Maintaining Fluidity of Financial Transactions in a Changing Worldwide Scenario
In the evolving financial landscape, the role of non-bank financial institutions (NBFIs) has grown significantly, providing essential services to households and businesses. This shift has led the Bank of England to reconsider its approach to funding and liquidity, focusing on balancing support for market-based finance provided by NBFIs with safeguarding against systemic risks.
Primary responsibility for managing liquidity risks lies with financial institutions themselves, including banks and NBFIs. Banks play a crucial role in providing liquidity to NBFIs. However, the new funding and liquidity landscape necessitates a focus on recognizing the expanded role of market-based finance and integrating it with monetary policy normalization.
The Bank of England has outlined several key principles to address this changing landscape. These principles aim to account for NBFIs' increasing liquidity demands, avoid unsustainable risk and leverage, enhance financial system resilience, recognise structural differences between banks and NBFIs, and monitor and address systemic risks.
One of the critical challenges in this new landscape is ensuring that liquidity flows to NBFIs as well as banks. Unlike banks, NBFIs cannot hold central bank reserves, which affects their liquidity management and the types of risks they pose. The 'new normal' for funding and liquidity needs to take account of the growing importance of market-based finance.
The resilience of core private sector funding markets to stress is crucial, as they underpin a wide set of transactions supporting the provision of services to households and businesses. The Bank of England encourages and welcomes routine usage of its facilities in normal times to make them more effective in stress. Market participants, including NBFIs, should maintain their own liquidity resilience to enable core private sector funding markets to self-stabilize in response to shocks.
The Bank of England's overarching goal is to deliver its core statutory objectives of monetary and financial stability. It aims to create a funding and liquidity environment that incentivizes banks and NBFIs to participate actively in private sector funding markets, rather than hoarding liquidity excessively. Microprudential liquidity regulation and banks' liquidity management practices have improved substantially since the 2008 financial crisis.
Monetary control is crucial, and it can be achieved under various operating frameworks, some of which may be more robust than others to account for unanticipated shifts in demand for reserves. The central bank encourages coordination with international bodies like the FSB to track NBFI systemic risk build-up, especially considering their different regulatory frameworks, business models, and increasing interconnections.
In essence, the Bank of England is adopting a forward-looking and integrated approach to funding and liquidity in the era of growing NBFI importance, aiming to support vital market-based finance while safeguarding against systemic risks that could threaten overall financial stability.
- In the changing financial landscape, balancing support for market-based finance provided by Non-Bank Financial Institutions (NBFIs) with mitigating the systemic risks posed by these institutions becomes crucial.
- Recognizing the growing importance of market-based finance, Non-Bank Financial Institutions (NBFIs) should maintain their own liquidity resilience, enabling core private sector funding markets to stabilize during stress.
- For sustainable financial stability, AI and data insights can be employed to monitor and address systemic risks associated with NBFIs in public policy and investing.
- In the era of growing NBFI importance, fostering an environment that encourages active participation of banks and NBFIs in private sector funding markets becomes paramount for the overall health of the business sector.
- The Bank of England collaborates with international bodies like the Financial Stability Board (FSB) to track NBFI systemic risk build-up, ensuring a robust structure to manage the risks in the AI-driven, sustainable finance landscape.
