The European Central Bank (ECB) could take on a bigger role in supervising shadow banks, such as money market funds and investment firms, according to its top banking supervisor, Andrea Enria.
Shadow banking poses systemic risks
Shadow banking is a term that refers to the activities of financial intermediaries that operate outside the regulated banking system, such as hedge funds, private equity funds, money market funds, and investment firms. These entities provide credit and liquidity to the economy, but they also pose systemic risks, as they are less transparent and more prone to runs and contagion.
Enria, who chairs the ECB’s Single Supervisory Mechanism (SSM), said that the COVID-19 pandemic had exposed some of the vulnerabilities of the shadow banking sector, especially in the area of liquidity and leverage. He said that the ECB had intervened to prevent a market meltdown in March 2020, when some money market funds faced large redemptions and some investment firms faced margin calls.
He said that the ECB had the power to impose liquidity and leverage requirements on these entities, as well as to monitor their activities and intervene in case of distress. However, he said that the ECB’s role was limited by the fact that it did not have direct supervisory authority over them, and that it had to rely on the cooperation of national authorities and other regulators.
ECB could take on more supervisory tasks
Enria said that the ECB could take on more supervisory tasks in the area of shadow banking, if the European Union (EU) decided to grant it more powers and resources. He said that the ECB had already proposed to the EU to extend its mandate to cover investment firms, which are currently supervised by national authorities.
He said that the ECB could also take on the supervision of money market funds, which are currently regulated by the European Securities and Markets Authority (ESMA), as well as other non-bank financial institutions that pose systemic risks. He said that this would allow the ECB to have a more comprehensive and consistent oversight of the financial system, and to address potential gaps and overlaps in the regulatory framework.
He said that the ECB was ready to take on more responsibility, but that it would need to have adequate resources and staff to do so. He said that the ECB would also need to have a clear division of tasks and responsibilities with other regulators, such as ESMA and the European Banking Authority (EBA), to avoid duplication and confusion.
ECB calls for more harmonization and coordination
Enria also called for more harmonization and coordination among the EU member states and regulators in the area of shadow banking. He said that the EU had made some progress in creating a single rulebook and a single market for financial services, but that there were still significant differences and fragmentation across the bloc.
He said that the EU should aim to create a single supervisory framework and a single resolution mechanism for non-bank financial institutions, as it had done for banks. He said that this would enhance the effectiveness and efficiency of supervision and crisis management, and reduce the risk of regulatory arbitrage and competitive distortions.
He said that the EU should also strengthen its cooperation and information sharing with other jurisdictions and international bodies, such as the Financial Stability Board (FSB) and the International Monetary Fund (IMF), to address the global and cross-border nature of shadow banking. He said that the EU should play a leading role in setting global standards and best practices for the regulation and supervision of shadow banking.