Market forces proved inadequate to manage these swings between confidence and despair. Today, despite the fact that shadow banking, or as we prefer to call it, market-based financing (MBF), is at least as large as the regulated sector in most jurisdictions, it is often unregulated and/or overseen by authorities without a systemic focus. This should change.
As it does, regulation and supervision must strike a balance between mitigating systemic risks and realizing the benefits from financial deepening. Properly structured, shadow banking can increase efficiency, provide diversification, and spur competition and innovation.