These heightened capital requirements for licensed banks may trigger even more regulatory arbitrage than was observed in the recent past, thereby inducing a large migration of banking activities towards the shadow banking system. The higher solvency of the licensed banking system may then be more than offset by such growth in shadow banking, ultimately increasing the aggregate exposure of the money-like liabilities issued by both the formal and shadow banking sectors to shocks on loans.

It has generally been acknowledged that shadow banking was the “epicenter for the global financial crisis. High leverage made the shadow banking system fragile, and an initial run on shadow institutions was then transmitted throughout an interconnected global banking system. Despite this bit of now seemingly conventional wisdom, the primary response from regulators to the financial crisis has been to increase the capital requirements for chartered banks.  A new paper by Guillaume Plantin of the Toulouse School of Economics and CEPR posits that this seemingly misplaced focus not only leaves many aspects of shadow banking unaddressed by regulators, but also may foster more regulatory arbitrage and drive more banking activities to the shadow banking system.

Creating a system of enhanced monitoring of systematic risk and supervision of systematically important financial institutions (SIFIs) is a key objective of global regulatory reform in the aftermath of the financial crisis. Having established criteria for determining the SIFI players in the banking and insurance sectors, the FSB and IOSCO have moved on to determining which non-banks and non-insurance companies may be considered SIFIs. In a January 8, 2014 consultative document, the FSB and IOSCO proposed a methodology for the identification of nonbank, noninsurance financial institutions (NBNI) that pose systemic risks to the global economy.  The consultation document extends the framework already established to identify bank and insurance company SIFIs to all other financial entities.