Ratings firm Fitch has expressed concern about a global rise in shadow banking, which it says risks financial stability.

It notes the stronger position of the regulated banking sector since the financial crisis, with larger capital reserves and liquidity, while implementing more conservative underwriting standards.

It also highlights the rise of shadow banks since the crisis, driven by bank regulation, low interest rates, the favorable economic backdrop and the growth of financial technology.

This growth, says Fitch, is a risk to the financial system. And Canada has seen the third largest growth among developed economies.

“These could include direct and indirect exposures faced by banks, insurance companies and pension funds, reduced financing availability for banks and non-financial corporate borrowers, and increased asset price volatility,” Fitch says.

Not that the non-bank sector has to be a risk; it could be a positive for the financial system “if it provides additional sources of credit and liquidity to support economic growth.”

Fitch adds that how the shadow banking sector performs during the next credit cycle will determine whether is could actually be better for the financial system than traditional banks.

How the shadow sector has grown
Shadow banking, or credit intermediation or liquidity transformation that takes place outside of banks, central banks, public institutions, insurance companies and pension funds, stood at $52 trillion globally or 13.6% of total financial assets at YE 2017 (according to the Financial Stability Board).

In 2010, this sector was worth $30 trillion.

The US had the largest share of assets at YE2017 at 29% ($14.9 trillion) although this was down from 48% in 2010.

The growth (CAGR) of the sector in Canada between 2010 and 2010 was 12.2%, behind the Cayman Islands (25.7%) and Hong Kong (21.4%) but well above economies such as the UK (8.3%), Australia (5.9%), and the United States (0.8%).

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