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Monetary Policy and Shadow banking: global micro-evidence from ABCPs

Periodic Reporting for period 1 - SHADOWBANKING (Monetary Policy and Shadow banking: global micro-evidence from ABCPs)

Reporting period: 2016-10-01 to 2018-09-30

Project aims to further understand the shadow banking entities sponsored by banks. More specifically, to assess their response to monetary policy changes. The financial crisis revealed how the banking system is both intertwined with and exposed to systemic risks in the shadow banking system. This latter is generally defined as “credit intermediation involving entities and activities outside the regular banking system”, or non-bank credit intermediation.
The complexity of the issue, the heterogeneous legal forms and accounting standards, have so far limited empirical research on these “de facto” banks operating outside the scope of the regulatory framework. Based on a hand-collected unique dataset, the project aimed at examining a special type of shadow bank, i.e. asset-backed commercial paper conduits (ABCPs), which are typically sponsored by banks, and explore how they are affected by and transmit monetary policy and, ultimately, may contribute to financial and banking instability.
Shadow Banking is a current priority in policy-makers’ agenda such as the IMF, ECB, FSB and BCBS. The scope of policy actions is to transform the shadow banking system into a resilient market-based financing to real economy, recognizing that by helping to complete markets - for instance - by giving firms new opportunity for raising capital when bank lending is unavailable, and providing lenders with more strategies for portfolio diversification, shadow banking might yield greater efficiencies and risk sharing capacity. This is even more relevant in Europe, where the banking system is struggling to provide adequate financing especially to the Small Medium Enterprises (SMEs). However, the lack of granular data – even for policy-makers- has so far limited the policy actions and interventions in the market. One key objective remains to avoid the build-up of risks we saw before the financial crisis. From an academic perspective, many theoretical works have been proposed to explain and interpret the functioning of this system, but the lack of data has so far prevented the possibility to empirically test them.
The objective is to enhance the Researcher's career in empirical macro-banking with a focus on shadow banking. The core output of the project is the construction of an extended dataset on shadow banking entities, for the longest period possible and for major world economies. The dataset as well as the results will be used in discussion and for engagement with public audiences, digital and traditional media, academics and policy-makers in international conferences, to ensure the best possible visibility and dissemination of the research and of the researcher.
The project started with literature review on banking and monetary policy transmission as well as the theoretical works on shadow banking, including the seminal works by Sunderam et al. (2014), Nagel (2016), Gennaioli et al. (2013). More recently, the growing theoretical literature has made a strong link between shadow banking and the production of safe collaterals, so that our list of literature references - which tended to see regulatory arbitrage as the main determinant of shadow banking - has been extended to consider this new perspective as well. Based on this literature, we focused on the most relevant theoretical hypotheses to test. On the basis of these, we identified the type of information we needed for our empirical analyses. The theoretical approach has guided us through the data tracking and collection and to some extend the macro literature has also helped support the identification of our empirical strategy, which had to combine micro and macro models.
It then successfully complete the collection of the relevant data on shadow banking entities and the preparation of the dataset for empirical analyses according to the “Plan for Data Collection” described in the proposal. To the best of our knowledge, we are the first to perform a detailed analysis of the credit intermediation activity of ABCP conduits. As these entities are bankruptcy-remote vehicles with no employees and no clear governance structure, all the available data has been carefully examined to understand the possible channel of transmissions of monetary policy changes. This exercise has allowed us to obtain a deeper understating of the micro-aspects of shadow banking, therefore providing us with the basis for a substantial contribution to the literature. We collected data both the USD and EUR ABCP markets, where both US and NON-US conduits were active before the crisis. When available, we collected monthly data, quarterly otherwise. The time horizon spans from January 2001 to June 2007 and from 2008 to 2017. Unfortunately, there no data available for months around the collapse (August 2007) as entities were not reporting information in those months. The dataset records the following information for our sample of conduits’ ABCP issuances at funding structure-level: ABCP issuances in USD and EUR; in one market/currency and both markets/currencies; of conduits holding US and EU assets (pools/sellers); and of conduits with US and non-US sponsors;

In addition, we also collected information at the entity-level on: i. Rating, ii. Liquidity provider(s); iii. Type: Repo, Arbitrage, Multi-seller, Single-seller; iv. Support: Full and Partial;v. country of assets; vi. sponsor-level (rating, country); vii. Liabilities: ABCP notes outstanding and maximum amount authorised; viii. Assets: number of sellers/pools, portfolio composition by rating and asset class; before moving on the empirical studies.

The results of the project are of interest to both academics and policymakers. It is important to central bankers on two accounts. First, it fosters the understanding of the shadow banking sector. Secondly, it provides evidence of the transmission channels of monetary policy to the shadow banking sector. All the results were presented at the conferences and seminar. The relevant papers are due to publish next year.
The project has proven timely. A further and better understanding of the impact of monetary policy decisions outside the traditional regulated banking sector is particularly relevant to the systemic risk. An increased reliance on the shadow banking system would reduce Central Banks' ability to inject liquidity into the economy. The evidence that our work presented has allowed us to understand more the fundamental transmission mechanism of interest rates through the shadow banking system in normal and in distress times. The results reveal the facts of post-crisis period. A better understanding of the risks inherent in the shadow banking system as well as an understanding of shadow banks' behaviour and incentives at times of monetary policy changes is particularly important today and to maintain investors’ confidence in financial markets. The results of this study are valuable also to investors, particularly to those seeking safe places for their short term cash holdings.
Casu - Gallo First Draft Abstract