2 3  FSB Assessment of Shadow Banking 2017 Mark Carney letter to G20 leaders, 3 July 2017 3  All speeches are available online at www.bankofengland.co.uk/speeches  3  As a number of commentators have observed the recovery in the US was faster than in other countries, despite the damage to the banking system, in part because the market-based channel was less affected and able to continue to provide finance to the economy. 4  The banking systems in many of the crisis-affected countries have begun to lend again. But in the five years following the crisis, virtually all of the increase in lending to the private non-financial sector in advanced economies came through market-based finance. 5  The benefits however are not just diversification of the channels of financial intermediation. There is also the benefit of diversity for individual investors. And of course, market-based finance enables investors to invest in equity, which in financial stability terms is the most effective way to share risk. Market-based finance, generally speaking, is more able to share risk and pass losses back to investors than the banking system. Investment funds do not carry the same solvency risks as banks as investors are entitled only to the market value of their investments. In a crisis, the valuation of the assets and of the liabilities of investment funds broadly move in the same direction, whereas for banks assets can go down in value while the liabilities remain fixed. That is not completely true of course.
These factors combined have resulted in a large increase in the different measures of inflation, bringing CPI and CPIX1 (a measure of core inflation that excludes perishable foods, energy and regulated tariffs) annual change close to 4%. By contrast, labor cost pressures and other inflation trend indicators are nearer to 3%. Similar problems (i.e., increased inflation due to sudden rises in food prices) have been recently suffered in such diverse countries as South Africa, Brazil, Colombia and China. It is interesting to note that a price measure that excludes foods and energy prices, similar to the CPI core inflation calculation applied by the US, shows annual change below 2% in July (Figure 2). 2  BIS Review 97/2007  Figure 2: CPI, CPIX1 and CPI inflation excluding food and energy (annual change, percent)  Note: In brackets participation in total CPI basket. Sources: Central Bank of Chile and National Statistics Bureau. This phenomenon is not new. Given the supply-side or specific price shocks, the 2000s have seen annual inflation drop below 2% and climb above 4% during temporary episodes. In this picture of higher CPI inflation due to various supply shocks, short-term inflation expectations have increased substantially, but remain close to 3% for medium and long term. Because monetary policy affects inflation with lags that are largely unknown, but long – usually more than a year – not much can be done to reverse a short-term inflation jump.