Andrew Bailey: Private credit should have looser rules than banks
Bank of England governor Andrew Bailey has said regulation of the booming private credit sector should be more light-touch than traditional lenders despite the central bank’s fears that a blow-up of the industry remains one of the most significant threats to UK financial stability.
Bailey told an online event that the fallout from a banking collapse would have a far greater impact on the overall economic conditions of the UK than its private credit equivalent and that as result they should “regulate them differently”.
“The liability side of banks is money,” he said, meaning that in a banking crisis, households and businesses’ savings and their capacity to spend is by definition wiped out, and trust in the financial system eroded.
“Banks have money as their liability. Non-banks [private credit firms] have investment, and the two do get muddled,” he told the Financial Times’ Global Boardroom summit, adding: “I think we should be very much clearer that in the world of investment… people have to make money, but sometimes they will lose money as well.”
The comments from the central banking chief follow a period of heightened scrutiny on the private credit industry – also known as shadow banking – after a string of high-profile corporate collapses linked to the industry sparked fears of a sector-wide downturn.
Scrutiny on private credit sector grows
The sector, which has grown rapidly since the fallout from the 2008 financial crisis to become a core part of the world’s financial plumbing, has come under the gaze of central banks and regulators amid fears around their opaque lending practices.
Last week, the Bank of England announced it would carry out its first ever ‘stress test’ of the industry’s role in the UK economy, in a sign the the central bank was treating them more like traditional lenders.
And in their latest Financial Stability report, Bank officials also identified a sector-wide downturn in private credit as one of the main threats to the UK economy.
The industry has long held that despite their opacity, its loans pose less of a threat to the wider financial system, because of their long-term and closed nature. This reduces the likelihood of the kind of rapid contagion common in a banking crisis.
But previously, Bailey has warned the recent collapses of First Brands, Tricolor and Primalend suggest “something more fundamental” was going on in private credit markets, equating some of its riskier practices to those that foreshadowed the 2008 financial crash.
“We certainly are beginning to see… what used to be called slicing and dicing and tranching of loan structures going on and if you were involved before the financial crisis then alarm bells start going off at that point,” he told a House of Lords committee.
Central banks and regulators appear divided on how best to regulate the sector, amid fears investors were engaging in ‘financial arbitrage’ by capitalising on the looser restrictions on non-banks. United States officials have suggested the solution lies in lowering red tape on banks to put the two sectors on a more even footing. But European Central Bank president Christine Lagarde said watchdogs need to heighten their scrutiny on private credit funds.
Bailey said: “I worry that if we start getting into this arbitrage argument too literally, we lose the fundamental difference which is important on both sides. It’s important to have trusted money, that we have an investment world that isn’t overly hampered by this idea that we’ve got to protect the value of every investment.”