Shadow Banking System Larger than at the Start of the Financial Crisis

One of the Main Indicators of Financial Danger Has Increased

The failure to regulate the shadow banking system was one of the causes of the financial crisis.

As we noted in 2009, the Bank for International Settlements – often described as a central bank for central banks (BIS)  – slammed the Federal Reserve for failing to rein in the shadow banking system:

How could such a huge shadow banking system emerge without provoking clear statements of official concern?

Years later, the Fed and other regulators have allowed the shadow banking system to grow even bigger.

As Reuters notes today:

The system of so-called “shadow banking,” blamed by some for aggravating the global financial crisis, grew to a new high of $67 trillion globally last year, a top regulatory group said, calling for tighter control of the sector.

A report by the Financial Stability Board (FSB) on Sunday appeared to confirm fears among policymakers that shadow banking is set to thrive, beyond the reach of a regulatory net tightening around traditional banks and banking activities.

***

The study by the FSB said shadow banking around the world more than doubled to $62 trillion in the five years to 2007 before the crisis struck.

But the size of the total system had grown to $67 trillion in 2011 — more than the total economic output of all the countries in the study.

***

The United States had the largest shadow banking system, said the FSB, with assets of $23 trillion in 2011, followed by the euro area — with $22 trillion — and the United Kingdom — at $9 trillion.

The U.S. share of the global shadow banking system has declined in recent years, the FSB said, while the shares of the United Kingdom and the euro area have increased.

At the same time, authorities have relaxed rules against fraud, excessive leverage and moral hazard … three of the other main causes of the financial crisis.

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  • Danny

    Hey guys, i’m not sure I 100% agree with your assertion that it
    was relaxed rules against the shadow banking system that allowed it to
    get so big. What allowed shadow banking and its conduits to get so big
    is the fact that interest rates are lower than market rate. Here is a
    look at shadow banking from the supply side
    http://www.ny.frb.org/research/staff_reports/sr458.pdf, however this
    report concludes it was due to regulation arbitrage, but fails to grasp
    that it was only possible due to central bank policy (as the people writing it were keynsians).

    The
    other way of looking at it is that there was a deficit of between 1.5 -
    2 trillion in short term treasury agency discount notes to fill
    institutional cash pools’ safety needs. This itself was the major supply
    side strain of the issue noted here
    http://www.ft.com/cms/8ae8ad1c-c43a-11e0-ad9a-00144feabdc0.pdf.

    The
    essential problem was the thought of risk stripping, or risk reduction
    through credit intermediation could occur through highly leveraged
    products that could never have worked as those assets were already
    over-inflated. This also accelerated the housing bubble as people
    assumed that because of the protections held by these institutions
    through shadow banking (Think AIG CDS rubbish on agency MBS’s and other
    related products like credit ratings), allowed it to get far larger.
    Sort of explained here but not very well
    http://www.ft.com/cms/8ae8ad1c-c43a-11e0-ad9a-00144feabdc0.pdf

    The
    other issue with shadow banking is that it is allowing the gap filling
    of safe asset demands of things like treasuries through shady
    mechanisms, this is crushing cash investors as this is the way they are
    able to artificially crush UST’s rate’s with a fraction of the equity
    required to do it. This wont stop with regulation, it can only stop if
    you crush the source of the funding which is basically the Fed discount
    window. Even if you tried to regulate it, the demand side requirement is
    far too large and they will just manufacture other repo conduits.

  • JosephConrad

    Until Americans find the COURAGE & THE BRAINS to round up, TRY & IMPRISON the Wall Street & Beltway Thugs, Liars and Thieves who’ve STOLEN American Liberty, LOOTED Taxpayers, FINANCED the 7 Wars the U.S. is fighting & LOSING, they will only CAREEN FASTER into ECONOMIC & FINANCIAL SERVITUDE – ‘SLAVERY’ for the STUPID & IGNORANT…It is GALLING Banker THIEVES run free and Union Strikers go to jail – Summarily!

 

 

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