Last month’s G20 summit in Russia resulted, among other things, in a new set of global rules endorsed by the Financial Stability Board (FSB). The new regulation applies to shadow banks, a $60 trillion industry that has now been given until 2015 to fully comply with its first set of global rules.
The regulation was prompted due to the risky nature of shadow banking which resulted in mainstream leaders needing public bailouts during the 2007-2009 financial crises. In the backdrop of a growing OTC derivatives market over the past 3 years, it’s interesting to note that shadow financial institutions seem to have stolen the majority of the derivatives business. This makes bankers wary of this trend, since they’re experiencing tougher capital rules which are encouraging OTC deals onto exchanges, where pricing is more transparent. The BIS study reveals that hedge funds and other-non bank financial institutions are now taking more than 50 percent of both interest rates and FX trading for the first time.
FSB provides an overview of the new regulation through their publication on shadow banking. Shadow banking activities such as credit investment funds, exchange-traded funds, credit hedge funds, private equity funds, securities broker deals, credit insurance providers, securitization and finance companies, have been targeted. The FSB claims that while the new regulation is designed to curb excessive risk-taking, it is attempting to avoid harming the industry that is vital to financing the economy.
According to FSB Chairman Mark Carney, the establishment of the new regulation is the ‘first step to transforming shadow banking into sound market-based financing.’ However, the reforms have not been passed without concern. “This is not helping real economy financing as corporate bonds will be subject to a haircut. Only some corporate bonds are cleared so it adds costs to real economy financing,” said Godfried De Vidts, chairman of the European Repo Council.
The actual implementation of the new regulation will begin once market conditions are optimal, says FSB. With these advancing regulations, will there be a safer outlook within the industry of shadow banking? Or will it simply be an added and unnecessary burden within the financial world?