Lenders gear up for loosening of capital rules by Bank of England

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British banks expect their capital requirements to be eased as a result of a landmark review to be published by the Bank of England next week.

Pressure has been mounting on the central bank to give lenders some relief on capital, after calls by ministers and City of London executives for a more pro-growth approach to free up more lending and as the US waters down banking regulation.

Chancellor Rachel Reeves this week wrote to BoE governor Andrew Bailey welcoming its review of capital requirements, and calling for the central bank to find ways to “increase the ability of the financial sector to contribute to sustainable economic growth”.

The BoE’s Financial Policy Committee will deliver its first assessment of the capital framework for six years on Tuesday, alongside results of lenders’ annual stress tests of their balance sheets. The capital review is expected to conclude its rules are more stringent in some areas than other jurisdictions, including the US and EU.

A senior executive at a large UK bank said the sector will be watching Tuesday’s assessment more closely than even this week’s Budget, when banks were spared an increase in the sector levy.

One person familiar with the results of the assessment said it found the UK’s leverage ratio was higher than in other countries, particularly as the US is already easing rules in this area.

The leverage ratio is a blunt measure that requires banks to have a fixed amount of capital in proportion to their overall assets, rather than measuring those assets by risk.

Larger UK banks must meet a minimum leverage ratio of 3.25 per cent, plus extra buffers based on their systemic importance and other considerations, all of which can push the overall requirement just above 4 per cent for big lenders.

Banks also complain the UK is an outlier on its so-called countercyclical buffer — a “rainy day” amount of extra capital that can be released in a crisis. This buffer has been set at 2 per cent of UK banks’ risk-weighted assets since 2019.

That is well above equivalent requirements of 1 per cent in France and Spain, 0.8 per cent in Germany, and 0.5 per cent in Hong Kong and Switzerland. The US does not have a countercyclical capital buffer for its banks.

“We continue to think this [BoE capital review] is likely to be a positive catalyst for the UK banks, both in terms of a potential reduction in capital requirements but also in terms of a reduced cost of equity,” said Christopher Cant, bank analyst at research house Autonomous.

Jonathan Pierce, banks analyst at Jefferies, predicted the BoE could lower its tier one capital requirement from 14 per cent to between 13 and 13.5 per cent, adding this could boost dividends and share buy-backs by UK banks.

The UK banking system had total tier one capital equal to 17.8 per cent of risk-weighted assets in the second quarter, well above the BoE’s assessment of the optimal level of 13.5 per cent.

Any changes to BoE capital rules are likely to take at least several months to happen and the regulator could start by consulting on various ideas for reform, two people familiar with the process said. The BoE declined to comment.

The UK government has meanwhile been pushing the BoE and other financial regulators to ease their restrictions on banks to support economic growth and competitiveness.

Reeves said in her annual remit letter to the FPC this week that it “should identify actions that could support the supply of long-term capital for productive investment, particularly for high growth-potential firms seeking to scale up”.

Sarah Breeden, BoE deputy governor for financial stability, recently hinted the central bank was considering an easing of its leverage ratio requirements for banks.

She said that she had not expected the leverage ratio to be “routinely binding on firms” when it was introduced a decade ago. “When we look at the UK banks right now, we can see that it is binding for quite a few of them,” she added, questioning whether the system was “operating as we expected”.