Shadow banking refers to credit intermediation and maturity transformation conducted by non-bank financial entities that operate outside the perimeter of conventional deposit-taking banking regulation. It encompasses activities such as money-market funds, securitisation vehicles, repo markets, and hedge-fund lending that perform bank-like functions without access to central-bank backstops or deposit insurance. Because it sits beyond standard prudential oversight, shadow banking can amplify systemic risk during periods of market stress.
Overview
- Shadow banking channels savings into credit using market-based instruments rather than insured deposits, complementing and competing with Traditional Banking.
- It contrasts with regulated banks in that participants generally lack access to Central Bank liquidity facilities and deposit guarantees.
- Its scale and interconnection with the regulated system make it a recurring focus of Systemic Risk analysis.
Key aspects
- Maturity transformation: funding long-dated assets with short-term liabilities outside the banking sector.
- Securitisation: pooling loans into tradeable securities to move risk off balance sheets.
- Repo and money markets: short-term collateralised funding chains that can seize up under stress.
- Regulatory arbitrage: structuring activity to avoid bank capital and liquidity requirements.
- Liquidity mismatch: vulnerability to runs when investors redeem faster than assets can be sold.
Applications
- Macroprudential surveillance of non-bank credit growth.
- Stress-testing funding chains for Liquidity fragility.
- Policy design to bring systemically important non-banks into oversight.
- Modelling contagion pathways for Systemic Risk assessment.