Posts Tagged ‘Shadow banking’

Nonbank SIFIs: No Solace for US Asset Managers

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Thursday March 27, 2014 at 9:19 am
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Editor’s Note: The following post comes to us from Dan Ryan, Chairman of the Financial Services Regulatory Practice at PricewaterhouseCoopers LLP, and is based on a PwC publication.

Ever since the Treasury Department’s Office of Financial Research (“OFR”) released its report on Asset Management and Financial Stability in September 2013 (“OFR Report” or “Report”), the industry has vigorously opposed its central conclusion that the activities of the asset management industry as a whole make it systemically important and may pose a risk to US financial stability.

Several members of Congress have also voiced concern with the OFR Report’s findings, particularly during recent Congressional hearings, as have commissioners of the Securities and Exchange Commission (“SEC”). Further complicating matters, a senior official of the Office of the Comptroller of the Currency (“OCC”) recently expressed alarm about banks working with alternative asset managers or shadow banks on “weak” leveraged lending deals.

…continue reading: Nonbank SIFIs: No Solace for US Asset Managers

The Governance Structure of Shadow Banking

Posted by Steven L. Schwarcz, Duke University, on Thursday February 6, 2014 at 9:16 am
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Editor’s Note: Steven L. Schwarcz is the Stanley A. Star Professor of Law & Business at Duke University School of Law.

In prior articles (see, e.g., Regulating Shadows: Financial Regulation and Responsibility Failure, 70 Wash. & Lee L. Rev. 1781 (2013)), I have argued that shadow banking is so radically transforming finance that regulatory scholars need to rethink certain of their basic assumptions. In a forthcoming new article, The Governance Structure of Shadow Banking: Rethinking Assumptions About Limited Liability, I argue that the governance structure of shadow banking should be redesigned to make certain investors financially responsible, by reason of their ownership interests, for their firm’s liabilities beyond the capital they have invested. This argument challenges the longstanding assumption of the optimality of limited liability.

…continue reading: The Governance Structure of Shadow Banking

Fed Outlines Proposals to Limit Short-Term Wholesale Funding Risks

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Friday January 3, 2014 at 9:00 am
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Editor’s Note: The following post comes to us from Derek M. Bush, partner at Cleary Gottlieb Steen & Hamilton LLP, and is based on a Cleary Gottlieb memorandum by Mr. Bush, Katherine Carroll, Hugh C. Conroy, Jr., Allison H. Breault, and Patrick Fuller.

On November 22, 2013, Federal Reserve Board Governor Daniel Tarullo delivered a speech at the Americans for Financial Reform and Economic Policy Institute outlining a potential regulatory initiative to limit short-term wholesale funding risks. [1] This proposal could increase capital requirements for and apply additional prudential standards to firms dependent on short-term funding, with a focus on securities financing transactions (“SFTs”)—repos, reverse repos, securities borrowing/lending and securities margin lending.

…continue reading: Fed Outlines Proposals to Limit Short-Term Wholesale Funding Risks

A Simpler Approach to Financial Reform

Posted by June Rhee, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Thursday October 17, 2013 at 9:20 am
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Editor’s Note: The following post comes to us from Morgan Ricks at Vanderbilt Law School.

There is a growing consensus that new financial reform legislation may be in order. The Dodd-Frank Act of 2010, while well-intended, is now widely viewed to be at best insufficient, at worst a costly misfire. Members of Congress are considering new and different measures. Some have proposed substantially higher capital requirements for the largest financial firms; others favor an updated version of the old Glass-Steagall regime.

In A Simpler Approach to Financial Reform, forthcoming in Regulation, I suggest a different and simpler strategy. This simpler approach would be compatible with other financial stability reforms. However, in the first instance, it is better understood as a substitute for Dodd-Frank and other measures. The simpler approach would require new legislation. It consists of the following specific measures, starting from a pre-Dodd-Frank baseline:

…continue reading: A Simpler Approach to Financial Reform

The Future in Law and Finance

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Wednesday July 3, 2013 at 9:30 am
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Editor’s Note: The following post comes to us from Alessio Pacces, Professor of Law and Finance at the Erasmus School of Law in Rotterdam. The post is based on Professor Pacces’ inaugural lecture for the Chair in Law and Finance at the Erasmus School of Law in Rotterdam. The full text of the lecture is available here.

Traditionally, law and finance has been concerned with investor protection. That would be enough if the future were predictable. However, because the future is in fact uncertain and unpredictable, the prices of financial assets are flawed and in the short run they may result in serious mistakes, if not widespread crises. Although these mistakes are corrected in the long run, a lot of harm may occur in the meantime. Drawing on the experience from the global financial crisis, I argue that financial law should be concerned not only with investor protection, but also with mitigating the temporary excesses of markets in allowing or restricting access to finance.

The challenge of this goal is to remedy market malfunctioning without undermining market discipline. This is possible if central banks backstop banks’ illiquidity during a crisis, provided that regulation preserves the central banks’ incentives to distinguish illiquidity from insolvency. Moreover, in order to prevent the backstop from resulting in moral hazard by financial institutions, regulation should police the incentives of both managers and shareholders. On the one hand, bank managers should not be allowed to cash in the profit of short-term success. On the other hand, corporate law should allow shareholders to commit to the long term via takeover restrictions, granting bankers private benefits of control to complement the deferral of performance pay.

…continue reading: The Future in Law and Finance

Out of the Shadows and Into the Light

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Tuesday January 29, 2013 at 9:47 am
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Editor’s Note: The following post comes to us from Jeremy Jennings-Mares, partner in the Capital Markets practice at Morrison & Foerster LLP, and is based on a Morrison & Foerster bulletin by Mr. Jennings-Mares, Peter Green, and Lewis Lee.

For the last four years, regulators and law makers have been focusing extraordinary efforts on ensuring that financial regulation is adequate to protect the financial system from risks emanating from the banking sector. However, it is only more recently that policy makers have turned their attention towards possible systemic risk related to entities which carry out similar functions to the banking sector or to which the banking sector is otherwise exposed. Such entities have, for convenience, been grouped under the heading of “shadow banks”, although no precise definition or description of shadow banking has yet been agreed upon by policy makers.

At their November 2010 Seoul Summit, the leaders of the G20 nations requested that the Financial Stability Board (FSB) develop recommendations to strengthen the oversight and regulation of the shadow banking system in collaboration with other international standard setting bodies, and in response to such request, the FSB formed a task force with the following objectives:

…continue reading: Out of the Shadows and Into the Light

Financial Regulation in General Equilibrium

Posted by Anil K. Kashya, University of Chicago, on Monday August 27, 2012 at 9:10 am
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Editor’s Note: Anil K. Kashyap is the Edward Eagle Brown Professor of Economics and Finance at the University of Chicago Booth School of Business.

In our recent NBER working paper, Financial Regulation in General Equilibrium, my co-authors (Charles Goodhart of the London School of Economics, Dimitrios P. Tsomocos of the University of Oxford, and Alexandros Vardoulakis of the Banque de France) and I explore how different types of financial regulation could combat many of the phenomena that were observed in the financial crisis of 2007 to 2009. The primary contribution is the introduction of a model that includes both a banking system and a “shadow banking system” that each help households finance their expenditures. Households sometimes choose to default on their loans, and when they do this triggers forced selling by the shadow banks. Because the forced selling comes when net worth of potential buyers is low, the ensuing price dynamics can be described as a fire sale. The presence of the banking and shadow banking system, and the possibility that their interaction can create fire sales distinguishes our analysis from previous studies.

The model builds on past work by Tsomocos (2003) and Goodhart, Tsomocos and Vardoulakis (2010) and uses many of the same ingredients as their general equilibrium model. In particular, the model includes two periods and allows for heterogeneous agents who borrow and lend to each other through financial intermediaries. When the borrowers default, the intermediaries suffer losses and tighten lending standards to future borrowers. Thus, the model also includes a possible credit crunch.

…continue reading: Financial Regulation in General Equilibrium

FSB Reports Regulatory Reform Is Advancing, But Slowly

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Friday July 20, 2012 at 9:21 am
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Editor’s Note: The following post comes to us from Heath Tarbert, partner and head of the Financial Regulatory Reform Working Group at Weil, Gotshal & Manges LLP, and is based on a Weil alert by Mr. Tarbert, Sylvia Mayer, and Scott Bowling.

On June 19, 2012, the Financial Stability Board (FSB) issued a progress report to the G20 Leaders on the steps FSB member nations have taken to implement financial reforms designed to improve the stability of the global financial system. The FSB reviewed, among other things, its members’ Basel implementation, adoption of resolution-planning regimes, oversight of the so-called “shadow banking system,” reform of the OTC derivatives market, and the effectiveness of the FSB itself. The FSB concluded that its member nations have made significant progress in implementing globally agreed financial reforms, but large strides are still necessary – particularly regarding recovery and resolution planning – to protect the global economy against future financial crises.

What is the FSB?

The FSB is an informal body of financial regulatory authorities from the G20 nations and the former members of the Financial Stability Forum. It was established in 2009 – in the wake of the 2008 financial crisis – with the intent of improving global financial stability by coordinating the way in which the world’s major economies implement their own financial reforms. At present, the FSB is not an independent legal entity but acts under the auspices of the Bank for International Settlements (BIS), an international organization that assists central banks in promoting financial stability and serves as an international central bank itself. The FSB has no enforcement authority; it derives its legitimacy from the cooperative participation of its member nations. As described below, however, the FSB’s institutional power may be growing: the G20 Leaders recently granted the FSB authority to organize itself as an independent legal entity.

…continue reading: FSB Reports Regulatory Reform Is Advancing, But Slowly

Shadow Banking Index

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Sunday June 17, 2012 at 9:20 am
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Editor’s Note: The following post comes to us from Adam Schneider, Executive Director at the Deloitte Center for Financial Services. This post is based on the executive summary of a Deloitte report by Val Srinivas, Mr. Schneider, Don Ogilvie, and John Kocjan. The full report is available here.

Shadow banking may help drive the day-to-day financial system, but it is a concept looking for a hard-and-fast definition.

Despite coming under intense scrutiny following the financial crisis, there have been disparate characterizations of what the shadow banking sector truly entails — with size estimates ranging from $10 to $60 trillion. At the same time, major regulatory efforts have either been enacted or are in the works to help reduce the size of this important sector, with no agreed-upon way to measure their effectiveness.

The purpose of the Deloitte Shadow Banking Index is to define and quantify the sector over time, including its components. This ongoing effort is designed to more closely measure size, importance, effect of market, and impact of regulatory actions, as well as a way to assess the potential impact of shadow banking on regulated markets.

What is shadow banking really? We started by including a multitude of nonbanking entities and activities and then applied specific criteria. For example, we posit that money market mutual funds (MMMFs) are part of shadow banking as they possess the “money-like” attributes of bank deposits. But they do not have bank-like insurance, nor can they access a central bank for liquidity support.

…continue reading: Shadow Banking Index

Shadow Banking and Financial Instability

Posted by Lord Adair Turner, Chairman, United Kingdom Financial Services Authority, on Monday April 16, 2012 at 9:12 am
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Editor’s Note: Lord Adair Turner is chairman of the United Kingdom Financial Services Authority. This post is based on a speech delivered by Lord Turner at the Cass Business School; the speech and accompanying slides are available here.

In autumn 2008 the developed world’s banking system suffered a severe crisis. In response the world’s regulators and central banks have focused on building a more stable banking system for the future: less leveraged, more liquid, better supervised and with even the largest banks able to be resolved without taxpayer’s support. The implementation of that bank-focused regulatory agenda is still unfinished, but much progress has been made.

Looking back to the year 2007/08, however, it’s striking that the crisis did not at first look like a traditional banking crisis, but rather one related to a new phenomenon: shadow banking. Initially the problems seemed concentrated in the US, where the development of non-bank credit intermediation was most advanced, and many of the events which marked the developing crisis related to non-bank institutions and markets.

…continue reading: Shadow Banking and Financial Instability

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