Seven of the UK’s largest financial service providers banks have been advised to set aside extra capital as a buffer against financial shock, following the latest stress testing by Britain’s central bank, the Bank of England, it was reported on Tuesday.
This is the second year running that the bank of England has carried out stress testing of major lenders in the UK, which measure whether they would survive economic problems. During the latest tests, it was assumed that oil had fallen to $38 per barrel and that the global economy had slumped. The hypothetical scenario also assumed a dramatic slowdown in the Chinese economy, prolonged deflation, a reduction in interest rates to zero and a huge increase in costs for fines and legal bills of £40bn. The test indicated that profits would fall more than they had done during the 2008 banking crisis, but capital cushions remained strong enough to withstand the downturn while increasing credit to the economy by 10%.
Royal Bank of Scotland and Standard Chartered were found to have the least capital strength, but as each bank had taken steps to raise capital, they were not required to put new measures in place. However, all seven banks were advised that the Bank of England is phasing in a new measure known as a “countercyclical capital buffer”, which requires financial service providers to ensure that extra capital is available that will allow more room in times of economic decline to absorb losses from bad loans and other problems.
Banks are required to allocate more money to protect against lending losses in the UK, but some of this will be brought in from other reserves that the banks already have. The regulator will advise banks when to fill the buffer, setting aside reserves during stable times in the economic cycle.
Bank of England Governor Mark Carney stated at a news conference: “We will not increase capital… the overall level of capital won’t increase in the system. Large capital raisings are off the agenda and banks largely have or have access to the reserves they need”.