Britain’s central bank urged new constraints on banks yesterday to avoid a repeat of the financial crisis, saying there needed to be a “fundamental rethink” of how the institutions manage risk.
The Bank of England warned that banks had overextended themselves during the economic boom years, lending out more than they were getting in, which then helped cause “arguably” the largest episode of financial instability since World War I.
In its biannual financial stability report, the bank’s deputy governor, John Gieve, called for “a fundamental rethink of how to manage systemic risk internationally.”
The British government was forced to recapitalize three of the country’s high-street banks earlier this month in a £37 billion (US$64 billion) deal.
Other nations followed suit with their ailing banks.
“Early signs suggest these measures have helped underpin the banking system,” the report said.
However, it also warned systemic problems remained that would allow banks to repeat their mistakes.
It noted the overextension problem — in 2001, customer lending in Britain was roughly comparable to customer deposits. By this year, banks were lending £700 billion more than the deposits they were receiving.
It proposed a new “leverage ratio” — a minimum ratio of capital to total assets to which individual banks must conform, to restrict their expansion relative to their stock of capital.
It also backed a system of “dynamic provisioning” that would force banks to build up reserves against future losses in the good times, which they could then draw on when times were tough.
“We need to establish stronger restraints on the build-up of risks in the financial system over the cycle with the dangers they bring to the wider economy,” Gieve said. “That means not just increasing capital and liquidity requirements for individual institutions but relating them to the cyclical growth of risk in the system more broadly.”
“Counter-cyclical policy of that sort should complement regulation of companies and broader macroeconomic policy,” he said.
The report estimated that governments around the world have spent more than US$1.2 trillion so far in helping ailing banks, but that the world’s financial institutions have racked up losses worth a huge US$2.8 trillion since the credit crunch began.
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