A Crisis of the Overcrowded Future: Shadow Banking and the Political Economy of Financial Innovation

Abstract

This article focuses on the role the shadow banking system played in the financial crisis of 2007–9. Engaging with emergent theories of shadow banking, I inquire into its structural role in contemporary capitalism. My main premise here is that the crisis of 2007–9 is distinct in financial history because it did not centre on any organised market. Rather, it was crisis of the overcrowded financial channels bridging the present and the future, which have become congested because of the massive concentration of financial values generated, yet not sustained, through the shadow banking network. My analysis suggests that shadow banking has determined the nature of financial crisis of 2007–9 and continues to play a necessary role in financial capitalism based on futurity. Drawing on scholarship in financial Keynesianism, contemporary legal studies and early evolutionary political economy, I argue that shadow banking is best seen as the organic institutional infrastructure of financialised capitalism based on debt and geared towards futurity, a concept originally developed by John Commons.

Keywords:

• shadow banking
• securitisation
• financial innovation
• debt
• futurity

Acknowledgements

The author is grateful to Photis Lysandrou, Duncan Wigan, Ronen Palan, Colin Hay and two anonymous referees for their feedback on earlier versions of this article.

Notes on contributor

Anastasia Nesvetailova is Reader in IPE at City University London and Director of City Political Economy Research Centre (CITYPERC).

Notes

1. SIVs can either be affiliated with a single banking institution or obtain support from multiple institutions. Adrian and Ashcraft (2012a) report that since 2008, SIVs have stopped operating.

2. Commercial paper collateralised by a specific pool of financial assets. The bankruptcy remoteness of all of these entities implies that the collateral backing the ABCP is exempt from the potential bankruptcy of the institution that provides the backup lines of credit and liquidity (Adrian and Ashcraft 2012b).

3. Bloomberg reported that BNP Paribas joined Bear Stearns and Union Investment Management GmbH in stopping fund redemptions. On the same day, Dutch investment bank NIBC Holding NV announced that it lost at least 137 million euros on US subprime investments in 2007. On 29 August 2007, BNP Paribas would reopen the funds; one only of them, BNP Paribas Eonia, would formally close as the result of the crisis.

4. According to Investorpedia, a CDO is

a structured financial product that pools together cash flow-generating assets and repackages this asset pool into discrete tranches that can be sold to investors. A collateralized debt obligation (CDO) is so-called because the pooled assets – such as mortgages, bonds and loans – are essentially debt obligations that serve as collateral for the CDO. The tranches in a CDO vary substantially in their risk profile. The senior tranches are relatively safer because they have first priority on the collateral in the event of default. As a result, the senior tranches of a CDO generally have a higher credit rating and offer lower coupon rates than the junior tranches, which offer higher coupon rates to compensate for their higher default risk.

As many as five entities are involved in the creation of a CDO: (1) securities firms, who approve the selection of collateral, structure the notes into tranches and sell them to investors; (2) CDO managers, who select the collateral and often manage the CDO portfolios; (3) rating agencies, who assess the CDOs and assign them credit ratings; (4) financial guarantors (underwriters), who promise to reimburse investors for any losses on the CDO tranches in exchange for premium payments; and (5) investors such as pension funds and hedge funds. Source: http://www.investopedia.com/terms/c/cdo.asp.

5. www.thehedgefundjournal.com/sites/default/files/hfj-us50-2012.pdf (accessed 21 July 2014).

6. http://www.blackrockinvestments.com.au/AboutUs/Overview/index.htm (accessed 21 July 2014).