Bank of England announced to lenders that it is raising the country’s counter-cyclical capital buffer from 0 to 0.5% to mitigate pressures from increasing consumer credit. The counter-cyclical capital buffer is a requirement on all banks, lenders and investment firms to keep a certain level of capital when credit growth is excessive. To a certain extent, this buffer is able to insulate banks from the cyclical growth and downturns of the economy. Bank of England’s decision reflects its interests in slowing down credit and lending in the British economy.
By raising the counter-cyclical capital buffer to 0.5%, British banks must increase their held capital by over £11.4 billion over the next 18 months. The Bank of England also has the intentions of further increasing the buffer by 0.5% to 1% by the end of 2017 to combat increases in consumer credit and lending. The counter-cyclical buffer has only been used once in the UK, but was quickly revoked due to stagnate economy conditions during the immediate aftermath of Brexit.
Bank of England’s Financial Policy Committee warned that there were still pockets of risk in the economy. Previously, it has already expressed concerns that lenders have grown used to benign economic conditions, and thus have loosened their lending standards. Besides increasing the CCyB, the Bank of England also increased the required leverage ratio by 0.5 per cent to 3.5 per cent, which means that banks have to hold a greater amount of capital per asset worth. Furthermore, the Bank has set a sooner date for its stress tests, a series of procedures to ensure lenders are able to withstand more volatile economic conditions when borrowers are unable to repay loans. Although the bank also reviewed restrictions on mortgage lending, such as a limit on how many mortgages can exceed a loan to income ratio above 4.5%, it decided not to increase these restrictions.
Overall, Bank of England’s decision reflects financial instability in the British market, and this instability is caused more so by consumer credit than my mortgage lending. On the other hand, the Central Bank of Ireland chose to maintain Ireland’s counter-cyclical capital buffer a zero this quarter. Although there are concerns regarding overheating in the property market in Ireland, general credit conditions remain stable.