A Comparative Analysis of Shadow Banking Reforms by the FSB, USA and EU

The year 2013 is likely to be a watershed time in the development of shadow banking oversight and regulation. Of particular note are three upcoming developments: (1) the Financial Stability Board (the FSB) has commenced public consultations on its initial proposals and final recommendations are scheduled to be released in September 2013; (2) the USA will soon begin designating its first nonbank Systemically Important Financial Institutions (SIFIs), and will clarify its plans for regulating such entities in practice; and (3) the European Systemic Risk Board is preparing to recommend shadow banking oversight changes in early 2013. It is therefore an appropriate time to pause and re-evaluate the steps that have been taken thus far to address shadow banking.

Our article, “Promoting Risk Mitigation, Not Migration: A Comparative Analysis of Shadow Banking Reforms by the FSB, USA and EU, is a critical study of recent efforts to regulate “shadow banking” at the national and global level. We also review the history and current status of money market fund reform efforts by the FSB, USA, and EU as part of their efforts to change the regulation of key shadow banking entities.

We find that, particularly in the USA, there has been an undue focus on identifying entities operating in the non-bank financial sector and a default to bank prudential regulation for such entities. This default response disregards other options available for risk mitigation, subjects diverse entities to a “one-size-fits-all” regulatory approach, and further complicates legal obligations for entities that are often already subject to other complex regulatory regimes. The consequence may be to potentially force risk migration rather than mitigation.

We therefore advocate increased analysis of shadow banking activities, instead of current entity-based strategies imposing bank-like regulation. This approach allows for more effective identification of the sources of risk, greater uniformity in cross-border application of proposed reforms, and more flexibility in addressing financial innovation.

We then examine two fiercely debated FSB workstreams: indirect regulation targeting bank interconnectedness and exposure to the shadow banking system and the proposed reforms of money market funds in the USA, EU and at the FSB. Both workstreams demonstrate the importance of tailored solutions that target the activities which create risk, rather than the application of uniform rules to shadow banking entities that ignore their unique characteristics, risk profiles and existing regulation.

The full text of our article, which was recently published in the Oxford University Press’s January 2013 edition of the Capital Markets Law Journal, is available here. We welcome any questions or comments.

1 Comment

  1. Michelle Lee

    An interesting and timely topic. I’m surprised I haven’t seen more articles surveying different approaches to shadow banking given the recent attention to the subject by the FSB as well as daily in the media. The article’s conclusion that bank regulation has been too readily extended to “shadow banks” is an interesting one since so many commentators on the topic think these entities should be regulated like banks, but complain that that isn’t the case at the moment.

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