Regulators have increased their scrutiny of the sector since the Global Financial Crises, but data weaknesses remain a threat to fully understanding the vulnerabilities and potentially when and what action to take.
The Global Financial Crisis (GFC) revealed the vulnerabilities and risks being run by Non-bank Financial Intermediation (NBFI) (then called shadow banking),and led to the creation of the Financial Stability Board (FSB) in succession to the Financial Stability Forum.
The FSB has monitored the vulnerabilities within NBFI since the GFC and has made various recommendations to limit the vulnerabilities that pose a risk to financial stability. The FSB’s latest progress report Enhancing the Resilience of Nonbank Financial Intermediation indicates the policy elements are now largely complete, and that the focus is now ongoing monitoring, filling data gaps and information sharing between authorities.
NBFI issues and risks to financial stability are now also a regular feature of central bank stability reviews, as in the Bank of England’s July 2025 Financial Stability Report , where it discussed the vulnerabilities (eg posed by leverage) and the actions it has and is taking to deal with them.
But first who are NBFI entities and their significance?
The financial system is a complex web of different markets and entity types that provide, at a basic level, payment services, the intermediation or transfer of savings to borrowers and risk management. The system includes a panoply of different types of bank, and NBFI entities, including insurers, pension funds, a multitude of different fund types, broker/dealers, and a range of other credit providers.
NBFI is an important part of the financial system. It provides an alternative source of diverse credit products, offers different savings options to those of traditional banks and provides a range of risk management services. It can enhance consumer choice, help innovate, drive down pricing through competition and help promote resilience and the efficiency of the financial system. But NBFI entities have many of the same vulnerabilities as banks and arbitrage (including of rules) is a staple of many hedge funds . Some entities are highly regulated, such as insurers; others like private equity are subject to limited oversight.
NBFI is significant! The FSB’s most recent Global Monitoring Report, which assesses NBFI trends, found that the sector was growing twice as fast as the banking sector and accounted for around 49% of total global financial assets at the end of 2023, up from 46% at the end of 2009. The UK trend is similar: 49% up from 42% at the end of 2009.
The financial system is complex and highly interconnected, and in ways that may not be obviously apparent. Crystallised risks within NBFI may therefore readily propagate round the system with the potential for significant and widespread disruption affecting multiple markets, their participants and overall instability. As much financial intermediation, both banking and non-banking, also operates cross border, no single jurisdiction may be capable of obtaining a complete view of the vulnerabilities – hence the importance of the role of the FSB.
NBFI vulnerabilities and actions taken
The FSB’s monitoring is focused on four key areas and which should not be a cause of surprise. However, given the different models of NBFI entities the vulnerabilities will manifest to different degrees of significance.
Although dominated by the banks, the first area is credit intermediation. The assets of some NBFI entities will be relatively credit risk free, such as Money Market Funds invested in Gilts or high- quality CDs. Other entities can carry significant credit risk such as real estate or private equity funds. In general, where assets are longer term and illiquid they are harder to value and the valuation more uncertain.
Second, many funds and non-bank lenders will engage in maturity transformation creating funding and liquidity exposures. This can be significant in some cases – eg using short term wholesale funding to support significant investment in long term infrastructure projects. Secured borrowing and derivatives will require collateral to be posted which, if its price falls, will trigger additional margin calls.
Third, leverage is often employed as a means of enhancing returns. But as leverage rises, any asset losses and falling profitability are borne by a smaller portion of equity. Highly leveraged entities can be significantly exposed to sudden price falls or increasing defaults. Both the FSB and the Bank report that leverage has continued to rise within NBFI.
The Liability Driven Investment (LDI) episode in September 2022 illustrated the consequences of leverage using repo funding. Following a sharp rise in gilt yields and a fall in collateral values, many pension schemes came under pressure to sell gilts to meet margin calls, thereby creating a cycle of further falls in collateral values and more margin calls.
Finally, as noted above, the participants in the financial system are connected in many complex and opaque ways. Crystalised risk can be readily transmitted to the banking sector as it provides much of the funding to the NBFI sector (eg via prime brokerage services) and transmitted across borders.
The regulators, both domestically and internationally, have taken action taken to enhance resilience. They have improved data collection to understand the risks and enhanced disclosures to instil greater market discipline. They have changed how markets operate to enhance their stability, such as requiring central clearing or raising margin requirements (eg the Bank will publish a DP later this year seeking views on potential measures for the UK Gilt repo market). Some actions have targeted particular entities to constrain the size of the risk (eg limiting leverage or the FCA launched a consultation to increase MMF’s minimum level of highly liquid assets). Other actions have imposed requirements on bank lenders (eg to manage the risk or set limits on exposures to NBFI). Finally, central banks have introduced new liquidity facilities (eg the Bank commenced a new Contingent NBFI Repo Facility in January this year).
As the vulnerabilities differ in significance across different NBFI entities and as those entities are subject to differing levels of regulatory supervision, the authorities typically use a combination of actions.
Data gaps remain a risk
Being able to monitor effectively the NBFI sector relies on the ability to collect good data – ie relevant and reliable. In the absence of good data it is difficult to know where the vulnerabilities are, how they are evolving, and when they might be about to go critical.
By relevant and reliable we mean knowing what data or information to collect; that the data completely captures the necessary information to monitor the risks; that like -for-like information is collected consistently across firm types, jurisdictions and time periods; that the data is collected on a timely basis; and that the information is accurate and free from error. There is a need for a clear taxonomy and a sufficiently rigorous collection process.
Data gaps were identified in the immediate aftermath of the global financial crises and work has been ongoing ever since to deal with them. The FSB has described four weaknesses. Firstly, data is not available to the regulators, because for example there is no requirement that the data be collected or reported. Private equity is not subject to the extensive reporting that banks or insurers undertake. Second, the data is of poor quality. So, it is incomplete, inaccurate, or not relevant. Third, a lack of resources or common methodologies might mean it is not possible to fully exploit the data. And finally, there are data information sharing issues, such as legal restrictions which prevent the sharing of information to the detriment of forming an aggregate picture. This is a particular problem for NBFI that operates across borders.
A further issue is that the financial system is dynamic and constantly innovating (eg Fintech and digital assets are fundamentally affecting the nature of banking and financial operations). This means new and different data might need to be collected to understand whether new vulnerabilities are being created. It will take time to establish what data needs to be collected and how to assess it.
Moreover, data collection is incremental as a practical and pragmatic expediency. As it can be costly for entities and regulators to collect, report and collate data, limited data may initially be collected to keep the burden manageable. More data may be collected later if the vulnerabilities are seen as significant or that they may become significant. The cost of reporting also introduces pressures to reduce data collection, which may lead to a loss of awareness of the vulnerabilities.
Problems may not immediately disappear once the data gaps have been filled. It may take time for a consistent time series to be created over which trends can be observed. Likewise, it may take time for the data to be recalibrated to determine the point which indicates the regulators need to act.
Data also needs to be trusted to be used. Regulators may need time to get comfortable, especially if biases or prejudices have become ingrained and that are not supported by the picture presented by any new data.
Comment
Fifteen years of data gaps is a long time – although in part this is due to the evolving nature of the financial system, experience from events such as the LDI stress, and pragmatism and practicalities given data collection costs and the scale of challenge. It seems likely that data gaps will persist for at least a few more years, and we may need to accept we will never attain complete perfect data.
The question it raises is, how long do regulators have to close the gaps to minimise the risk they fail to spot the next potential crisis before it happens and take action? There have been mini crisis along the way, Regulators have taken actions to improve resilience, but the likelihood of a big blow up increases with time, and in particular if there is a significant deregulation agenda as the memories of the Global Financial Crisis fade. It is to be hoped a significant issue is not currently moving under the radar. If regulators are successful in their role we will fortunately never know!
