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Europe's shadow bank sector needs closer scrutiny - Draghi

European Central Bank (ECB) President Mario Draghi attends a news conference at the ECB headquarters in Frankfurt, Germany September 8, 2016. REUTERS/Ralph Orlowski

FRANKFURT (Reuters) - Financial services are shifting away from banks in the euro zone to the so-called 'shadow banking' sector, requiring fresh rules across a range of areas to mitigate risk, European Central Bank President Mario Draghi said on Thursday. With traditional lenders suffering from weak profitability and stringent regulation, activity is shifting from banks to financial intermediaries, not subject to traditional bank regulation and not covered by usual deposit insurance schemes. "As financial intermediation continues to shift from banks to non-banks, we need to adapt our policy framework," Draghi said in his capacity as the head of the European Systemic Risk boars. "We need to identify migrating risks and develop tools to mitigate them." Draghi said that rising liquidity mismatches, especially among some bond funds is a particular concern as the share of non-liquid assets is rising rapidly. Changes in the derivatives market, possibly a central clearing obligation, could also be required, "The ESRB believes that the smooth functioning and systemic resilience of derivatives markets can be improved by requiring standardised over-the-counter contracts to be centrally cleared and traded on exchanges or electronic trading platforms," Draghi added. Another policy under consideration is the macroprudential use of margin and haircut requirements on certain financial products. "Setting margins and haircuts in a conservative or countercyclical manner may help to contain the excessive build-up of leverage," Draghi said. "In addition to 'leaning against the wind', margin and haircut requirements can also improve financial stability by mitigating illiquidity spirals. Draghi also dismissed arguments that the ECB's ultra low interest rates are the key profitability hurdle for banks, arguing that overcapacity in the sector and inefficiency were key issues. "Overcapacity in some national banking sectors, and the ensuing intensity of competition, exacerbates this squeeze on margins," Draghi said. "Such over-capacity also means the sector does not operate at the efficient frontier, which is one reason why cost-to-income ratios remain high in some countries." (Reporting by Balazs Koranyi; Editing by Toby Chopra)