OFR's Berner on Shadow Banking
The Treasury Department's Office of Financial Research Director Richard Berner gave a keynote speech last week entitled, "The Financial Industry in a Post-Crisis World Symposium." Berner spoke extensively about understanding and mitigating the risks in shadow banking. "To date, our focus has been on the risks and vulnerabilities associated with short-term wholesale funding markets, including repo and other securities financing transactions. The [financial] crisis clearly exposed key sources of contagion in wholesale funding markets, including investor runs and associated fire sales of assets. At the OFR, we've concentrated on filling gaps in three areas. First, we're working to implement and expand the funding map recommended by our advisory committee to understand vulnerabilities across the financial system. We use the map to trace (and to simulate) the paths of risk and the durability of funding through specific financial institutions during crises. We also use it to identify gaps in data needed for financial stability monitoring. Second, while much attention and research has focused on the demand for, or uses of, short-term funding, our research also includes investigating the supply or sources of those funds, especially the factors that drive preferences and portfolio allocations from money and other managed funds and institutional cash pools. Third, we seek to fill the major gaps in U.S. repo data, particularly bilateral repo, and in data on securities lending." He added, "Filling these data gaps is critical to understanding the size and leverage implicit in wholesale funding activity across the financial system, and thus in assessing the risks. In addition, more complete data on securities financing transactions should facilitate analysis of policy tools, such as minimum haircuts, that are aimed at reducing excessive reliance on short-term wholesale funding and the procyclicality it often promotes under stress. Such tools are conceptually appealing, but we need more work to evaluate them." Regarding money market funds, Berner said, "I noted earlier that the focus on the sources of short-term wholesale funding inevitably turns to money market funds. As you know, the Securities and Exchange Commission made important changes to the regulation of money market funds in 2010, and is now considering further options. As the Financial Stability Oversight Council noted in its 2014 Annual Report, however, any changes in money market fund regulation should be matched by similar regulatory changes for funds that perform similar functions under other legal frameworks. That is because other sources of short-term wholesale funding are important and growing, and may also pose risks through liquidity transformation."
