British banks could withstand the impact of Britain crashing out of the EU with no deal, the Bank of England said, but it has asked them to put aside an extra £6bn in capital to guard against other macroeconomic risks.
“In our judgment, banks are now resilient to the risks of a disorderly Brexit,” said Mark Carney, BoE governor, on Tuesday. “The question is: what if something else were to happen at the same time?”
Other “material” risks might include problems with the expansion of consumer credit, global debt levels, asset valuations and misconduct costs.
Consequently, the BoE raised the so-called counter-cyclical buffer by half a percentage point, to 1 per cent, or about £11.4bn in aggregate, warning that it would be reviewed again next year. The buffer is intended to force lenders to put aside more capital during good times to draw down upon in bad.
The BoE made the move as it released the results of its annual banking stress tests. The tests subjected banks to scenarios including a fall in UK house prices of 33 per cent, unemployment of 9 per cent, and interest rates of 4 per cent, and a drop in UK gross domestic product of 4.7 per cent. These were judged by the bank to be plausible if the UK crashes out of the EU in March 2019 with no deal.
Barclays and the Royal Bank of Scotland were shown in the stress tests to be the weakest lenders, and would have failed if they had not already taken remedial action. But no bank will have to raise more capital as a result of the tests, a first since their inception in the UK in 2014.
While the BoE is confident the banks are relatively well prepared, it still harbours concerns over the risks of a disorderly Brexit, which although “unlikely” in the BoE’s estimation, would have “an effect on households and businesses”.
“There will be pain associated with that,” Mr Carney said. “This is about minimising that, dampening that.”
The central bank sounded the alarm on the legal uncertainty that could void vast amounts of financial contracts, from £26tn of outstanding derivative contracts to the insurance policies of 6m Britons and 30m Europeans.
To “catalyse action”, it published a four-point checklist, from making sure secondary legislation that covers granular detail concerning these contracts is passed in time — in both the UK and the EU — to repeating calls for a transitional arrangement to be secured as soon as possible. The BoE has said an implementation period of at least 24 months is needed to mitigate the effects on the financial-services sector.
Regulators have previously said an agreement needs to be in place by Christmas so financial services groups do not start moving operations.
European companies are also affected. The BoE’s Prudential Regulation Authority will detail before the end of the year how it will deal with the wave of authorisations from about 160 banks and insurers based in the EU, which will need to apply for fresh authorisations in the UK after Brexit.
The PRA has already said that it expects EU banks with a strong retail presence in Britain to establish subsidiaries in the UK, which requires ringfencing capital and liquidity and having senior managers accountable in London.
Warning that European groups also stand to lose from a hard Brexit, it said markets could seize up unless clearing houses in London — where about 80 per cent of interest-rate swaps are cleared — are “recognised” by EU regulatory authorities post-Brexit, meaning that European banks can continue doing business through them.
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