Bank of England (BoE) announced on May 22 that it plans to phase out its Contingent Term Repo Facility, or the weekly emergency support that it had introduced in March this year for the financial markets. With the situation gradually coming into control, it feels that markets can access cash more easily now. Post the economic shocks felt by the COVID scenario in March, banks feared that high-quality collateral assets like Government Bonds could be difficult to get exchanged for cash.
Banks borrowing from the BoE, went at a record high of 11.1 billion pounds on March 26. After then the demand has tapered down since the next month onwards. Bank of England effectively regulates the financial market operations across the United Kingdom by formulating standards, retaining information on its health and managing its operations.
A slew of policy measures to support the financial markets
The latest BoE support to the financial markets was initiated in early March this year when it began to announce a slew of measures to handhold the financial sector of Britain. The Bank took guidance from its three policy committees, namely the Prudential Regulation Committee (PRC), the Monetary Policy Committee (MPC) and the Financial Policy Committee (FPC).
On March 11, BoE lowered the Bank Rate to 0.25 per cent, down by 50 basis points. This move was aimed at boosting the shaken confidence of corporates and households. The interest rate was further lowered to its lowest level ever, at the rate of 0.10 per cent on March 19. Bank rate is the base rate that sets the benchmark for all other banks’ interest level that they charge their borrowers, in the country.
The trend in the base rate of the Bank of England (percentage)
(Source: Bank of England Statistics)
On March 11, it lowered the UK Countercyclical Capital Buffer Rate (CCBR) to zero from 1 per cent of banks’ exposures to the UK borrowers. Thus, the nil rate is applicable for at least 12 months. This decision was expected to raise banks’ credit supply by up to £190 billion.
The Central Bank undertakes regular stress tests of the UK banks to understand their financial health and whether they can withstand a crisis. However, the BOE cancelled the scheduled 2020 yearly stress tests of eight major British banks on 20 March. This was in line with a similar step taken by the European Banking Authority which decided on March 12 this year to postpone its stress test for banks across the EU region.
Later, on March 24, Bank of England activated the Contingent Term Repo Facility (CTRF) facility, which is a provisional augmentation to its sterling liquidity insurance. This was the first time that the central bank has resorted to the CTRF facility, after the establishment of this provision in 2014.
The facility gave the financial market a predictable and reliable source of money. It was set in place for a period of three months. The Central bank had said that depending on demand and market feedback, the continuation of this exigency measure would be decided. Since the demand for CRTF has tapered since April this year, this emergency support is going to be stopped from May end itself.
Are interest rates further going down?
Yes, you read it right! Britain’s Central Bank is contemplating an idea of negative interest rate, to give a jumpstart to business investment. In fact, the UK Government sold Gilts bonds at negative rates (with a yield of -0.003 per cent), the first time in its entire 325-year long history on May 20 this year. Negatives rates are already operational in Japan, Eurozone, and Switzerland.
However, banks in the country are exceedingly wary of this move if it eventually takes place and is already putting their foot down. They are fearful of a drastic fall in earnings and an inability to cope with losses. The British banking industry is already struggling to recover from difficult times.
From their side, banks are doing their bit in supporting their customers to sail through these tough times. For instance, the Lloyds Banking Group (LSE: LLOY) approved £ 3.6 billion "bounce-back" loans for small scale companies and £1.1 billion government loans for Q1 2020. It has also offered payment holidays mortgages, credit card and debts along with fee-free overdrafts, repayment holidays and deferred payments. But of course, all these are going to take a toll on the bank’s profits.
In fact, the other large-sized UK banks namely HSBC, Royal Bank of Scotland, Standard Chartered, Barclays, and Lloyds Banking Group had to collectively put aside £7.6 billion in loan loss provisions for Q1 2020. The value of collective loan loss for these five banks in the whole of the 2019 year was £6.1 billion. Besides, the corresponding value for Q1 2020 loan loss for the UK mid-sized banks, namely the Metro Bank, Virgin Money, The Co-operative Bank and Tesco Personal Finance Group is projected to be £2.5 billion. These are large numbers and are likely to mar the UK banks’ balance sheets, at least for this year.
It’s not all, the credit rating agency S&P Global has put its collective credit loss estimates for UK banks at a staggering level £18.5 billion for the year 2020.
With the UK economy expected to go down by around 12 per cent in the year 2020, any predicted changes in the consumer spending patterns and corporate investment trends will essentially be dependent on the duration of the corona induced lockdown across the United Kingdom. The Q2 2020 results of the top banks such HSBC (LSE:HSBA), Lloyds Banking Group (LSE:LLOY), Barclays (LSE:BARC) and Royal Bank of Scotland (LSE:RBS) are expected to be worse than the Q1 results for the year, with restrictions on movement in place and economic growth dwindling. The real picture starts to emerge only after the easing of the lockdown during the summer months of the country.
With Bank of England reducing the interest rates to a historic low level, the spotlight is back on diverse investment opportunities.
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