Major global banks are progressively pulling out of various countries and business areas in an effort to focus on activities that generate a sustained return on equity in excess of their weighted average cost of capital. Indeed, the latest IMF estimates suggest deleveraging by large EU-based banks could total as much as $2.6 trillion between September 2011 and December 2013. As a result, bank sales of non-core asset books, for example to sovereign wealth funds and private equity houses, will continue to grow.
Disintermediation is more evident too. In the 1980s, one of the great concerns for banks was how to counter disintermediation in corporate banking activities. In the current environment this is once again increasing, with corporates able to raise finance via the bond markets at cheaper rates than they can obtain from banks, which have to weigh prudential risk restrictions into the business they conduct.
The use of new technologies to provide internet-based bilateral services, which match depositors with borrowers, poses another threat to the banking industry’s model. However, conduct of business risks in this area are yet to be fully articulated or understood.
A decade before the 2008 financial crisis, the greatest threat to global stability came from the failure of a major hedge fund, Long Term Capital Management (LTCM). The danger stemming from the current focus on intensifying banking regulation is that, by propelling activities into the ‘shadow banking’ arena, the next crisis may be more akin to LTCM than that of 2008.
Regulators and those responsible for financial stability are increasingly vocal about the need to more effectively regulate these large and largely unmonitored entities. Nevertheless, this will present real challenges, not least because it is hard to be prescriptive about definitions of shadow banking.