From shadow banking to resilient market-based finance

Since the outbreak of the 2007-08 financial crisis, international and national regulatory authorities focused their attention on what has been originally called “shadow banking” i.e., entities and activities performing bank-like functions outside the regular banking system. Since 2011, the Financial Stability Board (FSB) has developed a monitoring framework aimed at strengthening the supervision and the regulation of shadow banking, and at transforming shadow banking into a resilient market-based finance. In 2018 the term shadow banking was simply replaced by non-bank financial intermediation (NBFI) to emphasize the forward-looking approach of the FSB to enhance the resilience of NBFI and establish the use of a common terminology. The goal of this paper is to shed light on the economics of shadow banking, its underlying entities, activities, and instruments, and examine how they are embedded within the current supervisory framework. Our goal is achieved following a two-steps approach: 1) provide an overview of the main contributions on shadow banking, highlighting its key features and driving forces, 2) describe the monitoring framework developed by the FSB that gradually led shadow banking towards a resilient form of market-based finance, and analyze data on activities and entities belonging to NBFI. An appropriate supervision and regulation of NBFI allows the economy to enjoy the benefits of financial innovation while avoiding financial turmoil.