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Shadow banking tops pre-crisis levelMARTIN ACOSTA/Reuters

The shadow banking system, the host of lightly regulated entities that compete with banks to provide credit, is bigger than it was before the financial crisis, despite growing efforts by regulators to rein it in, a report from the Financial Stability Board shows.

The FSB study of the 11 largest economies with significant shadow banking found the sector, which previously peaked at $50-trillion in 2007, dropped to $47-trillion in 2008 but is now back up to $51-trillion. It now constitutes more than a quarter of the entire financial system and is about half the size of traditional banks.

The rapid growth of non-bank credit in the years 2002 to 2007 has been seen as a key source of the 2008 crisis because it fostered a rapid rise in debt and tremendous asset price inflation. Regulators fear it remains a major threat to long term stability, particularly as more activities move out of the traditional banking sector to escape tighter regulation there.

The study is part of a worldwide effort to monitor shadow banking so that regulators will be able to rein it in future. The FSB announced it will monitor the sector annually. It said it and other global regulators will publish a series of studies and recommendations over the next 18 months that address different parts of the sector, including money market funds, securitization, securities lending and short-term secured lending known as "repo" as well as other shadow banking entities. They are looking at how regular banks interact with their shadow counterparts.

The U.S. has the largest shadow banking sector at $24-trillion, according to the FSB but its overall share of the global shadow banking sector has declined since 2007 from 54 to 46 per cent. Money market funds, the most visible part of the sector, have declined from $4.8-trillion before the crisis to $3.9-trillion.

Other kinds of investment funds that extend credit, through direct lending to companies and other means, are the single largest part of the shadow banking sector, with 29 per cent of the assets, and structured finance vehicles come second with 9 per cent. "This is an important step towards understanding developments, trends and risks in the complex world of shadow banking," said Jaime Caruana, who chairs the FSB committee on assessing risks.

With the shadow banking system growing and changing by the day, the FSB said regulators will focus their efforts on entities that use lots of borrowing, those that take in short-term money but lend it for longer periods – a process known as maturity transformation – and those that might destabilize markets by selling lots of hard to value assets quickly.

"With regulation on banks tightened, it is important to address systemic risks – such as maturity transformation and leverage – arising from the shadow banking sector and its interaction with the regular banking system," said Lord Turner, the U.K. regulator who is heading up the FSB task force on shadow banking.