Maintaining the smooth circulation of funds in a constantly changing international setting
The changing funding and liquidity environment has significantly impacted non-bank financial institutions (NBFIs) in the UK and globally. The transition from the post-2008 era of very low interest rates and abundant central bank reserves to a normalized monetary policy has altered the availability and dynamics of liquidity in the financial system.
Traditionally, banks have played a significant role in providing liquidity to NBFIs. However, banks have become more selective in providing funding due to their own liquidity constraints and risk considerations, influencing NBFIs' access to liquidity. This shift is further accentuated by the growing importance of market-based finance, as NBFIs now play a more significant role in credit intermediation and liquidity provision, holding about half of global financial assets.
The structural shift introduces vulnerabilities such as sharp liquidity demand spikes, fire sales, procyclicality, interconnectedness, and potential opacity of some NBFI activities, which can propagate stress across the financial system if not properly managed. NBFIs’ business decisions on leverage and risk-taking are influenced by this new liquidity landscape, necessitating a balance to avoid unsustainable leverage and support financial stability.
Recognising these challenges, the Bank of England is actively addressing the liquidity needs of NBFIs. The Bank's Financial Policy Committee (FPC) monitors financial vulnerabilities related to NBFI leverage and their exposures, recognising that losses in the NBFI sector or rapid deleveraging could impair banks’ capacity to absorb market shocks.
The Bank is developing and enhancing surveillance and monitoring tools, including collecting comprehensive data on systemic institutions’ exposures to NBFIs and derivatives positions involving non-UK players, to better track systemic leverage risks. The Bank plans to engage industry participants through a Discussion Paper aiming to improve the resilience and functioning of the gilt repo market, a key liquidity channel for UK financial markets.
The Bank supports international policy efforts, such as the Financial Stability Board’s recommendations on NBFI leverage, emphasising cross-border cooperation and implementation of regulatory measures to mitigate systemic risks from NBFIs. Acknowledging the dual trends of monetary policy normalization and shifts in financial intermediation, the Bank of England aims to ensure liquidity provision by NBFIs supports ongoing vital services to households and businesses without encouraging excessive risk-taking.
In summary, the evolving funding and liquidity environment has increased the complexity and importance of NBFIs in financial intermediation while raising new types of liquidity risks. The Bank of England is addressing these challenges through enhanced monitoring, regulatory engagement, market resilience initiatives, and international cooperation to maintain financial stability amid these changes.
- The change in the funding and liquidity environment has influenced NBFIs' access to liquidity, as banks have become selective in providing funding due to their own liquidity constraints and risk considerations.
- As NBFIs now play a more significant role in credit intermediation and liquidity provision, holding about half of global financial assets, their business decisions on leverage and risk-taking are influenced by the new liquidity landscape.
- The Bank of England's Financial Policy Committee (FPC) monitors financial vulnerabilities related to NBFI leverage and their exposures, recognizing that losses in the NBFI sector or rapid deleveraging could impair banks’ capacity to absorb market shocks.
- The Bank is developing and enhancing surveillance and monitoring tools, such as collecting comprehensive data on systemic institutions’ exposures to NBFIs and derivatives positions involving non-UK players, to better track systemic leverage risks.
- The Bank of England aims to ensure liquidity provision by NBFIs supports ongoing vital services to households and businesses without encouraging excessive risk-taking, acknowledging the dual trends of monetary policy normalization and shifts in financial intermediation.
