GREEN PAPER  SHADOW BANKING
Date: 2012-03-19
Institutions: European Commission
Subjects: banking system, financial institution, financial policy, investment company, market supervision, regulation of transactions

EUROPEAN COMMISSION 

Brussels, 19.3.2012  
COM(2012) 102 final 

GREEN PAPER  

SHADOW BANKING 

(Text with EEA relevance) 

 
 
 
 
  
 
1.  

INTRODUCTION 

The  2008  crisis  was  global  and  financial  services  were  at  its  heart,  revealing  inadequacies 
including  regulatory  gaps,  ineffective  supervision,  opaque  markets  and  overly-complex 
products.  The  response  has  been  international  and  coordinated  through  the  G20  and  the 
Financial Stability Board (FSB).  

The European Union has shown global leadership in implementing its G20 commitments. In 
line with EU's Roadmap for Financial Reform, the Union is very advanced in implementing 
the reforms linked to the G20 commitments. Most of the reforms are now going through the 
legislative  process.  In  particular,  a  major  achievement  has  been  the  recent  adoption  by  the 
Council  and  the  Parliament  of  landmark  legislation  on  over-the-counter  derivatives. 
Negotiations  are  also  well  developed  on  measures  to  revamp  capital  requirements  for  the 
banking sector. Overall, the reforms will equip the EU with the tools designed to ensure that 
the  financial  system,  its  institutions  and  markets  are  properly  supervised.  More  stable  and 
responsible financial markets are a pre-condition for growth and for the creation of a business 
environment that allows companies to thrive, innovate and expand their activities. This in turn 
enhances the confidence and trust of citizens. 

However, there is an increasing area of non-bank credit activity, or shadow banking, which 
has  not  been  the  prime  focus  of  prudential  regulation  and  supervision.  Shadow  banking 
performs  important  functions  in  the  financial  system.  For  example,  it  creates  additional 
sources  of  funding  and  offers  investors  alternatives  to  bank  deposits.  But  it  can  also  pose 
potential threats to long-term financial stability.  

In  response  to  the  invitations  by  G20  in  Seoul  in  2010  and  in  Cannes  in  2011,  the  FSB  is 
therefore  in  the  process  of  developing  recommendations  on  the  oversight  and  regulation  of 
this activity.  

The FSB's work has highlighted that the disorderly failure of shadow bank entities can carry 
systemic  risk,  both  directly  and  through  their  interconnectedness  with  the  regular  banking 
system. The FSB has also suggested that as long as such activities and entities remain subject 
to a lower level of regulation and supervision than the rest of the financial sector, reinforced 
banking regulation could drive a substantial part of banking activities beyond the boundaries 
of traditional banking and towards shadow banking. 

Against  this  background,  the  Commission  considers  it  a  priority  to  examine  in  detail  the 
issues  posed  by  shadow  banking  activities  and entities.  The  objective  is  actively  to  respond 
and further contribute to the global debate; continue to increase the resilience of the Union’s 
financial system; and, ensure all financial activities are contributing to the economic growth. 
The  purpose  of  this  Green  Paper  is  therefore  to  take  stock  of  current  development,  and  to 
present  on-going  reflections  on  the  subject  to  allow  for  a  wide-ranging  consultation  of 
stakeholders. 

2. 

THE INTERNATIONAL CONTEXT 

At the November 2010 Seoul Summit, the G20 Leaders identified some remaining issues of 
financial  sector  regulation  that  warranted  attention.  They  highlighted  “strengthening 

2 

 
 
 
 
 
 
 
 
 
in  collaboration  with  other 

regulation and supervision of shadow banking” as one of these issues and requested that the 
FSB, 
international  standard  setting  bodies,  develop 
recommendations to strengthen the oversight and regulation of the “shadow banking system”.  
In  response,  the  FSB  released  a  report  on  27  October  20111  on  strengthening  oversight  and 
regulation of shadow banking.  

Building on this report and on the invitation of the November 2011 G20 Cannes Summit to 
develop its work further, the FSB has also initiated five work-streams tasked with analysing 
the  issues  in  more  detail  and  developing  effective  policy  recommendations.  These  work-
streams include: (i) the Basel Committee on Banking Supervision (BCBS) will work on how 
to  further  regulate  the  interaction  between  banks  and  shadow  banking  entities  and  report  in 
July 2012; (ii) the International Organization of Securities Commissions (IOSCO) will work 
on regulation to mitigate the systemic risks (including run-type risks) of Money Market Funds 
(MMFs) and report in July 2012; (iii) IOSCO, with the help of the BCBS, will carry out an 
evaluation of existing securitisation requirements and make further policy recommendations 
in  July  2012;  (iv)  a  FSB  subgroup  will  examine  the  regulation  of  other  shadow  banking 
entities2 and report in September 2012; and, (v) another FSB subgroup will work on securities 
lending and repos and report in December 2012. These work-streams bring together the EU 
and  other  major  jurisdictions  including  the  US,  China  and  Japan,  who  are  each  considering 
appropriate regulatory measures. 

3.  

WHAT IS SHADOW BANKING? 

The October 2011 FSB report represents the first comprehensive international effort to  deal 
with  shadow  banking.  It  focuses  on  (i)  the  definition  of  principles  for  the  monitoring  and 
regulation of the shadow banking system; (ii) the initiation of a mapping process to identify 
and assess systemic risks involved in shadow banking; and, (iii) the identification of the scope 
of possible regulatory measures.  

In  this  report,  the  FSB  defined  the  shadow  banking  system  as  "the  system  of  credit 
intermediation that involves entities and activities outside the regular banking system". This 
definition implies the shadow banking system is based on two intertwined pillars.  

First,  entities  operating outside  the  regular  banking  system  engaged  in  one  of  the  following 
activities:  
• 

accepting funding with deposit-like characteristics;  

• 

• 

• 

performing maturity and/or liquidity transformation;  

undergoing credit risk transfer; and,  

using direct or indirect financial leverage.  

Second, activities that could act as important sources of funding of non-bank entities. These 
activities include securitisation, securities lending and repurchase transactions ("repo"). 

1 Available at http://www.financialstabilityboard.org/publications/r_111027a.pdf  
2 Other shadow banking entities covers the entities listed in the box below, excluding MMFs. 

3 

 
 
 
 
 
 
 
                                                            
Against  this  background,  the  Commission  is  at  this  stage  focussing  its  analysis  on  the 
following  possible  shadow  banking  entities  and  activities.  This  should  not  be  viewed  as 
exhaustive, as shadow banking entities and activities can evolve very rapidly. 

Possible shadow banking entities and activities on which the Commission is currently 
focussing its analysis 

Entities: 

-   Special  purpose  entities  which  perform  liquidity  and/or  maturity  transformation;  for 
example,  securitization  vehicles  such  as  ABCP  conduits,  Special  Investment  Vehicles 
(SIV) and other Special Purpose Vehicles (SPV); 

-   Money  Market  Funds  (MMFs)  and  other  types  of  investment  funds  or  products  with 
deposit-like characteristics, which make them vulnerable to massive redemptions ("runs"); 

-   Investment  funds,  including  Exchange  Traded  Funds  (ETFs),  that  provide  credit  or  are 

leveraged; 

-   Finance  companies  and  securities  entities  providing  credit  or  credit  guarantees,  or 
performing  liquidity  and/or  maturity  transformation  without  being  regulated  like  a  bank; 
and 

-   Insurance  and  reinsurance  undertakings  which  issue  or  guarantee  credit  products.  

Activities: 

-   Securitisation; and 

-   Securities lending and repo. 

The FSB has roughly estimated the size of the global shadow banking system at around € 46 
trillion in 2010, having grown from € 21 trillion  in 2002. This represents 25-30% of the total 
financial system and half the size of bank assets. In the United States, this proportion is even 
more significant, with an estimated figure of between 35% and 40%. However, according to 
the FSB estimates, the share of the assets of financial intermediaries other than banks located 
in Europe as a percentage of the global size of shadow banking system has strongly increased 
from 2005 to 2010, while the share of US located assets has decreased. On a global scale, the 
share  of  those  assets  held  by  European  jurisdictions  has  increased  from  10  to  13%  for  UK 
intermediaries, from 6 to 8% for NL intermediaries, from 4% to 5% for DE intermediaries and 
from  2%  to  3%  for  ES  intermediaries.  FR  and  IT  intermediaries  maintained  their  previous 
shares in the global shadow banks assets of 6% and 2% respectively. 

4 

 
 
 
 
 
 
 
Questions: 

a)   Do you agree with the proposed definition of shadow banking? 

b)   Do you agree with the preliminary list of shadow banking entities and activities? Should 

more entities and/or activities be analysed? If so, which ones? 

4.  

WHAT ARE THE RISKS AND BENEFITS RELATED TO SHADOW BANKING? 

Shadow  banking  activities  can  constitute  a  useful  part  of  the  financial  system,  since  they 
perform  one  of  the  following  functions:  (i)  they  provide  alternatives  for  investors  to  bank 
deposits; (ii) they channel resources towards specific needs more efficiently due to increased 
specialization;  (iii)  they  constitute  alternative  funding  for  the  real  economy,  which  is 
particularly useful when traditional banking or market channels become temporarily impaired; 
and,  (iv)  they  constitute  a  possible  source  of  risk  diversification  away  from  the  banking 
system. 

Shadow banking entities and activities may however also create a number of risks.  Some of 
these risks can be of a systemic nature, in particular due to the complexity of shadow banking 
entities  and  activities;  their  cross-jurisdictional  reach  and  the  inherent  mobility  of  securities 
and fund markets; and, the interconnectedness of shadow banking entities and activities with 
the regular banking system. 

These risks can be grouped together as follows: 

(i) Deposit-like funding structures may lead to "runs": 

Shadow  banking  activities  are  exposed  to  similar  financial  risks  as  banks,  without  being 
subject  to  comparable  constraints  imposed  by  banking  regulation  and  supervision.  For 
example,  certain  shadow  banking  activities  are  financed  by  short-term  funding,  which  is 
prone to risks of sudden and massive withdrawals of funds by clients. 

 (ii) Build-up of high, hidden leverage: 

High  leverage  can  increase  the  fragility  of  the  financial  sector  and  be  a  source  of  systemic 
risk. Shadow banking activities can be highly leveraged with collateral funding being churned 
several times, without being subject to the limits imposed by regulation and supervision.  

(iii) Circumvention of rules and regulatory arbitrage:  

Shadow banking operations can be used to avoid regulation or supervision applied to regular 
banks  by  breaking  the  traditional  credit  intermediation  process  in  legally  independent 
structures  dealing  with  each  other.  This  "regulatory  fragmentation"  creates  the  risk  of  a 
regulatory  "race  to  the  bottom"  for  the  financial  system  as  a  whole,  as  banks  and  other 
financial intermediaries try to mimic shadow banking entities or push certain operations into 
entities  outside  the  scope  of  their  consolidation.    For  example,  operations  circumventing 
capital  and  accounting  rules  and  transferring  risks  outside  the  scope  of  banking  supervision 
played an important role in the build-up to the 2007/2008 crisis. 

5 

 
 
 
 
 
 
 
 
 
 
(iv) Disorderly failures affecting the banking system: 

Shadow banking activities are often closely linked to the regular banking sector. Any failures 
can  lead  to  important  contagion  and  spill-over  effects.  Under  distress  or  severe  uncertainty 
conditions,  risks  taken  by  shadow  banks  can  easily  be  transmitted  to  the  banking  sector 
through  several  channels:  (a)  direct  borrowing  from  the  banking  system  and  banking 
contingent liabilities (credit enhancements and liquidity lines); and, (b) massive sales of assets 
with repercussions on prices of financial and real assets.   

Questions: 

c)   Do  you  agree  that  shadow  banking  can  contribute  positively  to  the  financial  system?  
Are  there  other  beneficial  aspects  from  these  activities  that  should  be  retained  and 
promoted in the future? 

d)   Do you agree with the description of channels through which shadow banking activities 
are creating new risks or transferring them to other parts of the financial system? 

e)   Should  other  channels  be  considered  through  which  shadow  banking  activities  are 

creating new risks or transferring them to other parts of the financial system? 

5. 

 WHAT ARE THE CHALLENGES FOR SUPERVISORY AND REGULATORY AUTHORITIES? 

Given  the  potential  risks  set  out  above,  it  is  essential  that  supervisory  and  regulatory 
authorities consider how best to address shadow banking entities and activities. However, this 
task presents various challenges. 

First,  the  authorities  concerned  have  to  identify  and  monitor  the  relevant  entities  and  their 
activities.  In  the  EU,  most  national  authorities  have  relevant  experience  and  the  European 
Central  Bank  (ECB),  the  European  Banking  Authority  (EBA),  the  European  Securities  and 
Markets  Authority  (ESMA),  the  European  Insurance  and  Occupational  Pension  Authority 
(EIOPA) and the European Systemic Risk Board (ESRB) have started building up expertise 
on shadow banking. However, there remains a pressing need to fill the current data gaps on 
the interconnectedness between banks and non-banks financial institutions on a global basis. 
The EU could therefore need to ensure  permanent processes for the collection and exchange 
of  information  on  identification  and  supervisory  practices  between  all  EU  supervisors,  the 
Commission,  the  ECB  and  other  central  banks.  This  will  require  close  coordination  among 
them  to  share  information  and  promptly  detect  problems.  It  may  also  require  new  specific 
powers for national supervisory authorities.  

Secondly,  the  authorities  have  to  determine  the  approach  to  supervising  shadow  banking 
entities.  The  Commission  considers  it  should  (i)  be  performed  at  the  appropriate  level,  i.e. 
national  and/or  European;  (ii)  be  proportionate;  (iii)  take  into  account  existing  supervisory 
capacity and expertise; and, (iv) be integrated with the macro-prudential framework. On the 
latter,  the  authorities  must  be  able  to  understand  the  hidden  credit  intermediation  chains; 
assess properly their systemic importance; consider the macro-prudential implications of new 

6 

 
 
 
 
 
 
 
 
 
 
 
products or activities; and, map the interconnectedness of the shadow banking system with the 
rest of the financial sector.  

Thirdly, as shadow banking issues may require extending the scope and nature of prudential 
regulation, appropriate regulatory responses are needed. The afore-mentioned FSB report has 
suggested  some  general  principles  which  regulators  should  apply  in  designing  and 
implementing  regulatory  measures  for  shadow  banking.  The  FSB  suggested  that  regulatory 
measures  should  be  targeted,  proportionate,  forward-looking  and  adaptable,  effective,  and 
should  be  subject  to  assessment  and  review.  The  Commission  considers  that  the  authorities 
should  take  into  account  these  high-level  principles.  The  Commission  also  considers  that  a 
specific  approach  to  each  kind  of  entity  and/or  activity  must  be  adopted.  This  will  require 
achieving  the  right  balance  between  three  possible  and  complementary  means:  (i)  indirect 
regulation (regulating the links between the banking system and shadow banking entities); (ii) 
appropriate extension or revision of existing regulation; and, (iii) new regulation specifically 
directed  at  shadow  banking  entities  and  activities.  In  this  context,  alternative  or 
complementary non-regulatory measures also need to be considered. 

Questions: 

f)   Do  you  agree  with  the  need  for  stricter  monitoring  and  regulation  of  shadow  banking 

entities and activities? 

g)   Do  you  agree  with  the  suggestions  regarding  identification  and  monitoring  of  the 
relevant  entities  and  their  activities?  Do  you  think  that  the  EU  needs  permanent 
processes  for  the  collection  and  exchange  of  information  on  identification  and 
supervisory practices between all EU supervisors, the Commission, the ECB and other 
central banks? 

h)   Do you agree with the general principles for the supervision of shadow banking set out 

above?  

i)   Do you agree with the general principles for regulatory responses set out above? 

j)   What measures could be envisaged to ensure international consistency in the treatment 

of shadow banking and avoid global regulatory arbitrage? 

6.  

WHAT REGULATORY MEASURES APPLY TO SHADOW BANKING IN THE EU? 

In the EU, each of the three possible regulatory approaches outlined in the previous section of 
this  Green  Paper  is  currently  being  followed  and  is  summarised  below.  A  number  of 
legislative proposals with implications for shadow banking entities and activities are already 
in  place  or  currently  being  negotiated  by  the  European  Parliament  and  the  Council.  Some 
Member  States  also  have  additional  national  rules  for  the  oversight  of  financial  entities  and 
activities that are not regulated at EU level.  

7 

 
 
 
 
 
 
 
 
 
 
 
 
 
6.1. 

Indirect regulation of shadow banking activities through banking and insurance 
regulation 

The  EU  has  taken  important  steps  indirectly  to  address  shadow  banking  issues  raised  by 
securitisation structures to deter banks to circumvent existing capital requirements and other 
legislation: 

• 

• 

• 

• 

the revision of the EU banking capital requirements directive in 2009 (the so-called 
Capital Requirements Directive, or "CRD II"),3 which Member States should have 
transposed  into  national  law  by  October  2010,  required  both  originators  and 
sponsors  of  securitized  assets  to  retain  a  substantial  share  of  their  underwritten 
risks.  The  directive  also  reinforced  the  treatment  of  liquidity  lines  and  credit 
exposure to securitization vehicles. The previous rules had allowed banks to avoid 
posting capital for the corresponding risks; 

in 

line  with 

the amendments  in  the  subsequent revision of the  directive in 2010 (the so-called 
"CRD  III")4  further  strengthened  capital  requirements 
the 
recommendations  published  by  the  BCBS  in  July  2009.  Since  December  2011, 
banks  have  been  required  to  comply  with  additional  disclosure  rules  and  hold 
significantly  more  capital  to  cover  their  risks  when  investing  in  complex  re-
securitisations.  This  Directive  also  required  competent  authorities  in  all  Member 
States, when carrying out their risk assessment of individual banks under Pillar 2 of 
the  Basel/CRD  framework,  to  take  into  account  reputational  risks  arising  from 
complex securitisation structures or products;5  
in its proposal for the latest revision to the directive (the so-called "CRD IV")6 the 
Commission has proposed the introduction of explicit liquidity requirements as of 
2015, including liquidity facilities for SPVs and for any other products or services 
linked to a bank's reputational risk; and  

the  Commission  endorsed  in  November  2011  an  amendment  to  the  International 
Financial  Reporting  Standards  (IFRS)  to  improve  the  disclosure  requirements 
relating to the transfer of financial assets (related to IFRS 7).7 The Commission is 
also analysing the new standards on consolidation (related to IFRS 10, 11 and 12). 
The  objective  of  these  standards  is  to  improve  the  consolidation  of  securitization 
vehicles and the disclosure requirements relating to unconsolidated participations in 
"structured entities" like securitisation vehicles or asset-backed financing. 

3  Directive  2009/111/EC  of  the  European  Parliament  and  of  the  Council  of  16  September  2009  amending 
Directives  2006/48/EC,  2006/49/EC  and  2007/64/EC  as  regards  banks  affiliated  to  central  institutions,  certain 
own funds items, large exposures, supervisory arrangements, and crisis management, OJ L 302, 17.11.2009, p. 
97–119. 
4  Directive  2010/76/EU  of  the  European  Parliament  and  of  the  Council  of  24  November  2010  amending 
Directives  2006/48/EC  and  2006/49/EC  as  regards  capital  requirements  for  the  trading  book  and  for  re-
securitisations, and the supervisory review of remuneration policies, OJ L 329, 14.12.2010, p. 3–35. 
5 See Annex V, point 8 of Directive 2006/48/EC as amended by Directive 2009/111/EC. 
6 See http://ec.europa.eu/internal_market/bank/regcapital/index_en.htm 
7 Commission Regulation (EU) No 1205/2011 of 22 November 2011 amending Regulation (EC) No 1126/2008 
adopting  certain  international  accounting  standards  in  accordance  with  Regulation  (EC)  No 1606/2002  of  the 
European  Parliament  and  of  the  Council  as  regards  International  Financial  Reporting  Standard  (IFRS)  7  Text 
with EEA relevance. 

8 

 
 
 
                                                            
With regard to the insurance sector, under the rules implementing the Solvency II Framework 
Directive8 (Solvency II) for insurance and reinsurance undertakings investing in securitisation 
products, the Commission plans to require originators and sponsors of such products to meet 
risk retention requirements similar to those set out in banking legislation.  

6.2.  Enlarging the scope of current prudential regulation to shadow banking activities 

The scope of existing regulations has also been extended to new entities and activities so as to 
have a broader coverage, address systemic risk concerns and make future regulatory arbitrage 
more difficult. 

This is the approach taken as regards investment firms. They are subject to the regime set out 
in the Markets in Financial Instruments Directive (MiFID).9 In the review of this framework, 
the Commission proposed on 20 October 2011 a recast directive and a regulation in order to 
broaden  the  scope  of  the  framework  (e.g.  to  cover  all  high  frequency  traders  and  more 
commodity  investment  firms  will  be  brought  within  the  scope  of  MiFID);  increase  the 
transparency of non-equity instruments – which will enhance the ability to identify risks from 
shadow  banking;  and,  entrust  competent  national  authorities  and  ESMA  with  enhanced  and 
proactive  intervention  powers,  enabling  them  to  control  and  mitigate  risks  from  shadow 
banking. MiFID does not directly impose capital requirements for those firms brought within 
its  scope.  However,  it  cross-refers  to  the  Capital  Requirements  Directive,  thereby  imposing 
bank-like prudential regulation on entities performing shadow banking activities. 

6.3. 

Direct regulation of some shadow banking activities 

Finally,  the  EU  has  also  already  adopted  measures  to  regulate  shadow  banking  entities  and 
activities directly. 

As  far  as  investment  funds  are  concerned,  the  Alternative  Investment  Fund  Managers 
Directive (AIFMD)10 already addresses a number of shadow banking issues, provided that the 
entities  concerned  are  captured  as  alternative  investment  funds  under  that  directive.  Asset 
managers  are  now  required  to  monitor  liquidity  risks  and  employ  a  liquidity  management 
system. Given new methods for calculating the leverage and reporting requirements, activities 
such  as  repurchase  agreements  or  securities  lending  will  be  easier  for  the  competent 
authorities to monitor.  

As  regards  MMFs  and  ETFs,  these  funds  may  be  covered  by  existing  legislation  on 
undertakings  for  collective  investment  in  transferable  securities  (UCITS).11  In  addition, 

8 Directive 2009/138/EC of the European Parliament and of the Council of 25 November 2009 on the taking-up 
and pursuit of the business of Insurance and Reinsurance, OJ L335/1 of 17.12.2009. 
9  Directive 2004/39/EC of the European Parliament and of the Council of 21 April 2004 on markets in financial 
instruments,  OJ L 145, 30.4.2004, p. 1–44. 
10  Directive  2011/61/EC  of  the  European  Parliament  and  of  the  Council  of  8  June  2011  on  Alternative 
Investment  Fund  Managers  and  amending  Directives  2003/41/EC  and  2009/65/EC  and  Regulations  (EC)  No 
1060/2009 and (EU) No 1095/2010, OJ L 174, 1.7.2011, p.1. 
11  Directive 2009/65/EC of the European Parliament and of the Council of 13 July 2009 on the coordination of 
laws, regulations and administrative provisions relating to undertakings for collective investment in transferable 
securities,  

9 

 
 
 
 
 
 
 
 
                                                            
ESMA has developed guidelines which entered into force on 1 July 2011.12 These guidelines 
include  recommendations  for  these  funds  to  restrict  the  eligible  investments,  limit  the 
weighted-average maturity, and to carry out daily net asset value calculations. 

Credit Rating Agencies (CRAs) are not leveraged and they do not directly engage in maturity 
transformation.  Nevertheless,  they  have  an  important  role  in  the  credit  intermediation  chain 
since  they  assign  ratings  to  products  and  entities.  In  the  EU,  CRAs  are  subject  to  stringent 
regulation  and  supervision  by  ESMA.13  Moreover,  the  Commission  has  proposed  additional 
legislative measures to strengthen the credit rating process.14 

Finally,  in  relation  to  insurance  regulation,  Solvency  II  also  addresses  a  number  of  shadow 
banking issues as it provides comprehensive regulation centred on a risk-based and economic 
approach,  along  with  strong  risk  management  requirements  including  a  "prudent  person" 
principle for investments. In particular, it explicitly covers credit risks in capital requirements; 
provides  for  a  total  balance  sheet  approach  where  all  entities  and  exposures  are  subject  to 
group supervision; and, is as stringent in respect of credit risk as CRD IV. Solvency II also 
requires  Member  States  to  authorise  the  establishment  of  an  insurance  SPV.  Detailed  rules 
implementing Solvency II which are currently being considered will include authorisation and 
ongoing  regulatory  requirements  relating  to  solvency,  governance  and  reporting  as  far  as 
insurance SPVs are concerned.  

Questions: 

k)   What are your views on the current measures already taken at the EU level to deal with 

shadow banking issues? 

7. 

OUTSTANDING ISSUES  

Although the indirect, extended and direct regulatory measures set out above go a long way to 
addressing shadow banking entities and activities, there is still further progress to make given 
the evolving nature of the shadow banking system and out understanding of it. 

In  coordination  with  the  FSB,  the  standards  setting  bodies  and  the  relevant  EU  supervisory 
and regulatory authorities, the aim of the Commission's current work is to examine existing 
measures  carefully  and  to  propose  an  appropriate  approach  to  ensure  comprehensive 
supervision of the shadow banking system, coupled with an adequate regulatory framework.  

12  Available  at  http://www.esma.europa.eu/content/Guidelines-Common-definition-European-money-market-
funds  
13 Regulation (EC) No 1060/2009 of the European Parliament and of the Council of 16 September 2009 on credit 
rating agencies, OJ L 302, 17.11.2009, p. 1–31, and Regulation (EU) No 513/2011 of the European Parliament 
and of the Council of 11 May 2011 amending Regulation (EC) No 1060/2009 on credit rating agencies, OJ L 
145, 31.5.2011, p. 30–56. 

14 Proposal for a Regulation of the European Parliament and of the Council amending Regulation (EC) No 
1060/2009 on credit rating agencies, COM(2011) 747 final of 15.11.2011. 

10 

 
 
 
 
 
 
 
 
 
 
                                                            
In this context, there are five key areas where the Commission is further investigating options 
and next steps. 

7.1. 

Banking Regulation  

In this area, several issues are being examined with the overarching aim to:  

• 

• 

recapture for prudential purposes any flawed risk transfer towards shadow banking 
entities;  

examine  ways  to  identify  the  channels  of  exposures,  limit  excessive  exposure  to 
shadow banking entities and improve the disclosure requirements of banks towards 
exposures to such entities; and 

• 

ensure that banking regulation covers all relevant activities. 

In  particular,  consolidation  rules  for  shadow  banking  entities  are  being  examined  to  ensure 
that  bank-sponsored  entities  are  appropriately  consolidated  for  prudential  purposes  and 
therefore  fully  subject  to  the  comprehensive  Basel  III  framework.  It  is  also  appropriate  to 
study the differences between accounting consolidation and prudential consolidation, as well 
as the differences between jurisdictions. In this regard, it is worthwhile to assess the impact of 
the new IFRS on consolidation, in particular in respect of shadow banking entities. 

As regards bank exposure to shadow banking entities, there are several issues that need to be 
investigated further: (i) whether the large exposure regime in the current banking legislation is 
stringent enough to properly  address all shadow banking exposures, individually as well as 
globally;  (ii)  how  to  account  effectively  for  leverage  in  shadow  banking  entities  such  as 
investment  funds,  including  in  particular  whether  to  extend  the  so-called  look-through 
approach currently being applied by some banks; (iii) whether to apply the CRD II treatment 
of liquidity lines and credit exposures for securitisation vehicles to all other shadow banking 
entities;  and,  (iv)  a  review  of  the  implementation  of  the  national  supervisory  treatment  for 
implicit support. 

Existing EU banking legislation is limited to deposit-taking institutions that provide credit. It 
could be considered to enlarge the scope of financial institutions and activities covered by the 
current  legislation.  The  Commission  is  currently  studying  the  merits  of  extending  certain 
provisions of CRD IV to non deposit-taking finance companies not covered by the definition 
in the Capital  Requirements Regulation (CRR).15 This would  also limit the  scope  for future 
regulatory arbitrage for providers of credits.  

7.2. 

Asset management regulation issues 

The Commission is looking carefully at the evolution of both the ETF and the MMF markets 
in the context of shadow banking.  

As far as ETFs are concerned, the FSB has identified a possible mismatch between liquidity 
offered  to  ETF  investors  and  less-liquid  underlying  assets.  The  current  regulatory  debate 

15 European Commission, Proposal for a Regulation of the European Parliament and of the Council on prudential 
requirements for credit institutions and investment firms, COM(2011) 452 final of 20 July 2011. 

11 

 
 
 
 
 
 
 
 
                                                            
focuses  on  possible  liquidity  disruptions;  the  quality  of  collateral  provided  in  cases  of 
securities  lending  and  derivatives  (swap)  transactions  between  ETF  providers  and  their 
counterparties; and, conflicts of interest where counterparties in these transactions belong to 
the same corporate group. Some of these issues are not confined to ETFs. They arise in every 
instance  where  securities  owned  by  an  investment  fund  are  lent  to  other  counterparties  or 
where a fund enters into a derivative transaction (e.g. total return swaps) with counterparty. 

In addition, ESMA is currently carrying out a review of the UCITS framework in general and 
in  particular  as  regards  the  potential  application  to  ETFs,  with  a  view  to  adopting  new 
guidelines this year. The guidelines will include recommendations regarding the labelling of 
ETFs, disclosures to investors and use of collateral. 

In  relation  to  MMFs,  the  main  concerns  identified  relate  to  the  risks  of  runs  (i.e.  massive 
simultaneous  redemptions  by  investors).  Such  runs  could  seriously  affect  financial  stability. 
The FSB has identified the possibility of runs stemming mainly from the credit and liquidity 
risks  inherent  to  the  portfolio  of  an  MMF,  as  well  as  from  the  method  of  valuing  MMFs' 
assets. The risks of runs increase when MMFs value their assets through the amortised cost 
approach in order to maintain a stable Net Asset Value (NAV), even if the market values of 
the  underlying  investments  fluctuate,  as  is  the  case  for  the  so  called  constant  NAV  MMF. 
Investors  have  an  incentive  to  be  the  first  to  withdraw  funds  from  them  in  time  of  market 
stress before the NAV is forced to drop.  

7.3. 

Securities lending and repurchase agreements 

Another  central  issue  concerns  securities  lending  and  repurchase  agreements  as  these 
activities can be used rapidly to increase leverage and are a key source of funds used by some 
shadow  banking  entities.  The  ongoing  work  by  the  Commission  and  the  FSB  is  examining 
current  practices,  identifying  regulatory  gaps  in  existing  regulation  and  looking  at 
inconsistency between jurisdictions. 

The specific issues to be covered could include: prudent collateral management; reinvestment 
practises  of  cash  received  against  collateralised  securities;  re-use  of  collateral  (re-
hypothecation);  ways  to  improve  transparency  both  in  the  markets  and  for  supervisory 
authorities,  and,  the  role  of  market  infrastructure.  The  Commission  considers  that  special 
attention  should  be  given  to  global  leverage  resulting  from  securities  lending,  collateral 
management  and  repos  transactions  in  order  to  ensure  that  supervisors  have  accurate 
information  to  assess  this  leverage,  the  tools  to  control  it  and  to  avoid  its  excessive  pro-
cyclical  effects.  Finally,  bankruptcy  laws  and  their  impact  on  collateral  should  also  be 
reviewed  with  a  view  to  increasing  international  consistency  along  with  the  accounting 
practices of such transactions.  

7.4. 

Securitisation 

It  will  be  important  to  include  an  examination  of  whether  the  measures  relating  to 
securitisation  set  out  earlier  in  this  Green  Paper  have  been  effective  in  addressing  shadow 
banking concerns.  

In  addition,  the  Commission  is  currently  examining  how  similar  measures  can  be  taken  in 
other sectors. The main issues include transparency, standardisation, retention and accounting 
requirements.  The  Commission  services  and  the  US  Securities  and  Exchange  Commission 
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have therefore started comparing securitisation rules in the EU and in the US which share the 
goal of safer  and sounder securitisation practices. Joint work has also been  launched within 
IOSCO,  in  coordination  with  the  BCBS,  to  help  the  FSB  in  developing  policy 
recommendations by July 2012 aimed at requesting all jurisdictions to adopt comparable and 
compatible frameworks. 

7.5. 

Other shadow banking entities16 

Additional work on other shadow banking entities is also underway within the FSB and the 
EU in order to: (i) list the entities that could be covered; (ii) map the existing regulatory and 
supervisory regimes in place; (iii) identify gaps in these regimes; and, (iv) suggest additional 
prudential measures for these entities, where necessary.  

Data  collection  is  another  issue  to  consider,  as  some  national  supervisors  may  not  have  the 
necessary  powers  to  collect  data  on  all  shadow  banking  entities.  The  Commission  and  the 
European Supervisory Authorities will consult with national supervisory authorities in order 
to assess the situation. Depending on the results, a legislative approach at EU level could be 
warranted.  In  line  with  the  FSB's  work  on  data  gaps,  it  may  also  be  useful  to  ensure  that 
supervisors  have  the  powers  to  collect  and  share  data  on  a  global  basis.  In  this  context,  the 
creation of a global Legal Entity Identifier (LEI) would be welcome.17  

As stated in its Green Paper of 20 October 2010,18 the Commission will also undertake further 
work on the resolution of other financial institutions. This will examine the nature of the risks 
for  financial  stability  posed  by  various  non-bank  entities  and  explore  the  need  for  any 
appropriate  resolution  arrangements.  In  this  context,  a  number  of  the  shadow  bank  entities 
referred to in this Green Paper will be considered.  

Finally,  the  Commission  considers  that  further  analysis  should  be  carried  out  to  monitor 
whether the new Solvency II Framework will be fully effective in addressing any issues raised 
by  insurance  and  reinsurance  undertakings  performing  activities  similar  to  shadow  banking 
activities. 

Questions:  

l)   Do  you  agree  with  the  analysis  of  the  issues  currently  covered  by  the  five  key  areas 

where the Commission is further investigating options? 

m)   Are there additional issues that should be covered? If so, which ones? 

n)   What modifications to the current EU regulatory framework, if any, would be necessary 

properly to address the risks and issues outlined above? 

16 For a list of other shadow banking entities, see foot note 2.  
17 The LEI is a global standard that would help risk management, data quality and macro prudential supervision. 
The  FSB  has  set  up  an  Expert  Group  to  coordinate  work  among  the  global  regulatory  community  to  prepare 
recommendations for the appropriate governance framework for a global LEI. 
18 Available at  http://ec.europa.eu/internal_market/bank/docs/crisis-
management/framework/com2010_579_en.pdf 

13 

 
 
 
 
 
 
 
 
 
 
 
                                                            
o)   What other measures, such as increased monitoring or non-binding measures should be 

considered? 

8. 

WHAT ARE THE NEXT STEPS ENVISAGED BY THE EU? 

On the basis of the outcome of this consultation and the work carried out by the ESRB, EBA, 
ESMA and EIOPA, the Commission will decide on the appropriate follow-up regarding the 
shadow  banking  issues  outlined  in  this  Green  Paper,  including  legislative  measures,  as 
appropriate.  The  Commission  will  continue  to  engage  in  ongoing  international  work, 
including to ensure any level playing field concerns are addressed. Any regulatory follow-up 
will be accompanied by a careful assessment of its potential impacts and will also take into 
account the results of the work of the high-level expert group on structural banking reforms 
recently  appointed  by  the  Commission.19  After  the  publication  of  the  group's  report,  the 
Commission will assess the need for additional, targeted consultations on selected issues, as 
necessary.  

The Commission invites stakeholders to comment on all the issues set out in this Green Paper 
and in particular to respond to the questions above. In addition, the Commission is organising 
a  public  conference  on  shadow  banking  in  Brussels  on  27  April  2012  to  which  all 
stakeholders are invited.20 

The responses received will be available in the Commission website unless confidentiality is 
specifically  requested,  and  the  Commission  will  publish  a  summary  of  the  results  of  the 
consultation. 

Stakeholders  are  invited  to  send  their  comments  before  1  June  2012  to  the  following  email 
address: markt-consultation-shadow-banking@ec.europa.eu 

19 http://ec.europa.eu/commission_2010-2014/barnier/headlines/news/2012/01/20120116_en.htm  
20 http://ec.europa.eu/internal_market/bank/shadow_banking/index_en.htm  

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