Hostname: page-component-586b7cd67f-dlnhk Total loading time: 0 Render date: 2024-11-30T21:05:24.942Z Has data issue: false hasContentIssue false
  • English
  • Français

Shadow Banking in Europe: Idiosyncrasies and their Implications for Regulation

Published online by Cambridge University Press:  21 October 2019

Hossein NABILOU Open the ORCID record for Hossein NABILOU [Opens in a new window]  and
André PRÜM
Get access Rights & Permissions [Opens in a new window]

Abstract

This paper studies the specificities of shadow banking in Europe. It highlights striking differences between the EU and the US shadow banking sectors based on both market structure and legal micro-infrastructure of the shadow banking sectors in these two jurisdictions. It argues that these different institutional and legal infrastructures, as well as the different trajectories in the evolution of the shadow banking sectors in terms of business models, size and composition of actors and transactions, can be the driving force behind the differential regulatory treatment of shadow banking across the Atlantic. In highlighting such differences, this paper focuses on repo transactions, as the main instruments that play a significant role in credit intermediation outside the regulatory perimeter of the banking system. It then discusses money market funds and highlights differences in their structure, functioning, and their existing regulatory treatment. The paper concludes that the market structure, business models, and legacy legal and regulatory frameworks of shadow banking display substantial differences across the Atlantic. The findings in this paper rally against one-size-fits-all approaches to addressing the problems of the shadow banking system worldwide and recommends differentiated and more nuanced regulatory approaches to regulating shadow banking across the Atlantic.

Type
Articles
Information
European Journal of Risk Regulation , Volume 10 , Issue 4: Symposium on European Union Governance of Health Crisis and Disaster Management , December 2019 , pp. 781 - 810
Copyright
© Cambridge University Press 2019

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

Footnotes

*

Postdoctoral researcher in Banking and Financial Law, University of Luxembourg, Faculty of Law, Economics and Finance. Research Associate at the University College London, UCL Centre for Blockchain Technologies (UCL CBT), and the Amsterdam Center for Law and Economics (ACLE), University of Amsterdam Law School. email: [email protected].

**

Professor of law, Chair in Banking, Financial and Business Law; University of Luxembourg; Faculty of Law, Economics and Finance; email: [email protected].

The authors are grateful to Michael Grill of the European Central Bank (ECB) for his insights and helpful comments, and participants of the European Banking Institute Global Annual Conference on Banking Regulation (23 and 24 February 2018) held in Frankfurt.

References

1 Gorton, GB, Slapped by the Invisible Hand: The Panic of 2007 (Oxford University Press 2010).Google Scholar

2 See, for example, C Duclos and R Morhs, Analysis on the Shadow Banking Content of Captive Financial Companies in Luxembourg (2017). The definition of shadow banking is of special significance because if not properly defined, it can create a whole host of problems in the collection of data on shadow banking. For example, there are huge discrepancies in the available data on shadow banking, the majority of which have their roots in the different approaches taken to define shadow banking.

3 For different approaches to the definition of shadow banking see H Nabilou and A Pacces, “The Law and Economics of Shadow Banking” in IH Chiu and IG MacNeil (eds), Research Handbook on Shadow Banking: Legal and Regulatory Aspects (Edward Elgar 2018); International Monetary Fund, Global Financial Stability Report: Risk Taking, Liquidity, and Shadow Banking: Curbing Excess While Promoting Growth (October 2014).

4 E Wymeersch, “Shadow Banking and Systemic Risk” (2017) 1 European Banking Institute Working Paper Series.

5 VV Acharya et al, “Securitization without risk transfer” (2013) 107 Journal of Financial Economics 515.

6 See, for example, FSB, Shadow Banking: Scoping the Issues, A Background Note of the Financial Stability Board (2011) p 4.

7 VV Acharya et al, “The growth of a shadow banking system in emerging markets: Evidence from India” (2013) 39 Journal of International Money and Finance 207. See also S Ghosh et al, “Chasing the shadows: How significant is shadow banking in emerging markets?” (2012) The World Bank – Economic Premise 1.

8 The differential transatlantic trajectories taken by the shadow banking sector is not only due to the differences in the legal systems and financial regulation, but also due to economic reasons (eg supply and demand for shadow-banking products and services due to local specificities, and different needs of consumers). However, this paper is to highlight the difference in the shadow banking in the EU and the US based on the legal infrastructure and regulatory treatment of the institutions and instruments that are generally perceived to belong to shadow banking entities or instruments.

9 See FBS, Shadow Banking: Strengthening Oversight and Regulation – Recommedations of the Financial Stability Board (2011). See also FSB, Strengthening Oversight and Regulation of Shadow Banking: Policy Framework for Strengthening Oversight and Regulation of Shadow Banking Entities (2013).

10 The FSB’s work on addressing the risks of the asset management industry is particularly focused on addressing the mismatch between the liquidity of a fund’s investments and redemption terms for funds. It is further concerned with the leverage within the investment fund industry, operational risks associated with transferring investment mandates in stressed conditions, and securities lending activities of asset managers and funds. See ECB, Financial Stability Review (May 2016) p 106.

11 See FSB (2011), supra, note 9. See also FSB (2013), supra, note 9.

12 RH Huang, “Shadow Banking and Its Regulation: The Case of China” in RP Buckley et al (eds), Reconceptualising Global Finance and Its Regulation (Cambridge University Press 2016) p 348. It appears that China is not unique in its shadow banking being different from the rest of the Western economies. In neighbouring India, it is also found that – unlike western economies, where the growth of the shadow banking sector is driven by a desire to mitigate counterparty risks by providing “safe” collateral for financial transactions, or for the purposes of regulatory arbitrage – the shadow banking sector is a substitute for direct lending by banks in non-urban India. See Acharya et al, supra, note 7; Acharya et al, supra, note 5 (they find that securitisation vehicles are mainly motivated by and used for regulatory arbitrage). See also Y Tang, “Shadow Banking or ‘Bank’s Shadow’: Reconceptualising Global Shadow Banking Regulation” in Buckley et al, above, p 329; W Blair, “Reconceptualizing the Role of Standards in Supporting Financial Regulation” in Buckley et al, above, p 445.

13 IOSCO, Policy Recommendations for Money Market Funds (October 2012).

14 FSB, Strengthening Oversight and Regulation of Shadow Banking: An Integrated Overview of Policy Recommendations (18 November 2012).

15 FSB (2011), supra, note 9.

16 See, for example, P Willen, “Mandated Risk Retention in Mortgage Securitization: An Economist’s View” (2014) 104 American Economic Review 82.

17 A word of caution is in order at the very outset. In comparing the shadow banking in the EU and the US, one should bear in mind that the EU is not composed of homogenous financial markets and intuitions. Instead, there are a large variety of heterogeneous institutions in various jurisdictions; some with close similarities to the US markets, some a far cry from it. For example, the European Banking Authority (EBA) (2014) and ESRB 2016 reports suggest that there is a wide variety of treatment of non-bank financial institutions across EU Member States. See EBA, Report to the European Commission on the perimeter of credit institutions established in the Member States (27 November 2014). This adds to the complexity of comparing the shadow banking sector in these two jurisdictions and provides a compelling argument for a differential regulatory treatment of shadow banking in the EU compared to the US.

18 R Levine, “Bank-Based or Market-Based Financial Systems: Which Is Better?” (2002) 11 Journal of Financial Intermediation 398. See also European Commission, Economic Analysis Accompanying the document Communication from the Commission to the European Parliament, the Council, the European Economic and Social Committee and the Committee of the Regions Action Plan on Building a Capital Markets Union (European Commission 2015) p 18.

19 Levine, supra, note 18.

20 A Saunders and I Walter, Universal Banking in the United States: What could we gain? What could we lose? (Oxford University Press 1994); H Nabilou, “Can the Plight of the European Banking Structural Reforms be a Blessing in Disguise?” (2019) SSRN Working Paper Series.

21 European Commission, Economic Analysis Accompanying the document Communication from the Commission to the European Parliament, the Council, the European Economic and Social Committee and the Committee of the Regions Action Plan on Building a Capital Markets Union. The difference between bank-based and market-based financial systems even shapes the mechanisms of central bank interventions in financial markets in the recent financial crisis (quantitative easing). See BW Fawley and CJ Neely, “Four stories of quantitative easing” (2013) 95 Federal Reserve Bank of St Louis Review 51.

22 See Communication from the Commission to the European Parliament, the Council, and the European Economic and Social Committee and the Committee of the Regions Action Plan on Building a Capital Markets Union, COM/2015/0468 final.

23 In addition to the regulatory efforts to encourage market-based finance, shadow banking owes its growth to market forces, financial innovation, and technological developments. For an overview, see A Prüm, In the Shadow of the Banks (Thomson Reuters 2014) p 15.

24 For example, in FSB’s view, the shadow banking system is a system of credit intermediation involving activities and institutions outside the traditional banking system. See FSB, Progress in the Implementation of the G20 Recommendations for Strengthening Financial Stability: Report of the Financial Stability Board to G20 Finance Ministers and Central Bank Governors (2011).

25 For how and why dealers are considered as part of the shadow banking system, see Z Pozsar, “Shadow Banking: The Money View” (2014) Office of Financial Research Working Paper. See also D Duffie, “The Failure Mechanics of Dealer Banks” (2010) 24(1) Journal of Economic Perspectives 51.

26 E Bengtsson, “Shadow banking and financial stability: European money market funds in the global financial crisis” (2013) 32 Journal of International Money and Finance 579.

27 10% of the asset management companies in the Euro area are owned by insurance companies. See N Doyle et al, “Shadow Banking in the Euro Area: Risks and Vulnerabilities in the Investment Fund Sector” (June 2016) ECB Occasional Paper Series 21.

28 JE Fisch, “The broken buck stops here: Embracing sponsor support in money market fund reform” (2014) 93 North Carolina Law Review 935 at 944.

29 European Commission, New Rules for Money Market Funds proposed – Frequently Asked Questions (4 September 2013).

30 M Kacperczyk and P Schnabl, “How Safe Are Money Market Funds?” (2013) 128 The Quarterly Journal of Economics 1073. For the concept of step-in risk and the approach that the BCBS has proposed to take on capital treatment of step-in risk, see BCBS, Identification and management of step-in risk – second consultative document (2017).

31 In securities lending, the lender passes the legal title of securities to the borrower for the life of the loan. When securities are returned to the lender, the lender again regains title to the loan. During the lending period, even though the lender does not have legal title to the securities lent, the economic benefits of corporate actions (stock splits, income and dividends) will accrue to the lender. However, in case of equity securities, the lender will not retain voting rights of the securities it has lent for the duration of the term of the loan.

32 Such difference also exists in trading venues, on which standardised derivatives must be traded, and clearing houses and central securities depositories through which those transactions must be cleared and settled. However, this is beyond the scope of this paper.

33 Wymeersch, supra, note 4.

34 The data on collateral flows show that at the beginning of 2013, the gross collateral flows (collateral posted and received) though repos amounted to €5.8 trillion, whereas collateral flows through derivatives stood at €340 billion. The total gross collateral flows stood at €8.5 trillion. See Table 2 of Keller et al “Securities financing transactions and the (re)use of collateral in Europe” (2014) Occasional Paper Series, No 9, ESRB, September. See ESRB, ESRB opinion to ESMA on securities financing transactions and leverage under Article 29 of the SFTR (2016).

35 ibid.

36 GB Gorton and A Metrick, “Securitized Banking and the Run on Repo” (2012) 104(3) Journal of Financial Economics 425; Gorton, supra, note 1.

37 FSB, Securities Lending and Repos: Market Overview and Financial Stability Issues – Interim Report of the FSB Workstream on Securities Lending and Repos (2012) p 8.

38 For how the government extended support to shadow banking (especially broker dealers) and hence created new sets of government-backed shadow banking systems, see Pozsar, supra, note 25.

39 V Baklanova et al, Reference Guide to US Repo and Securities Lending Markets (Federal Reserve Bank of New York Staff Reports 2015) p 33; The Financial Crisis Inquiry Commission, The financial crisis inquiry report: Final report of the national commission on the causes of the financial and economic crisis in the United States (2011); A Krishnamurthy et al, “Sizing Up Repo” (2014) 69 The Journal of Finance 2381; FSB, supra, note 37.

40 ESRB, supra, note 34.

41 FSB, Global Shadow Banking Monitoring Report 2016 (2017) p 28.

42 ibid.

43 ibid.

44 ibid.

45 Baklanova et al, supra, note 39 (see figure 13).

46 Industry groups have developed two standard forms for master repurchase agreements. The Bond Market Association has published the Master Repurchase Agreement (1996) (the MRA) which is governed by the laws of the State of New York. The Global Master Repurchase Agreement (GMRA) (Version 1995) is published by Public Securities Association (PSA, a predecessor to the Bond Market Association that was the predecessor to Securities Industry and Financial Markets Association (SIFMA)) and the International Securities Market Association (ISMA, now ICMA) and is governed by the laws of England. The first version of GMRA was published in 1992 and since then has undergone several substantial revisions resulting in 1995, 2000, and 2011 versions. In addition, a Master Securities Loan Agreement (MSLA) of SIFMA in the US is used for concluding securities lending transactions.

47 In Europe, there are both “title transfer financial collateral arrangement” and “security financial collateral arrangement” (Directive 2002/47/EC, Art 2), but it seems that the majority of repos are in the form of TTCAs. For a difference between traditional collateralised lending and TTCA, see J Benjamin et al, “The future of securities financing” (2013) 7 Law and Financial Markets Review 4 at p 5.

48 For the subtleties in the difference between the right of use and rehypothecation, see FSB, Transforming Shadow Banking into Resilient Market-based Finance: Regulatory framework for haircuts on non-centrally cleared securities financing transactions (2015).

49 M Singh, “Velocity of pledged collateral: analysis and implications” (2011) IMF Working Paper WP/11/256, p 9.

50 Directive 98/26/EC of the European Parliament and of the Council of 19 May 1998 on settlement finality in payment and securities settlement systems, OJ L 166, 11.6.1998.

51 Directive 2002/47/EC on financial collateral arrangements [2002] OJ L168/43, as amended by Directive 2009/44/EC [2009] OJ L146/37 and Directive 2014/59/EU [2014] OJ L173/190.

52 The maturity of the majority of tri-party repos is overnight. See A Copeland et al, “Key mechanics of the US tri-party repo market” (2012) 18 Federal Reserve Bank of New York Economic Policy Review 17 at p 21. Most of those repos in the US are open (subject to rollover). See VV Acharya and T Sabri Öncü, “A Proposal for the Resolution of Systemically Important Assets and Liabilities: The Case ofthe Repo Market” (2013) 9 International Journal of Central Banking 291 at p 310.

53 Copeland et al, supra, note 52.

54 International Capital Market Association (ICMA), Frequently Asked Questions on Repo (2015). There are also additional fundamental differences between the US and EU tri-party repo markets. See ICMA FAQs, question no 24.

55 Krishnamurthy et al, supra, note 39.

56 ICMA, “European Repo Market Survey: Number 33 – Conducted June 2017” (October 2017); ICMA, “European Repo Market Survey” (March 2018).

57 ICMA, supra, note 54.

58 The longer-term nature of repo markets in the EU might explain why repo constitute a higher proportion of the balance sheet of key market intermediaries in the EU: ibid, Question no 7 (What are the typical maturities of repos?).

59 ibid.

60 FSB, Global Shadow Banking Monitoring Report 2017 (5 March 2018).

61 GB Gorton and A Metrick, “Regulating the Shadow Banking System” (2010) Brookings Papers on Economic Activity 261; Gorton and Metrick, supra, note 36. For a different view, see C Borio and P Disyatat, “Global imbalances and the financial crisis: Link or no link?” (2011) BiS Working Papers No 346; C Borio, “The financial cycle and macroeconomics: What have we learnt?” (2014) 45 Journal of Banking and Finance 182. For the concept of safe assets, see IMF, Global Financial Stability Report: The Quest for Lasting Stability (April 2012) p 81. See also A Gelpern and EF Gerding, “Rethinking the Law in ‘Safe Assets’” in Buckley et al, supra, note 12. Safe assets are described as “a variety of financial claims on public of private sector entities that are used as if they were risk-free”. See ibid. Gorton et al describe safe assets as “information-insensitive” or “immune to adverse selection in trading because agents have no desire to acquire private information about the current health of the issuer”: see G Gorton et al, “The Safe-Asset Share” (2012) 102 The American Economic Review 101.

62 Gorton and Metrick focus on the commercial paper as the collateral used in the US markets, which makes their study irrelevant for EU financial markets; Gorton and Metrick, supra, note 36; Gorton and Metrick, supra, note 61.

63 Shleifer and Krishnamurty suggest that the run only occurred on the repos with ABCP collateral, and not repos backed by government collateral. See A Shleifer, “Comments and Discussions (Regulating the Shadow Banking System by Gary Gorton & Andrew Metrick)” (2010) Brookings Papers on Economic Activity 298; Krishnamurthy et al, supra, note 39.

64 Regulation (EU) 2015/2365 of the European Parliament and of the Council of 25 November 2015 on transparency of securities financing transactions and of reuse and amending Regulation (EU) No 648/2012, OJ L 337, 23.12.2015.

65 Directive 2013/36/EU of the European Parliament and of the Council of 26 June 2013 on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms, amending Directive 2002/87/EC and repealing Directives 2006/48/EC and 2006/49/EC, OJ L 176, 27.6.2013.

66 Regulation (EU) No 575/2013 Of the European Parliament and of The Council of 26 June 2013 on prudential requirements for credit institutions and investment firms and amending Regulation (EU) No 648/2012, OJ L 176, 27.6.2013.

67 H Nabilou, “The EU Framework for Bank Capital Regulation and Repo Collateral” (2017) SSRN Working Paper Series.

68 ICMA, Perspectives from the eye of the storm: The current state and future evolution of the European repo market (ICMA 2015) p 10.

69 ibid. For example, in addition, the calculations for the purpose of meeting the leverage ratio include leverage obtained through repo borrowing.

70 As a result of differentiated implementation of Basel III in different jurisdictions, one might expect that divergence in the trend in the repo markets will be widened. Since in addition to supplementary leverage ratio (SLR) in the US, there will be an enhanced supplementary leverage ratio (eSLR) for Global Systemically Important Banks (GSIBs), it seems that repo markets will be shaped differently across the Atlantic in response to the implementation of Basel III requirements.

71 Major broker dealers in the US are a part of bank holding companies regulated by the Federal Reserve. For the complexities involved in the US bank holding structures, see D Avraham et al, “A structural view of US bank holding companies” (2012) 18 FRBNY Economic Policy Review 65.

72 M Allahrakha et al, “Do Higher Capital Standards Always Reduce Bank Risk? The Impact of the Basel Leverage Ratio on the U.S. Triparty Repo Market” (2016) Office of Financial Research Working Paper.

73 ibid.

74 ibid.

75 ibid.

76 For example, in December 2014, the top three dealers accounted for around 30% of the average daily volume in non- traditional triparty repo, down from nearly 50% in May 2010, when the Federal Reserve started publishing these statistics. See Federal Reserve Bank of New York, Tri-Party/GCF Repo, available at <www.newyorkfed.org/data-and-statistics/data-visualization/tri-party-repo/index.html>. See also Baklanova et al, supra, note 39.

77 ibid.

78 ibid.

79 T Adrian and AB Ashcraft, “Shadow banking regulation” (2012) Federal Reserve Bank of New York Staff Report p 42.

80 It appears that the term rehypothecation would be a confusing term in English law because its commercial use is different from its legal use. The word reuse could be a better and more precise term than rehypothecation. For more details, see D Harris, “Use of customer securities by UK prime brokers: the road ahead” (2013) 7 Law and Financial Markets Review 107. Reuse is sometimes also called repledge. For the difference between rehypothecation and reuse, see M Singh, “Velocity of pledged collateral: analysis and implications” IMF Working Paper 11/256.

81 SL Schwarcz, “Distorting Legal Principles” (2010) 35 Journal of Corporation Law 697 at p 699.

82 CA Johnson, “Derivatives and Rehypothecation Failure: It’s 3:00 pm, Do You Know Where Your Collateral Is?” (1997) 30 Arizona Law Review 949 at p 969.

83 See Pozsar, supra, note 25.

84 Duffie, supra, note 25; Schwarcz, supra, note 81; M Singh and J Aitken, “Deleveraging After Lehman – Evidence from Reduced Rehypothecation” IMF Working Paper 09/42 (showing that the after Lehman bankruptcy there was a significant reduction in rehypothecation by broker dealers). However, this reduced counterparty risk in the system came at the cost of having less liquid markets. Singh also finds that the decline in the source of pledgeable collateral and the subsequent reduction in the liquidity of the markets had an effect on the conduct of monetary policy. See Singh, supra, note 80.

85 Scott shows how hedge funds can face a prospect of becoming unsecured creditors under UK legal treatment of rehypothecated collaterals: see H Scott, “Interconnectedness and Contagion” (2012) p 76. In this context, a run by hedge funds on prime brokers might occur because of the uncertainty about the health of the prime brokerage firm when the prime broker has rehypothecated the collateral. Not knowing where the collateral initially posted by hedge funds to the prime broker is, distressed hedge funds might suddenly run to close their positions with that prime broker by grabbing and selling the collateral. This may cause serious distress to the prime broker.

86 In this case, the counterparty does not know where the collateral is, who the right holder on that collateral is, and in case of default by the borrower, whether she can take the collateral or not. Such uncertainty can panic several right-holders in adverse economic conditions and may generate a run.

87 B Holmström and J Tirole, “Private and Public Supply of Liquidity” (1998) 106 Journal of Political Economy 1.

88 7 USC § 6d.

89 L Dixon et al, Hedge Funds and Systemic Risk (Rand Corporation 2012) pp 77–79.

90 Federal Reserve Regulation T (12 CFR §220) and SEC Rule 15c3-3.

91 M Singh and J Aitken, “The (Sizable) Role of Rehypothecation in the Shadow Banking System” IMF Working Paper 10/172.

92 Directive 2002/47/EC on financial collateral arrangements [2002] OJ L168/43, as amended by Directive 2009/44/EC [2009] OJ L146/37 and Directive 2014/59/EU [2014] OJ L173/190.

93 For the distinction between the title transfer financial collateral arrangement and security financial collateral arrangement, see Directive 2002/47/EC, Art 2(1)(a), (b) and (c).

94 Directive 2002/47/EC Art 6.

95 Directive 2002/47/EC, Art 5.

96 Directive 2002/47/EC, Arts 4 and 7.

97 Directive 2002/47/EC, Art 8.

98 Regulation (EU) 2015/2365 of the European Parliament and of the Council of 25 November 2015 on transparency of securities financing transactions and of reuse and amending Regulation (EU) No 648/2012, OJ L 337, 23.12.2015 (SFTR).

99 For a different view of transparency in the banking sector and how it can be detrimental to the liquidity in debt markets, see B Holmstrom, “Understanding the role of debt in the financial system” (2015) BIS Working Paper No 479.

100 European Commission, Regulation on transparency of securities financing transactions and of reuse: Frequently Asked Questions (29 October 2015).

101 Art 15 of the SFTR.

102 Autorité des Marchés Financiers (AMF), “The reuse of assets: Regulatory and economic issues” (9 November 2016).

103 Singh and Aitken, supra, note 91.

104 Gorton and Metrick, supra, note 36.

105 The Safe Harbour Provisions are embedded in the following provisions: 11 USC (2018) §§ 362 (b)(6), 362(b)(7), 362(b)(17), 546, 556, 559, 560 & 561 (2012). In Europe, such safe harbours are granted in the financial collateral directive: see FCD, Art 8.

106 Directive 2002/47/EC on Financial Collateral Arrangements [2002] OJ L 168/43, as amended by Directive 2009/44/EC [2009] OJ L146/37, Recital 17.

107 See, for example, RM Stulz, “Should We Fear Derivatives?” (2004) 18 The Journal of Economic Perspectives 173 at p 188.

108 Gorton and Metrick (2010), supra, note 61.

109 C Sissoko, “The legal foundations of financial collapse” (2010) 2 Journal of Financial Economic Policy 5. See also SL Schwarcz, “Derivatives and collateral: Balancing remedies and systemic risk” (2015) 2015 University of Illinois Law Review 699.

110 RR Bliss and GG Kaufman, “Derivatives and systemic risk: Netting, collateral, and closeout” (2006) 2 Journal of Financial Stability 55.

111 For why the derivatives contracts should be treated differently on efficiency-based grounds, see FR Edwards and ER Morrison, “Derivatives and the bankruptcy code: Why the special treatment” (2005) 22 Yale Journal on Regulation 91. See also P Paech, “The value of insolvency safe harbours” (2015) LSE Legal Studies Working Paper No 9/2015 (arguing that liquidity is the main value of such bankruptcy safe harbours).

112 Schwarcz, supra, note 109.

113 Duffie, supra, note 25. In addition, this safe harbour also encourages systemically risky market concentration on the conviction that on the default of a counterparty, the dealer would simply seize the collateral, making the dealer pay less attention to the amount of its concentrated exposure to one counterparty. See Schwarcz, supra, note 109.

114 SJ Lubben, “Repeal the Safe Harbors” (2010) 18 American Bankruptcy Institute Law Review 319; SJ Lubben, “Derivatives and bankruptcy: The flawed case for special treatment” (2009) 12 University of Pennsylvania Journal of Business Law 61; SJ Lubben, “The Bankruptcy Code Without Safe Harbors” (2010) 84 American Bankruptcy Law Journal 123; CW Mooney, “The Bankruptcy Code’s Safe Harbors for Settlement Payments and Securities Contracts: When Is Safe Too Safe?” (2014) 49 Texas International Law Journal 245. Antinolfi et al, also find that the bankruptcy safe harbours have contributed to the growth and development of repo markers, but might also have increased the likelihood of fire sales and hence reduced the real investment in the economy. Therefore, bankruptcy policy makers face a trade-off between the reduction of risk to investment activities in the real economy, and better liquidity of repo markets. See G Antinolfi et al, “Repos, fire sales, and bankruptcy policy” (2015) 18 Review of Economic Dynamics 21. See also Sissoko, supra, note 109. However, given the benefits of this safe harbour, it is argued that abolishing them would do more harm than good and it would adversely affect the liquidity of financial markets: see N Goralnik, “Bankruptcy-Proof Finance and the Supply of Liquidity’ (2012) 122 Yale Law Journal 460.

115 Goralnik, supra, note 114.

116 BG Faubus, “Narrowing the Bankruptcy Safe Harbor for Derivatives to Combat Systemic Risk” (2010) 59 Duke Law Journal 801. David Skeel and Thomas Jackson also explore the effects of transaction consistency or “equivalent treatment of similar transactions” in bankruptcy and conclude that imposing transaction consistency on repos would have limited impact. They also have a nuanced approach to removing safe harbours: see DA Skeel and TH Jackson, “Transaction consistency and the new finance in bankruptcy” (2012) 112 Columbia Law Review 152.

117 Goralnik, supra, note 114.

118 See Nabilou and Pacces, supra, note 3.

119 D Duffie and DA Skeel, “A dialogue on the costs and benefits of automatic stays for derivatives and repurchase agreements” (2012) Faculty Scholarship at Penn Law 386.

120 E Perotti, “Systemic liquidity risk and bankruptcy exceptions” (2010) CEPR Policy Insight

121 Acharya and Sabri Öncü, supra, note 52.

122 ibid.

123 P Paech, Shadow Banking: Legal Issues of Collateral Assets and Insolvency Law (European Parliament 2013) p 5. See also Skeel and Jackson, supra, note 116. Although Skeel and Jackson argue that the many of the bankruptcy safe harbours should be eliminated, they argue that there should still be automatic stay safe harbours for repos collateralised by cash-like instruments (cash-like collateral used in repo transactions.): see ibid. Other commentators believe that the safe harbours should be removed even for such instruments. See NJ Michel, “Fixing the Regulatory Framework for Derivatives” (The Heritage Foundation 2016).

124 Directive 2014/59/EU of the European Parliament and of the Council of 15 May 2014 establishing a framework for the recovery and resolution of credit institutions and investment firms and amending Council Directive 82/891/EEC, and Directives 2001/24/EC, 2002/47/EC, 2004/25/EC, 2005/56/EC, 2007/36/EC, 2011/35/EU, 2012/30/EU and 2013/36/EU, and Regulations (EU) No 1093/2010 and (EU) No 648/2012, of the European Parliament and of the Council, OJ L 173, 12.6.2014. (BRRD).

125 Directive 2002/47/EC on Financial Collateral Arrangements [2002] OJ L 168/43, as amended by Directive 2009/44/EC [2009] OJ L146/37, Arts 2, 4.

126 See BBRD, Arts 70–71 and 118 that revise the FCD by inserting a new Art 1(6) to that directive.

127 For an overview of these proposals, see JA Kirshner, “The bankruptcy safe harbor in light of government bailouts: reifying the significance of bankruptcy as a backstop to financial risk” (2015) 18 NYUJ Legislation and Public Policy 795.

128 For the operation of FDIC after receivership of the regulated bank, see Duffie and Skeel, supra, note 119. See also 12 USC (2018) § 1821(e)(9), (10)(B), (13)(C)(i), which provide for a general prohobition to exercise certain contractual rights without consent.

129 Defined in 12 USC (2018) § 5381(a)(8), which does not include insured depository institution.

130 See 12 USC (2018) § 5390(e)(9), (b)(10)(B), (13)(C)(i); see also Duffie and Skeel, supra, note 119.

131 12 USC § 5394(a)(c).

132 L Grillet-Aubert et al, Assessing Shadow Banking – Non-bank Financial Intermediation in Europe (2016) p 12.

133 ibid.

134 ibid.

135 ibid. It is necessary to mention that almost all data about shadow banking suffers from certain inconsistencies. This is because data about the shadow banking activities, entities and instruments are hard to come by. The difficulty in obtaining data is partly due to the ambiguity about the definition of shadow banking, and partly due to the fact that different components of shadow banking perform different functions in the economy and are so interconnected to traditional banking and other parts of the economy that it is virtually impossible to disentangle and identity the pure shadow banking activities, entities or instruments. Indeed, there is no such aggregate data about shadow banking as there is on, for example, flow of funds. See Pozsar, supra, note 25.

136 FSB, supra, note 41.

137 Grillet-Aubert et al, supra, note 132.

138 ibid.

139 ibid.

140 European Commission, supra, note 29.

141 K Bakk-Simon et al, “Shadow banking in the euro area: an overview” (2012) ECB Occasional Paper Series No 133, p 16.

142 FSB, supra, note 41.

143 European Commission, Consultation Document; Undertakings for Collective Investment in Transferable Securities (UCITS): Product Rules, Liquidity Management, Depositary, Money Market Funds, Long-term Investments (2012) p 13.

144 For more details, see Fisch, supra, note 28. Though regarding capital requirements, there is a special regime that applies to such commitments.

145 This risk is also known as step-in risk. For the concept of step-in risk and the approach that the BCBS has proposed to take on capital treatment of step-in risk, see BCBS, supra, note 30. The Dodd-Frank has certain rules on this (sharing the brand name, etc): see Doyle et al, supra, note 27.

146 SA Brady et al, “The stability of prime money market mutual funds: sponsor support from 2007 to 2011” (2012) Federal Reserve Bank of Boston Risk and Policy Analysis Unit Working Paper RPA 12-3.

147 ibid.

148 Bengtsson, supra, note 26.

149 Brady et al, supra, note 146. See also C Parlatore, “Fragility in money market funds: Sponsor support and regulation” (2016) 121 Journal of Financial Economics 595 at p 596.

150 Brady et al, supra, note 146.

151 Regulation (EU) 2017/1131 of the European Parliament and of the Council of 14 June 2017 on money market funds, OJ L 169, 30.6.2017 (hereinafter, EU MMFs Regulation).

152 Art 35 of the EU MMF Regulation.

153 Fisch, supra, note 28.

154 ibid.

155 Art 30 of the Proposal for a Regulation of the European Parliament and of the Council on Money Market Funds, COM/2013/0615 final – 2013/0306 (COD).

156 This requirement is also known as capital requirements. However, in the authors’ view, it could best be described as (cash) reserve requirements.

157 ECB, “Report on financial structures” (October 2015); ECB, Report on Financial Structures (2016); ECB, Report on Financial Structures (2017).

158 European Commission, supra, note 29. See also ECB, Report on Financial Structures.

159 Bank of England, Financial Stability Report (2011). The dependence of the EU banking sector on US dollar-denominated funding from MMFs was also emphasized by the public recommendation published in January 2012 by the ESRB. See ESRB, Recommendation of the ESRB of 22 December 2011 on US dollar denominated funding of credit institutions (ESRB/2011/2) (2011).

160 Doyle et al, supra, note 27.

161 ibid.

162 Grillet-Aubert et al, supra, note 132.

163 Bakk-Simon et al, supra, note 141.

164 ibid.

165 Grillet-Aubert et al, supra, note 132.

166 FSB, Global Shadow Banking Monitoring Report 2015 (2015).

167 EU MMFs Regulation.

168 Art 3 of the EU MMFs Regulation.

169 Art 24 of the EU MMFs Regulation.

170 Art 25 of the EU MMFs Regulation.

171 Art 24(c) of the EU MMFs Regulation.

172 Art 24(e) of the EU MMFs Regulation.

173 Recitals 39 and 40 and Arts 2(14) and (15), 24 and 25 of the EU MMFs Regulation.

174 Art 27 of the EU MMFs Regulation.

175 Arts 19 and 20 of the EU MMFs Regulation.

176 Art 17 of the EU MMFs Regulation.

177 Art 18 of the EU MMFs Regulation.

178 Art 28 of the EU MMFs Regulation.

179 Art 35 of the EU MMFs Regulation.

180 Art 30 of the Proposal for a Regulation of the European Parliament and of the Council on Money Market Funds/ COM/2013/0615 final – 2013/0306 (COD).

181 European Commission, supra, note 29.

182 Ricks, M, The Money Problem: Rethinking Financial Regulation (University of Chicago Press 2016).Google Scholar

183 FSB, supra, note 41.

184 Money Market Fund Reform; Amendments to Form PF, 79 Fed Reg 47,736, 47,736 (4 August 2014) (to be codified at 17 CFR pts 230, 239, 270, 274, 279) [see 17 CFR 270.2a-7]; Financial Stability Oversight Council, 2016 Annual Report (2016) p 111.

185 For a critique of this classification and restrictions, see Fisch, supra, note 28.

186 Retail funds will be available only to natural persons (individuals, certain trusts and retirement accounts).

187 Adrian and Ashcraft, supra, note 79.

188 Pozsar, supra, note 25.

189 US Securities and Exchange Commission, SEC Spotlight: Money Market Funds, last modified 3 November 2016 <www.sec.gov/spotlight/money-market.shtml>.

190 The new EU money market fund regulation converges with that of the US in that it introduces public debt MMFs.

191 The so-called government MMFs in Europe (those investing in Euro or sterling-denominated government bonds) are very small (amounting to roughly 3% of assets managed under the CNAV model), therefore, the regulator decided to require the European CNAVs to hold capital to back up at-par redemptions. See European Commission, supra, note 29.

192 See BBRD, Arts 70–71 and 118 that revises the FCD by inserting a new Art 1(6) to that Directive.

193 For an overview of these proposals, see Kirshner, supra, note 127.