Bank solvency in jeopardy if recession hits post Brexit

Britain’s banking system will face a capital shortfall of £68bn if the UK hits a recession after it leaves the EU, according to Moody's.

The ratings agency has carried out its annual stress test across British high street banks to see whether they have enough capital to withstand the adverse impact of Brexit. According to the test, a severe Brexit induced recession would hit capital ratios by 33%, elevate levels of non-performing loans and lead to as “significant deterioration” in bank solvency.

Lenders would need £68bn or 3.6% of gross domestic product (GDP) in additional capital in order to reach their 2015 levels. Even if that gap was not filled and the UK’s overall capital ratio falls from the current level of 16.2% to 11%, the banks would still be in line with most of its peers in the advanced world.

Analyst at Moody’s, Gabriel Velo, said: “It is important to note that UK banks start from a position of relative strength, having actively strengthened capital positions in recent years”

In the worst case scenario if there is prolonged economic downturn and a steep fall in property prices, the UK’s ratio of bad loans would more than double from 2% in 2015 top 4.8% in 2018.

Although the International Monetary Fund (IMF) cut its GDP forecast for the UK earlier this month it still expects Britain to grow by 1.3% next year, which is faster than both France and Germany. This prediction hinges on the British government successfully negotiating a new trade relationship with the EU.

The EU regulatory body will be conducting its own stress test on 51 of the region’s biggest banks on Friday.

Chairman of the European Banking Authority Andrea Enria said regulators’ objectives have shifted from boosting capital levels to cleaning up the vast bad loans that weigh on lenders’ profitability.