POVERTY THE WORLD BANK REDUCTION AND ECONOMIC MANAGEMENT NETWORK (PREM) Economic Premise JUN 2012 SEPTEMBER 010 • Numbe 88 • Number 18 72445 Chasing the Shadows: How Significant Is Shadow Banking in Emerging Markets? Swati Ghosh, Ines Gonzalez del Mazo, and İnci Ötker-Robe Broadly defined as credit intermediation involving entities and activities outside the regular banking system,1 shadow banking raises important policy concerns. Given significant challenges with data availability, the size, nature and significance of shadow banking in emerging market and developing economies (EMDEs) are even less discussed and understood. Shadow banking in EMDEs generally does not involve long, complex, opaque chains of intermediation, as is often the case in advanced economies. Nonetheless, it can pose systemic risks, both directly, as its importance in the total financial system grows (with the concomitant credit, market, and liquidity risks that its participants undertake), and indirectly through its interconnectedness with the regulated banking system. At the same time, shadow banks also play an important role in channeling alternative funding sources to EMDEs, especially as deleveraging pressures from European banks continue. This suggests that policy makers need to manage trade-offs carefully to ensure that shadow banks provide alternative but safe sources of funding to the private sector without generating additional systemic risks. Based on a snapshot of selected EMDEs in East Asia and in Central and Eastern Europe, and subject to caveats dictated by limited data availability, the shadow banking system is relatively small in most EMDEs, but has grown markedly in recent years, reaching a not insignificant share of the financial system in some countries, while remaining largely unregulated. What Is Shadow Banking? ers 2010).2 In the latter case, one or more of the entities in the chain might be a bank or a bank-owned entity, but these op- Shadow banking comprises a set of activities, markets, con- erations are typically performed by separate specialist non- tracts, and institutions that operate partially (or fully) outside bank entities that interact across the wholesale financial mar- the traditional commercial banking sector, and, as such, are ket and rely on the wholesale market for funding (Comotto either lightly regulated or not regulated at all. The distin- 2012). In doing so, shadow banks redistribute risk through guishing feature of shadow banking is that it decomposes the credit, maturity and liquidity transformation, raising system- process of credit intermediation into a sequence of discrete ic risks, especially if combined with high leverage. operations (FSB 2011a, exhibit 1). A shadow banking system Participants of the shadow banking sector typically in- can be composed of a single entity that intermediates between clude a wide range of nonbank financial intermediaries con- end-suppliers and end-borrowers of funds, or it could involve ducting various activities. In advanced financial systems, the multiple entities forming a chain (FSB 2011a; Pozsar and oth- players typically include money market, credit hedge, invest- 1 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise ment, and exchange-trading funds; conduits or special pur- tors and banks a range of tools for liquidity, maturity, and pose vehicles; and finance, insurance, and leasing companies. credit risk management. The activities range from securitization, securities lending, At the same time, shadow banking activities can be an repos, loans and other banklike functions, including collect- important source of systemic risk. After all, the global finan- ing deposits (EC 2012; FSB 2011a; Pozsar and others 2010). cial crisis originated in the shadow banking sector in 2008. The challenges posed by shadow banking may differ be- Since then, there has been growing recognition that despite tween advanced and emerging markets. Based on recent anal- the beneficial role it can play in providing credit, the shadow yses of the sector in the United States and other advanced banking system may pose even greater systemic risk than economies, shadow banking involves many credit intermedia- traditional banking, because its activities are exposed to tion steps and complex linkages within the shadow banking similar financial risks as traditional banks, but are not sub- system as well as between traditional and shadow banks. In ject to the same degree of oversight and regulation. These emerging markets, these steps and linkages tend to be simpler, risks include: with finance, leasing, and factoring companies; investment • The potential for excess leverage. Activities in the shad- and equity funds; insurance companies; pawn shops; and un- ow banking system can be highly leveraged, including derground entities comprising the main participants in the through securities financing transactions (SFTs) that en- shadow banking system. tail a temporary transfer of securities by a lender to a bor- Assessing the significance of shadow banking is hindered rower on a collateralized basis. SFTs include both repo by considerable data challenges. Using a proxy measure of markets (in which commercial banks also participate) nonbank credit intermediation based on flows of funds data and securities lending transactions.3 The use of such for Australia, Canada, Japan, the Republic of Korea, the Unit- nondeposit sources of collateralized funding can facili- ed Kingdom, the United States and the euro area, the Finan- tate high levels of leverage since these assets can be used cial Stability Board (FSB) estimated the size of the global as collateral to raise more funds, which can then be used shadow banking system at about US$60 trillion in 2010— to buy more assets that in turn can be used as collateral to representing 25–30 percent of the total financial system, or raise more funds (hence amplifying procyclicality). The about half of assets in the regular banking sector, compared to practice that allows a prime broker to use collateral post- an estimated US$27 trillion in 2002 (FSB 2011b). After ed by, say, a hedge fund, for its own funding (rehypothe- growing rapidly until 2007, reaching about US$60 trillion, cation) plays an important role in shadow banking, in- many parts of the shadow banking system collapsed in 2008 creasing the estimated size of the system prior to the (Pozsar and others 2010), but recovered to the 2007 level in crisis to at least 50 percent larger than had been previ- 2010. No aggregate estimate is available so far on the size or ously documented (Singh and Aitken 2010). A defined importance of nonbank financial intermediation in EMDEs, set of customer protection rules that limit rehypotheca- though it is believed to be small but growing, compared to the tion of assets may not exist in all countries. size of their total financial system. • Amplification of procyclicality. As noted above, practices in the shadow banking system also amplify procyclicali- Why Increased Focus on Shadow Banking? ty—that is, the mutually reinforcing interactions between Benefits and Costs the financial and real sectors of the economy that tend to It is generally agreed that financial intermediation through exacerbate business cycle fluctuations and financial sec- nonbank channels provides some benefits, and hence can tor instability. Procyclicality can arise for several reasons: constitute a useful part of the financial system (EC 2012; —— Valuation changes in collateral assets can cause pro- FSB 2011a; Pozsar 2010). For example, shadow banks pro- cyclicality. Rising collateral asset values increase vide alternatives to bank deposits for large investors, especial- cash/securities lent and, because the value of collat- ly given the insufficient amounts of insured deposits in the eral assets is positively correlated with the business traditional banking system compared to the large size of the cycle, rising collateral values increase the credit avail- cash pools held by institutional investors. Their specialized ability during economic expansions. expertise in specific functions enables them to channel re- —— SFTs involve the use of margins and haircuts,4 which, sources toward specific needs more efficiently. Moreover, in turn, affect leverage. Margins and haircuts tend to they provide alternative funding for the real economy—par- be procyclical; in an upswing, a reduction in haircuts ticularly useful when traditional banking or market channels or initial margins increases the maximum leverage become temporarily impaired—as in the current crisis. Shad- available to the borrower, even if other credit terms ow banks can also provide funding and risk diversification: remain unchanged. As leverage increases, additional they can facilitate credit extension to certain sectors that purchases of collateral can be financed. The result- might otherwise not have access to credit, and provide inves- ing higher demand for assets lowers credit spreads 2 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise and raises the value of collateral assets, encouraging especially when the two parts of the financial system re- further increases in the amount that can be bor- main connected through ownership or financial linkages. rowed against this collateral. Conversely, in a down- Is the Shadow Banking System a Similar turn—or when market confidence evaporates—the Source of Risk for EMDEs? value of collateral falls and margins/haircuts are in- creased, potentially leading to abrupt deleveraging Whether or not the shadow banking system constitutes a sig- and fire sales. nificant risk for the financial systems of EMDEs depends on a • Instability of wholesale funding and potential for “mod- number of factors, including: ern-style bank run.� The shadow banking system relies i. the size and systemic importance of shadow banking in on wholesale funding, which is not directly or perma- total financial system; nently supported by any official safety net (such as de- ii. types of activities shadow banks are engaged in and their posit insurance and access to central banks as lenders of riskiness; last resort). Shadow banks undertake significant maturi- iii. if and how they are linked to the banking sector; and ty and liquidity transformations, and many, if not most, iv. if and how they are regulated. fund themselves through short-term or callable deposit- Unfortunately, information on the characteristics and like liabilities, including short-dated asset-backed com- size of shadow banks in EMDEs is hard to come by, and in mercial papers (ABCPs), short-term repos, and money many cases, available information (from central bank or regu- fund investments. This practice exposes the system to a latory agencies’ Web sites or financial sector assessment pro- “run� (or sudden, large-scale withdrawals by clients of grams [FSAPs] conducted in recent years) is fragmented and their funds), undermining the wider financial system. may not be fully comparable. With these caveats in mind, this • Transmission of systemic risk. Shadow banking activities section looks at a snapshot of the shadow banking system in are often linked to the regular banking system through a Central and Eastern Europe and in East Asia, with a particu- complex web of interconnections (Turner 2012). Com- lar focus on China. mercial banks are often part of the shadow banking Overall, banks dominate the financial systems of many chain, or provide explicit or implicit support to the shad- EMDE’s, but the shadow banking sector has gained impor- ow banking entities to enable maturity/liquidity trans- tance in some countries. In East Asia, traditional banking still formation. Also, banks often invest in financial products dominates the formal financial sector, but nonbank financial of shadow banks, alongside other providers of funds, intermediation may provide important shadow banking ser- such as consumers and corporations. The failure of an vices in some regions. The sector is particularly large in the institution in the shadow banking sector could then gen- Philippines and Thailand (more than one-third of total finan- erate significant contagion and affect the overall financial cial system assets) and its share has been gradually rising (fig- system stability. These bank–nonbank linkages can also ure 1). However, in select Central Eastern European coun- exacerbate the procyclical buildup of leverage discussed tries, shadow banking grew rapidly until 2007, and then lost above, involve “flawed credit risk transfers� through secu- some of its share following the global financial crisis. ritization and heighten risks of asset bubbles, especially The factors underlying the development of the nonbank when both systems invest in the same assets. Hence, even financial intermediation are somewhat similar to those that in cases where there is no direct connection, banks can be stimulated its growth in advanced countries. For example, as exposed to common concentrations of risks in financial in the United States, where fundamental changes over several markets through common holdings of assets and deriva- decades placed pressures on both the asset and liabilities side tive positions. of banks’ balance sheets, eroded their competitive advantage • Regulatory arbitrage and circumvention. Shadow bank- and spurred the growth of shadow banking,5 tighter regula- ing activities could be used to circumvent the tighter tions or restrictions imposed on regulated banking institu- regulations imposed on banking institutions. Provided tions to address monetary and financial stability concerns in that shadow banks are not subject to a similar set of regu- some EMDEs increased the cost of bank intermediation and lations and oversight, the tightening of the regulation of played a role in the growth of (unregulated) shadow lending risky banking activities could push such activities from (for example, China, Bulgaria, Croatia, and Romania). the regulated banking system toward less- or unregulated Comparing the nature of shadow banking in EMDEs to shadow banks, and could even generate systemically im- those in more advanced countries suggests that the nature of portant nonbank financial institutions. Effectiveness of the challenges posed is somewhat different. In EMDEs, the regulation to reduce systemic risk and leverage is hence shadow banking sector is relatively simple, given the level of undermined by the shadow banking system, leaving risks sophistication of financial markets and instruments, and is intact (or even greater) in the broader financial system, less about long, complex, opaque chains of intermediation and 3 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise more about being weakly regulated or falling outside the regu- often not captured on their balance sheet. However, since latory sphere altogether. The sector is typically no more than then, new products appear to have emerged to avoid disclo- 39 percent of the total financial system in the sample coun- sure on this broader metric, with many banks turning their tries, and is made up of a range of institutions that focus on loans into financial products through trust companies, which provision of alternative sources of financing to the economy then invest them in sectors with high returns, but also with (such as leasing and factoring companies, credit unions, coop- high risk. erative banks, microfinance companies, and pawn shops). Shadow lending in China takes place through a wide The challenge posed by these entities is that they are ei- range of entities, all of which are difficult to track down. The ther not regulated or are subject to fragmented oversight (due, entities range from trust companies to pawn shops, microfi- for example, to being part of a large conglomerate owned by nance companies, credit and leasing guarantee companies, foreign banking groups or to being supervised by separate en- and individual money lenders. The main forms of shadow tities that may not cooperate effectively). In some countries, lending consist of informal lending as well as underground such institutions may also be subject to less strict regulation intermediation, entrusted loans, trust loans (wealth manage- and may hold unique privileges. In addition to introducing ment), and bank acceptance bills (Barclays Capital 2011; IIF unlevel playing field considerations compared to the tightly 2012; South China Morning Post 2012). regulated banking system, such regulatory gaps may mean While subject to significant difficulties of measurement, that as the importance of the sector grows over time, an im- the size of the Chinese shadow banking system is estimated to portant part of the financial sector may remain out of the sys- have reached worrisome proportions since last year. Off-bal- temic risk radar and could hence contribute to growing sys- ance sheet and underground lending is estimated to have temic risks, considering the ownership and activity linkages more than tripled by end-2010, from RMB 3 trillion in 2007, that keep banks and nonbanks connected. China’s shadow compared to an 84 percent increase (to RMB 50.7 trillion) in banking sector, which has received considerable attention re- recorded bank lending over the same period, and only part of cently, helps demonstrate such risks. such lending is covered in official statistics. Anecdotal infor- mation suggests that the share of nonbank loans may have in- Shadow Banking in China creased from 8.7 percent of the total loans in 2002 to as much The shadow banking sector in China is defined more broadly as 79.7 percent in 2010. The system has grown further since as lending outside the banking system, and does not necessar- the beginning of 2011, when the state tightened control of ily involve leverage and maturity transformation. The rapid credit, resulting in underground financing filling the gap. growth of such lending activities led the People’s Bank of Some private sector estimates put the size of shadow financ- China (PBOC) to introduce the concept of “total social fi- ing as ranging from RMB 8.5 trillion (or US$1.33 trillion) to nancing� in early 2011, specifically to track loans, entrusted RMB 10 trillion, with an estimated annual fund flow of RMB loans, and other bank-intermediated credit products that are 2 trillion (5 percent of GDP; Monan 2011).6 Figure 1. Evolution of the Shadow Banking Sector in Selected EMDEs 45 assets in % of total �nancial sector assets shadow banking, 2010 40 45 shadow banking evolution 40 �nancial sector assets 35 percent, share in total 30 35 30 Indonesia 25 China 20 25 Philippines 15 20 Thailand Bulgaria 10 15 Croatia 5 10 Romania 0 5 0 nd s a sia ia ia tia ne in ar an oa la ne Ch pi lg m ai Cr do ilip Bu 09 10 11 03 04 05 06 07 08 Th Ro In Ph 20 20 20 20 20 20 20 20 20 Source: Authors’ illustration from data drawn from FSAPs and central bank and other regulatory agency reports. Notes: Data on total financial sector in the Philippines do not include pension funds. Data on total financial sector of Thailand include private pension funds but not public pension funds. Due to lack of available data, asset data for four Thailand financial institutions in some years in 2003–5 were estimated based on the average growth of the other specialized financial institutions that provided data. Similarly, due to lack of available data, asset data for specialized vehicles in Romania for 2010 were estimated based on the average growth of the system. For China, there is significant informal private lending and underground intermediation, which cannot be captured in the formal statistics reported above. 4 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise What are the key concerns? an emergence of potential social and political tensions. There are growing concerns that shadow banking, because it There is also a concern that shadow banking is weakening is outside state supervision, challenges the stability of China’s macroeconomic management, rendering monetary poli- financial system: cy (still largely conducted through qualitative control) • Direct linkages with banks. Banks are involved with ineffective. shadow banking entities and products, primarily through The Chinese authorities have been acknowledging the the letters of credit they issue and the role they play in danger of rising risks in the shadow banking system, and have entrusted loans. Banks have also used off-balance sheet undertaken some measures to address the risks it poses. wealth management products to attract deposits—short- • Monitoring and indirect regulation. The authorities an- term products to savers that pay high interest rates but nounced plans to establish a monitoring system for pri- allow the banks to bring the deposits back on their bal- vate lending and cracked down on banks by requiring ance sheets at the end of each month to meet their regu- them to include in their reserve requirement ratios let- latory requirements. The media reported that commer- ters of credit and deposits for bank acceptance bills (a cial lenders issued RMB 8.5 trillion in wealth commonly used trade financing tool). At the same time, management products in the first half of 2011, com- state officials maintain the legitimacy of private lending pared to RMB 7.0 trillion for the whole of 2010. Prob- as an integral source of capital for small- and medium- lems in the shadow banking system would hence affect sized enterprises (SMEs), arguing that “Government de- banks directly through these links. As discussed later in partments will perfect relevant rules and laws to guide this note, this area has been the focus of recent regulatory the activities of private lending and build multi-level action. credit markets� (Tse 2011). • Indirect linkages with banks. Isolated cases of defaults • Shadow banking related to bank–trust cooperation. could trigger widespread redemptions, though potential Measures include: (i) limiting trust loans extended in defaults should not directly add to nonperforming loans bank–trust cooperation to less than 30 percent of total (NPLs) of commercial banks. However, it is possible that bank–trust businesses; (ii) requiring banks to move back second-round effects of borrowers’ problems might lead off-balance sheet assets related to trust bank cooperation to more serious problems for banks. Property developers by end-2011; (iii) requiring that large banks set aside risk- borrow significantly from banks, accounting for about 8 weighted capital of 11.5 percent for trust loans extended percent of total bank credit; should property developers in bank–trust cooperation that are not included in face redemptions from investors, their ability to repay banks’ balance sheets and that small banks set aside 10.5 bank loans could be seriously affected. Nonetheless, percent; (iv) requiring trust companies to set aside risk- since the investors in wealth management products are weighted capital of 10.5 percent of capital for trust loans private individuals (as opposed to other financial institu- extended that are not included in bank balance sheets; tions), the intermediation chain is shorter and difficul- and (v) forbidding trust companies to distribute divi- ties may not result in the vicious cycle of falling asset dends if the trust compensation reserve is less than 150 prices, deteriorating balance sheets, and forced sell-off of percent of their NPLs, or less than 2.5 percent of the assets seen in advanced economies following the sub- trust loans extended in the bank trust cooperation (Bar- prime crisis. clays Capital 2011). • Exposure to market, credit, and maturity/liquidity risk • Formalizing shadow banks. The government estab- by trust companies. The key risks seen with trust financ- lished an experimental financial reform zone in Wen- ing is the dependence on underlying asset prices, which zhou in March 2012, paving the way to convert under- are subject to potential correction and the often risky ground small loan companies into local banks servicing pricing behavior undertaken to attract investment. The SMEs. bulk of trust financing is directed toward infrastructure The measures undertaken by the Chinese authorities projects (32 percent), followed by industrial and com- are important steps to address the growing size of the shadow mercial projects (18 percent) and real estate (16 percent; banking sector and the risks it poses to the financial system. KPMG 2012). A sharp slowdown in the economy and/or Given the direct and indirect linkages with banks and the decline in asset prices could lead to an increase in de- susceptibility of shadow banks to market and credit risks, faults. Their leveraged positions and typically shorter- monitoring and regulating the sector and their linkages with term liabilities than assets also subject trust companies to banks and formalizing private lenders to bring them under maturity and liquidity risks. the regulatory umbrella should help reduce the risks. At the • Other concerns. The rapid rise in underground lending same time, to a significant extent, the rapid rise of the shad- and associated high borrowing rates raise concerns about ow banking sector has been in response to the incentives cre- 5 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise ated by the tight controls over bank lending, and on deposit out generating additional systemic risks. Recommendations and lending rates. Shadow banking entities have provided al- include: ternative means for borrowers to obtain funds and for savers • Policy makers need to deepen their understanding and to get better returns to their savings. A lasting solution to the strengthen the oversight of the shadow banking system rapid rise in shadow banking therefore will also require ad- in their countries from both stability and development dressing some of the root causes that give rise to such regula- perspectives by collecting regular data and information tory arbitrage. and reporting them in financial stability reports. • Regulatory and supervisory agencies of banking and non- Conclusions banking institutions need to cooperate closely and moni- Although at present the size of the shadow banking sector is tor possible channels through which banks and non- relatively small in most EMDEs, it has grown sizably, reach- banks may interact to limit the risk of regulatory arbitrage ing a not insignificant share of the economy and the finan- and capture risks that could be moving toward the shad- cial system in some countries. Shadow banking in EMDEs ows. The authorities also need to address the root causes poses risks to financial stability; direct or indirect links be- of such regulatory arbitrage, including the incentives cre- tween formal banks and shadow banks can generate or add ated by tighter controls over bank activities that are not to systemic risk. Segments of the shadow banking sector in applied to shadow banks. EMDEs are either not regulated or are subject to weak or • EMDEs need to expand their capital markets to provide fragmented oversight, with the regulatory arbitrage across alternative but safe sources of funding to households, sectors undermining the effectiveness of tighter prudential firms and corporations, and, subject to appropriate pru- regulations on the banking system. Moreover, shadow bank dential rules, deepen financial markets that could facili- activities subject them to credit, market and liquidity risks, tate risk management and reduce excessive reliance on and could add to systemic risk directly as the importance of the banking system. the sector in total financial system grows, and indirectly Acknowledgment through their interconnectedness with the regulated bank- ing system. The authors are grateful for helpful comments and sugges- Given the potential risks the shadow banking system tions from Erik Feyen, Tunc Uyanik, Claire McGuire, Hao- poses for financial stability, the FSB has been considering cong Ren and Otaviano Canuto, and contributions from ways to address shadow banking activities and entities. It has Rui Han. been focusing on: (i) indirect regulation, by regulating the About the Authors links between the shadow banking activities and the regulat- ed banking system; (ii) extending or revising the existing regu- Swati Ghosh is Economic Adviser in the World Bank’s Poverty lation to shadow banks; and (iii) adopting new regulations Reduction and Economic Management Network. İnci Ötker-Robe specifically designed for shadow banking activities and enti- is Chief Technical Specialist in the World Bank’s Financial and ties. Moreover, the FSB has emphasized the need to keep the Private Sector Development Network and Deputy Director for the system “under permanent surveillance, since new risks and 2014 World Development Report. Ines Gonzalez del Mazo is new interconnections are created in the global economy� Junior Professional Associate in the World Bank’s Financial and (Turner 2012), as financial institutions adjust to a changing Private Sector Development Network. regulatory and economic environment. Notes At the same time, shadow banks play an important role in channeling alternative funding sources to the EMDEs, 1. This broad definition adopted by FSB excludes pure equity especially as the significant deleveraging pressure from Eu- trading and foreign currency transactions by entities outside ropean banks continues. Some nonbank sources of financ- the regular banking system, unless they constitute part of a ing have indeed started to support the credit needs of the credit intermediation chain, while including trading of cred- global economy, at least for some categories of loans (Feyen, it-related financial instruments, such as bonds and structured Kibuuka, and Ötker-Robe 2012), starting to fill the gap cre- products. ated by European bank retrenchment. This means that the 2. In contrast to the traditional banking system, where credit EMDE policy makers need to manage these trade-offs care- intermediation is performed “under one roof,� intermedia- fully and follow closely the ongoing global efforts to gener- tion is performed through a chain of nonbank financial inter- ate proposals by end-2012 to regulate the shadow banking mediaries in a multistep process in the shadow banking sys- system. This is crucial for EMDEs, as much as for advanced tem (Pozsar and others 2010): “These steps entail the countries, to ensure that shadow banks help provide alter- “vertical slicing� of traditional banks’ credit intermediation native but safe sources of funding to the private sector, with- process and include (1) loan origination, (2) loan warehous- 6 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise ing, (3) asset backed securities (ABS) issuance, (4) ABS ware- References housing, (5) ABS convertible debt obligations issuance, (6) Barclays Capital. 2011. “China: Is Shadow Banking Another Sub- ABS “intermediation� and (7) wholesale funding. The shad- prime Debt?� Emerging Markets Research, London, October. ow banking system performs these steps of shadow credit in- Comotto, R. 2012. “Shadow Banking and Repo.� ICMA European termediation in a strict, sequential order with each step per- Repo Council, Zurich, March 20. formed by a specific type of shadow bank and through a EC (European Commission). 2012. “Shadow Banking.� Green Paper, Brussels, March 19. specific funding technique.� Feyen, E., K. Kibuuka, I. Ötker-Robe. 2012. “Bank Deleveraging: 3. Although both repo and securities lending transactions re- Causes, Channels, and Consequences for Emerging Market and sult in collateralized lending, they differ in their motivation. Developing Countries.� World Bank Policy Research Working Repo trades are generally executed to raise cash. Securities Paper No. 6086, Washington, DC. lending programs are often conducted by custodian banks FSB (Financial Stability Board). 2011a. “Shadow Banking: Scop- acting as agents on behalf of beneficial owners (including as- ing the Issues.� Background Note, Basel, Switzerland, April 12, http://www.financialstabilityboard.org/publications/ set managers, pension funds, and insurance companies). r_110412a.pdf. Prime brokers use securities lending programs to help meet ———. 2011b. “Shadow Banking: Strengthening Oversight and Regu- customer buy orders, finance short sales, and hedge derivative lation: Recommendations of the FSB.� Basel, October 27. exposures. IIF (Institute of International Finance). 2012. “Shadow Banking: A 4. When cash lent on repo trades is lower than the market Forward-Looking Framework for Effective Policy.� June, http:// value of the collateral security, the applicable discount is re- workgroup.worldbank.org/fpd/home/FSWatch/Documents/ IIF_Shadow%20Banking.pdf. ferred to as a haircut. There is no haircut when government IMF (International Monetary Fund), and the World Bank. “Finan- bonds are used as collateral security. In securities lending, the cial Sector Stability Assessments.� For selected countries (vari- market value of the collateral that is posted has to be higher ous issues from 2006–12). than the value of the securities, and this overcollateralization KPMG. 2012. “Mainland China Trust Survey 2012.� KPMG. is referred to as the margin. com/cn. Monan, Zhang. 2011. “China’s Shadow Banking System Poses 5. For example, money market mutual funds grew in response Grave Risks.� Third World Resurgence 254 (October): 4–5. to interest rate ceilings on commercial bank deposits, provid- Pozsar, Z., T. Adrian, A. Ashcraft, and Hayley Boesky. 2010. Shadow ing savers an alternative to commercial bank deposits. Banking. Federal Reserve Bank of New York Staff Reports No. 6. Official estimates provide a lower, though still significant, 458 (rev. 2012). range. The PBOC estimates the size of shadow lending to be Pozsar, Z. 2011. “Institutional Cash Pools and the Triffin Dilemma at least 20 percent of China’s total outstanding loans, or RMB of the U.S. Banking System.� IMF Working Paper 11/190, Washington, DC. 3.4 trillion (US$531 billion). The FSAP last year identified Singh, M., and J. Aitken. 2010. “The (Sizable) Role of Rehypotheca- shadow banking as one of the key risks in China’s increasingly tion in the Shadow Banking System.� IMF Working Paper, No. complex regulatory system. The FSAP estimated the total as- 10/172 (July), Washington, DC. sets of the nonbank financial system (including insurance South China Morning Post. 2012. “Wenzhou Is One Step Forward, companies, pensions funds, securities firms, fund manage- with Many More to Go in Finance Reform.� April 12. ment and futures companies, finance companies of enterprise Tse, Cindy. 2011. “Shadow Banking Poses Hidden Risks to China’s Financial Sector.� China News Briefing, December 1. groups, trust and finance leasing companies, lending and auto Turner, A. 2012. “Shadow Banking and Financial Instability: financing companies, and money brokerage firms) at 12.3 Lord Turner Speech to the CASS Business School.� FSA/ percent of the total financial system assets (33 percent of PN/027/2012, March 14, http://www.fsa.gov.uk/library/com- GDP) in 2010. munication/pr/2012/027.shtml. The Economic Premise note series is intended to summarize good practices and key policy findings on topics related to economic policy. They are produced by the Poverty Reduction and Economic Management (PREM) Network Vice-Presidency of the World Bank. The views expressed here are those of the authors and do not necessarily reflect those of the World Bank. The notes are available at: www.worldbank.org/economicpremise. 7 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise