The Bank of England is to bring in annual stress tests that which will vary in severity according to the financial cycle.
In its latest announcement on the stress test, published today, the Bank says it plans to toughen up and flesh out the tests. For example, the bank confirmed that its approach to stress tests will include the introduction of “an annual cyclical scenario that will link the severity of the test to the financial cycle systematically”.
The tests will focus on larger institutions in its annual stress tests, looking at banks with total deposits of greater than £50bn.
It will also explore risks unrelated to the financial cycle which it judges to be emerging or latent threats to financial stability or individual banks.
UK subsidiaries of foreign-owned investment banks will not be brought into scope at this time but this will be kept under review.
Following the financial crisis, which saw Lloyds Banking Group and Royal Bank of Scotland having to be propped up by taxpayer money, the Bank is now ensuring that large groups will be able to withstand any market and economic shocks.
The bank says these stress tests “provide an integrated forward-looking assessment of resilience and aim to ensure that banks can continue to support the real economy even in difficult economic conditions”.
Bank of England governor Mark Carney says: “The UK needs banks than can weather shocks without cutting lending to the real economy.”
The BoE’s first stress tests were carried out in 2014, and centred on how a housing market crash would hit the banking sector. The examination prompted RBS to raise extra reserves.
Carney notes the organisation has recognised that it needs its approach to evolve.
He adds: “The Bank of England is taking steps to ensure we can assess a range of future risks from a number of different sources to inform our micro- and macro-prudential policy decisions. Our approach embodies a comprehensive and detailed approach, a desire to deepen and strengthen our analysis, and the flexibility to respond to changing risks.”
The BoE is set to publish further information on its approach to stress testing beyond 2018.