What I suggest on this front is:   There should be greater market transparency, perhaps ideally via a Trade Repository with open access to aggregate data, so that the world can see what is happening in these very important but opaque financing markets. (That would be helpful for market participants themselves).   Financial firms and funds should not be able to lend against securities that they are not permitted or proficient enough to hold outright.   Non-bank financial firms should be regulated in how they employ cash collateral.   The authorities should be able to step in and set minimum haircut or margin levels for the collateralised financing markets (or segments of them). (That would need to be pursued at international level.3 It might be linked to central bank haircuts). Some of those points are aired in the FSB’s report on securities lending and repos published today4 and will, I hope, be explored intensively in the coming months. I will expand slightly on the last point in my list. The amount of leverage available in the system depends, of course, to a significant degree on the haircuts applied in chains of secured financing transactions; leverage is the reciprocal of the haircuts. The resilience of the system is therefore impaired when a bout of exuberance drives down haircuts. The authorities need to be ready to place constraints on that – through minima that either apply continuously or are specially introduced when conditions are overheating.
There is already an official exercise underway to frame the determination of minimum margin levels in the parts of the derivatives market that will not be centrally cleared. At some point down the road, this will need to be brought into a coherent framework with any measures on the collateralised-financing market. Doing so would require deciding whether to apply the same or different approaches to the inter-dealer market and dealer-customer transactions. Conclusion: innovation, evolution and surveillance Those are just a few thoughts for debate, based on some current manifestations of shadow banking. I have not even covered the existing waterfront. For example, we need policies on those levered credit funds that offer near-instant withdrawal rights. In the EU distinctions need to be made within the Alternative Investment Fund Managers Directive and UCITs regime, which allows risky structures to be branded as retail products. But it would be foolhardy to imagine that we can frame policies today that will stand the test of time. The financial system will evolve, and we need to permit innovation. A policy framework on shadow banking therefore needs to be adaptive. And it mustn’t try to shut  3  See Committee on the Global Financial System, “The role of margin requirements and haircuts in procyclicality”, March 2010. 4  See “Securities lending and Repo: Market Overview and Financial Stability Issues”, and interim report of an FSB group chaired by my colleague David Rule. BIS central bankers’ speeches  5  everything down.