By Pradeep Saran, September 20,2023
The British banking sector is currently facing increased impairments, driven by rising inflation and the subsequent interest rate hikes, according to Bank of England Deputy Governor Sam Woods.
In an effort to combat escalating inflation, the central bank has raised its main interest rate from 0.1% in December 2021 to a 15-year high of 5.25% at present, with expectations of another increase later this week to 5.5%.
Despite the economy displaying unexpected resilience, Woods, who also serves as the CEO of the Prudential Regulation Authority (PRA), emphasized that regulators are closely monitoring potential strains within the banking sector.
Woods stated during an interview with CNBC, “So far, things have turned out better than anticipated, particularly during the Covid pandemic, where substantial fiscal and monetary support shielded the banking system from credit losses. However, we are now observing a rise in impairments across the banking sector, although there’s no cause for alarm.
“According to PRA estimates, slightly over 1% of mortgages are in arrears. Woods pointed out that this figure was similarly high as recently as 2018 and stood at 3.6% during the financial crisis.
“So, while there is an increase, it is starting from a very low baseline, and we are closely monitoring the situation,” he added.
While the global banking system experienced shocks earlier this year due to the collapse of several small U.S. lenders, Woods highlighted that smaller banks in Britain are now more than three times better capitalized than they were during the financial crisis.
Woods expressed concerns about the shadow banking system in the UK, which provides financial intermediary services and loans but is not subject to the same regulations as traditional commercial banks. This concern arises in the wake of events like the 2021 collapse of the small family office Archegos Capital, which inflicted losses of over $10 billion on the global banking system.
“The scale of these losses is truly astonishing and serves as compelling evidence that shadow banks can still pose significant risks to the financial system,” Woods remarked.
The non-bank financial sector in the UK gained attention in September 2022 when the Bank of England intervened to prevent the collapse of several UK pension funds after a government bond price crash and substantial fluctuations in interest rates exposed vulnerabilities in certain financial instruments.
Woods indicated that the PRA is closely monitoring these institutions and remains vigilant about risks, including those arising from China’s economic challenges. China’s property market has been affected by declining consumer confidence, with major real estate firms such as Evergrande and Country Garden facing financial instability due to mounting debt burdens.
“We are, like everyone else, closely following developments in commercial real estate and are particularly concerned about the situation in China’s property market, as some of our banks are highly active there, and there is currently a significant downturn,” he added.