Treasury has ‘limited grasp’ of concerns over booming shadow banking sector, peers say | Financial sector
The UK Treasury has a “limited understanding” of concerns linked to the burgeoning shadow banking sector and may not be prepared for the risks to financial stability posed by the unregulated sector, peers said.
While a lack of data makes it difficult to say whether the $16 trillion (£12 trillion) non-bank financial sector could bring the wider financial system to its knees, authorities do not appear to be alert to potential risks, according to a Lords financial services regulatory committee report.
It says the department’s evidence “shows a limited understanding of the concerns raised during this investigation, indicating a lack of passive response to the potential risks to the UK’s financial stability arising from the growth of private markets.”
This raises concerns given the Treasury’s responsibility to “ensure overall financial stability so that taxpayers do not serve as a prop for the financial system.”
The report says the UK could be one of the first countries to feel the effects of the downturn in the US-dominated shadow banking sector, whose value has quadrupled from $4 trillion in 2008.
The largely unregulated sector includes private equity firms that buy businesses and private lending firms that compete with regulated banks to lend to businesses.
The sector is dominated by US firms but is intertwined with mainstream insurance companies and regulated high street banks, including the UK, which invest in and lend to the sector.
The International Monetary Fund said last year that a downturn in the private credit sector could have ripple effects across the financial system and potentially destabilize traditional banks that lend to the shadow banking sector.
“The UK’s position as a global financial center means it will be the first to experience the opportunities and risks arising from this growth, particularly in US private markets,” the committee report said.
Bank of England governor Andrew Bailey told the Lords inquiry in October that he had concerns following the collapse of two US car firms that had borrowed money from private markets. The cases have raised questions about weak credit standards, with Bailey saying there are worrying repercussions of the subprime mortgage crisis that set off the financial crisis.
The bank is about to launch stress testing of the private credit sector, which will map potential risks associated with the sector’s growth, including whether this could increase financial and economic shocks.
Committee chairman Michael Forsyth, who served in John Major’s government, said: “The Bank of England, the Financial Conduct Authority and the Prudential Regulation Authority are right to be cautious and monitor the dramatic growth in private markets and its implications for financial stability.”
A Treasury spokesman said: “We have worked with regulators in recent years to significantly increase our focus on non-bank sectors and to ensure we have a robust, flexible framework to protect financial stability.” He added that the Treasury would respond to the report in due course.
