The three were found to be lacking financial strength by the BoE after being subjected to tests to assess their ability to withstand another financial crisis.
Following on from the EU-wide stress test, the 2014 UK stress test of the eight major UK banks and building societies (Barclays Bank, Co-operative Bank, HSBC Bank, Lloyds Banking Group, Nationwide Building Society, Royal Bank of Scotland, Santander UK and Standard Chartered) was designed specifically to assess their resilience to a "very severe housing market shock and to a sharp rise or snap back in interest rates". This was not a forecast or expectation by the Bank of England regarding the likelihood of a set of events materialising, but a coherent, severe 'tail risk' scenario.
To test the banks the BoE created a hypothetical scenario involving a deep recession, a 35% fall in house prices, 12% unemployment and a 4.2% interest rate.
There was substantial variation across the banks and building societies in terms of the impact of the stress scenario. From an individual-institution perspective, the Prudential Regulation Authority judged that this stress test did not reveal capital inadequacies for five out of the eight participating banks, given their balance sheets at end-2013 (Barclays, HSBC, Nationwide, Santander UK and Standard Chartered). The PRA Board did not require these banks to submit revised capital plans.
It found that the Co-op Bank would have its capital “exhausted” under the most severe stress test and as such the lender will now be required to submit new plans to demonstrate how it will reduce risks.
RBS, which passed the test, would also have been required to submit new plans had it not started increasing its capital buffers at the end of 2013, which was the starting point for the tests.
Lloyds will not be required to submit new plans although it may now face questions about its ability to resume paying dividends to shareholders.
Overall, the FPC judged that the resilience of the system had improved significantly since the capital shortfall exercise in 2013. Moreover, the stress-test results and banks’ capital plans, taken together, indicated that the banking system would have the capacity to maintain its core functions in a stress scenario. Therefore, the FPC judged that no system-wide, macroprudential actions were needed in response to the stress test.
Mark Carney, Governor of the Bank of England, said: “The stress test completes our capital framework by informing judgments about the appropriate size of capital buffers for individual firms and for the system as a whole. It is a major component of both our macro- and micro-prudential regimes. As a joint exercise between the PRA and FPC, it demonstrates the major synergies possible across the Bank of England. This was a demanding test. The results show that the core of the banking system is significantly more resilient, that it has the strength to continue to serve the real economy even in a severe stress, and that the growing confidence in the system is merited.”
