Major UK lenders all pass BoE stress tests

UK lenders are strong enough to withstand deep recessions at home and abroad but would struggle to stay afloat without slashing staff bonuses and shareholder payouts, the Bank of England has warned.

The central bank also announced it was increasing capital requirements for banks by doubling the size of the so-called countercyclical capital buffer from 1% of risky assets to 2%. The move increases the size of the rainy day fund that would help lenders absorb up to £23bn of losses that might otherwise force the banks to restrict lending.

It is the third year in a row that all of the UK's major high street banks have ' passed' the Bank's annual financial sector health check, which determines whether individual banks could keep lending to households and businesses during a recession. It means that none of the lenders will be forced to raise billions of pounds in capital to strengthen their finances, despite coming into the tests with weaker underlying profits.

However, the Bank of England warned that the seven lenders - Royal Bank of Scotland, Barclays, HSBC, Lloyds, Standard Chartered, the UK arm of Santander and Nationwide building society - are relying more heavily on their ability to cut dividend payments, banker bonuses, and coupon payments on their corporate debt in order to pass the tests. During the first two years of a severe downturn of this kind, banks would have to make cuts worth a combined £41bn.

"Investors should be aware that banks would make such cuts as necessary if a stress were to materialise," the central bank said. The lenders were tested against a crisis scenario involving a 4.7% fall in UK GDP, a rise in unemployment to 9.2%, a 33% drop in house prices, an increase in interest rates to 4% and a near30% drop in the value of the pound versus the US dollar.

The scenario was broadly the same as last year and is believed to simulate the effects of a worst-case no-deal Brexit. However, this year's test assumed a more severe global downturn, with rising debt levels taking a bigger toll on the US, Chinese and eurozone economies. That is partly down to rising levels of riskier loans offered to companies, known as leveraged lending.

UK banks are exposed to roughly £90bn worth of those risky loans. The Bank of England governor, Mark Carney, said: "The sharp build-up in leveraged lending, particularly into the United States, the releveraging of corporate America, is an area where we do see there has been a steady build-up of risk. The quality of those loan books has deteriorated."

The test is meant to be present a more severe set of circumstances than the 2008 global financial crisis and were first conducted in 2014.

Carney said the likelihood of a no-deal Brexit had fallen following the general election, which saw Boris Johnson secure a large Tory majority in parliament. Johnson has said he still expects to secure a deal.

"The probability of that scenario has gone down because of the election results and the intention of the new government. But the scenario itself and the risks which we protect the system against has not itself changed, it's just become less likely. "What people would expect us to do is to continue to ensure that the system is ready."

Last year, Barclays and Lloyds came close to failing the Bank's stress tests based on their core capital levels - a key measure of a bank's underlying financial strength - but some of their debt were converted into equity in the crisis scenario, giving them more breathing space.

A separate stress test run by the Bank this year fully applied new accounting standards set to come into full force in 2023. Lloyds and Barclays capital fell below the level that triggers a similar conversion of debt into equity.

Next year the tests will for the first time include the Clydesdale and Yorkshire Bank owner CYBG after its merger with - and rebrand to - Virgin Money. All of the banks will also have their ringfenced retail operations tested separately - meaning that a domestic downturn may end up hurting one part of the bank more than the other.