Bank of England in historic move to strengthen financial institutions' stability

The UK central bank the Bank of England (BOE) announced Tuesday it would raise the rate of the capital buffer that it requires financial institutions to have from 0 percent to 0.5 percent.

This is an historic move, as it shows the Bank's Financial Policy Committee (FPC) flexing its macroprudential muscles, and using this particular tool for the first time.

The FPC is responsible for setting the counter-cyclical capital buffer (CCyB) rate which applies to UK exposures of banks, building societies and large investment firms incorporated in the UK, and also to institutions which lend into the UK. The intention is to enhance the stability of the financial system during periods of stress.

The purpose of the CCyB is to raise the amount of capital available for banks to lend in the event of a downturn in the economy. The FPC announced late last year that it intended to have the CCyB at about 1 percent of risk weighted assets under normal circumstances, and that it intended to raise the rate gradually towards that total.

However, the move to 0.5 percent will make little difference to most financial institutions affected as it comes at the same time as other capital buffers are reduced.

Simon Wells, chief UK economist at HSBC, wrote in a note: "While a big symbolic step, there is unlikely to be a large impact on aggregate banking system capital."

The BOE said in a statement that it was a "one-off adjustment reflecting the transition to the new capital framework," which it hopes will increase transparency of the system and thus its stability.

Wells, described the move as "historic" and added: "The FPC hopes the CCyB will be an important and permanent tool in helping banks absorb losses in stressed conditions and therefore support the economy rather than amplifying the stress."

The FPC also noted in its statement that the financial situation in the UK had worsened since it last made a report in November last year. The statement added that the most imminent threat to stability was the run-up to the Brexit referendum on June 23.

"Some pre-existing risks have crystallised, drawing on the resilience of the system. Other risks stemming from the global environment have increased. Domestic risks have been supplemented by risks around the EU referendum," the Bank said.

Wells said that the deterioration in the global economic and financial market environment since the FPC's previous meeting, alongside domestic risks supplemented by uncertainty surrounding the Brexit vote "clearly persuaded the FPC not to raise the CCyB by more".

The CCyB increase will take place on March 29, 2017. Endit