bilaterally and centrally cleared trades may force market participants to post additional cash or other cash-like collateral. Central counterparties, or CCPs, are important entities in helping to reduce risks between market participants. This also creates close interconnections, linking clearing members, which are mostly banks, and their clients such as insurance companies, pension funds, hedge funds, and other investment funds. These clients rely on a small number of dealer banks providing client clearing services. Through the use of repo transactions, interconnectedness between banks and non-banks increased in 2018, with balance sheet data for Euro Area banks showing a 21% increase in liabilities with other entities to EUR 254 billion.
Keywords: Europe, EU, Banking, Securities, Insurance, Pensions, NBFI, Shadow Banking, Liquidity Risk, Procyclicality Systemic Risk, Interconnectedness, Leveraged Lending, ESRB
Across 35 years in banking, Blake has gained deep insights into the inner working of this sector. Over the last two decades, Blake has been an Operating Committee member, leading teams and executing strategies in Credit and Enterprise Risk as well as Line of Business. His focus over this time has been primarily Commercial/Corporate with particular emphasis on CRE. Blake has spent most of his career with large and mid-size banks. Blake joined Moody’s Analytics in 2021 after leading the transformation of the credit approval and reporting process at a $25 billion bank.
Previous ArticleIA Publishes Guideline on Enterprise Risk Management for Insurers
The European Commission (EC) published the Delegated Regulation 2022/786 with regard to the liquidity coverage requirements for credit institutions under the Capital Requirements Regulation (CRR).
The European Banking Authority (EBA) published the final draft regulatory technical standards specifying the criteria to identify shadow banking entities for the purposes of reporting large exposures.
The European Insurance and Occupational Pensions Authority (EIOPA) published a report assessing insurers' exposure to physical climate change risks
The European Commission (EC) published the results of a public consultation, held in October 2021, on the review of the Web Accessibility Directive.
The Network for Greening the Financial System (NGFS) published two reports to aid central banks and regulators in their oversight of the financial sector and in their central bank operations
The Monetary Authority of Singapore (MAS) and the SC-STS are jointly consulting, until June 10, 2022, on setting adjustment spreads for the conversion of legacy SOR contracts to SORA reference rate.
The Office of the Superintendent of Financial Institutions (OSFI) published the strategic plan for 2022-2025 and the departmental plan for 2022-23.
The European Banking Authority (EBA) is consulting, until August 31, 2022, on the draft implementing technical standards specifying requirements for the information that sellers of non-performing loans (NPLs) shall provide to prospective buyers.
The European Council and the Parliament reached an agreement on the revised Directive on security of network and information systems (NIS2 Directive).
The European Banking Authority (EBA) published the final draft regulatory technical standards specifying information that crowdfunding service providers shall provide to investors on the calculation of credit scores and prices of crowdfunding offers.