Banks' lending and borrowing activity with non-bank financial institutions, such as investment funds and hedge funds, has risen sharply, according to the Bank for International Settlements.
BIS said in its quarterly review that non-bank financial institutions are increasingly integrated into the funding and lending patterns of international banks, with banks sourcing more of their funding in international currencies from such institutions.
Non-bank financial institutions include securities brokers, investment funds, hedge funds, special purpose vehicles and central counterparties. The category also includes development banks and export credit agencies.
This sector is also a growing counterparty for bank lending, said BIS, though banks' positions with such institutions are concentrated in a few countries, especially financial centers.
Growing claims
Banks' cross-border claims on non-bank financial institutions increased to 35% of their total claims at the end of March, up from 30% at the end of March 2016. This equates to a rise to $6.6 trillion from $4.8 trillion.
The share of banks' foreign claims — or claims of a domestic bank on non-residents of the reporting country — on non-banking financial institutions rose to 20% from 18% during the same period.
Just four banking systems, those in the U.S., Japan, the U.K. and Canada, accounted for 70% of all banks' total foreign claims on such institutions in 2019.
Banks also have substantial exposure to non-financial counterparties, which include governments, households and non-financial corporations, particularly those in advanced economies.
Funding in international currencies
Banks have also turned to non-banking financial institutions for funding in international currencies with the share of their cross-border U.S. dollar, euro and sterling liabilities to such institutions increasing over the past four years.
Banks' dollar liabilities to these institutions were heavily concentrated in those located in the U.S., the Cayman Islands and the U.K., with the three locations accounting for close to 70% of their total dollar liabilities to all such institutions in 2019.
Banks' euro liabilities to such institutions were less concentrated, but those located in four countries, the U.K., U.S., Luxembourg, and Italy, accounted for about 60%.
Therefore, BIS warned, banks' funding in international currencies could be significantly affected by the behavior of just a few non-bank financial institutions in a few key locations.
Counterparties
Banks' most significant non-financial counterparties are non-financial corporations and governments. They accounted for roughly 40% each of banks' foreign claims on the non-financial sector at the end of March 2019.
Banks' exposure to the household sector typically includes mortgage lending, and 21% of banks' foreign claims were on households at the end of March.
Households are an important source of funding for banks and are net creditors to banks in both local and cross-border positions, BIS said.
French banks had the largest credit exposure to non-financial corporations at about 30%, while U.K. banks' exposure stood at just over 20% and 19% of U.S. banks' foreign claims were on non-financial corporations.
Government debt is a central element of banks' balance sheets, said BIS, and at the end of March 2019 more than a quarter of banks' consolidated foreign claims were on official counterparties, including the central bank. Japanese, U.S., U.K. and French banks reported the largest exposure to the official sector, with the share of the official sector in total credit exposure ranging from a quarter to a third.
