Shadow Banks, Such as Insurers, Hedge Funds, Could Be Sitting on Elevated Risk: ECB

November 30, 2023

The European Central Bank may need to take on a bigger role in supervising shadow banks as they are now bigger than conventional lenders and may be sitting on elevated risk, the outgoing head of the ECB’s supervision arm told European newspapers.

Shadow banks, a collective term for non-bank financial firms such as insurers, hedge funds or investment funds, have grown to 51 trillion euros ($56.13 trillion) in assets, but face laxer regulation than conventional lenders, which poses a growing threat to overall financial stability.

Property funds are now at a particular risk given the slump in commercial real estate valuations while open ended funds with credit risk exposure faced acute liquidity stress in early 2020, during the market volatility at the onset of the pandemic.

“There could be a lot of concentrated exposure, liquidity mismatches and excessive leverage, and in my view this would call for some extension of the regulatory environment,” Andrea Enria told Expansión, Handelsblatt, Il Sole 24 Ore and Les Echos in a joint interview on Tuesday.

“The prudential supervisor could of course take on this responsibility,” Enria, who leaves office at the end of the year, said. “These are different animals to banks, so we shouldn’t expect to supervise them in the same way as we supervise banks.”

Taking on oversight of shadow banks would require legislative changes, a time-consuming process even under the best of circumstances, and requiring broad political agreement.

But some have argued that such a change could ease liquidity stress, particularly if shadow banks gained access to the ECB lending operations.

Supervised lenders can now borrow from the ECB as long as they have adequate collateral, reducing the risk that the interbank markets seize up during periods of stress.

The ECB lends money in full allotment tenders, meaning that all demand for cash is met at fixed interest rates, provided that institutions can put up the necessary collateral.

($1 = 0.9086 euros)

(Reporting by Balazs Koranyi; editing by Tomasz Janowski)

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