Lenders are to undergo extreme stress testing by the Bank of England

The Bank of England (BoE) is preparing to test eight UK lenders to see if they can absorb sharp falls in the housing market and rises in interest rates.

The test is to see if the lenders can withstand a 35% fall in house prices and an interest rate rise to 5%. This is not a prediction of anything to come, but part of a future examination by the EU’s banking regulator to increase the resilience of the European financial system to extreme market forces. Other economic forces will include a fall in GDP by 3.5% and a rise in the unemployment rate to 12%.

During the last banking crises and recession house prices fell by approximately 20% in the UK, so this really will be a tough test to pass.

The Lenders to be tested by the Bank of England’s Prudential Regulation Authority are:

• Barclays
• HSBC
• RBS
• Lloyds
• Co-operative
• Nationwide
• Santander (UK)
• Standard Chartered

The Treasury confirmed “The government created the new regulatory system in order to build a resilient economy and avoid repeating the mistakes of the past. Building strong and resilient banks is a core part of our long-term economic plan.”

Mark Carney, the Governor of the BoE said “much has been achieved in recent years to put the UK banking system on a sounder footing, so that it can support the UK recovery. The challenge now is to secure a strong, sustainable and balanced economic expansion. The Bank’s annual stress test will help ensure our banks support that expansion by remaining resilient.”

Similar tests carried out in the USA by it’s Federal reserve found serious issues with The Bank of America, which was then forced to cancel a planned increase in dividend to shareholders.

It will be interesting to see how our financial institutions perform against this stress testing and how it might affect the cost and availability of lending if they are forced to carry enough capital to cover these hypothetical scenarios.