The Financial Stability Board (FSB) has finalized its policy framework for regulating shadow banking – that is, economic functions that permit maturity or liquidity transformation and/or credit intermediation that may pose macroeconomic or financial-stability risk. The final framework principally focuses on regulating designated “economic functions,” not as previously contemplated restricting the ability of banks to interact with non-banking firms or business lines. With the exception of ongoing work on securities financing, the new framework is not prescriptive and thus could permit considerable variation among nations and identified sectors, perhaps leaving unaddressed concern that tough new rules for banks will drive many financial activities into “shadows” recently measured by the FSB as holding $67 trillion in worldwide assets. Collective investment funds are a top priority, with the statement reiterating the determination of global regulators to impose redemption, liquidity, leverage and maturity limits for these vehicles. Credit insurance is also subject to clearly-articulated new standards. However, another past priority – asset securitization – is now subject to less sweeping rules than previously proposed and those for some other sectors (e.g., broker-dealers) are similarly equivocal. If the proposed “toolkits” are deployed by national authorities, significant strategic change will ensue, but the likelihood that this will occur is uncertain, with a more likely near-term cross-border result being additional regulatory information-sharing and research activities. This could result in a patchwork of changes across the cited economic activities that in some nations reduces the risk of regulatory arbitrage and in others leaves it unaffected with adverse prudential and competitive consequences.

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