BoE tells banks to use buffers to support economy

The Bank of England has told banks to use their liquidity and capital buffers to back customers during the Covid-19 crisis after requiring lenders to cancel dividends to bolster their finances.

In guidance for lenders the BoE's Prudential Regulatory Authority said it expected them to dig into their "substantial" capital and liquidity buffers built up since the financial crisis. The guidance reiterated the PRA's view that banks' first job is to support the wider economy while maintaining their own safety.

Banks hold liquid assets such as government debt to repay their obligations as they fall due. High levels of liquidity help guard against a run on a bank such as the one that caused the near-collapse of Northern Rock during the financial crisis.

The PRA said it wanted banks to be prudent but that this did not mean keeping their liquidity coverage at pre-crisis levels. Instead they should trade in assets with the BoE as necessary to support customers' own liquidity needs, the PRA said.

"The existence of these central bank liquidity facilities should provide banks with the confidence needed to operate for a period below the level of liquidity that we expect them to maintain in normal times," the PRA said.

Many non-bank customers are in danger of running short of cash as short-term expenses outstrip revenues hit by the Covid-19 crisis. The PRA said it would keep an eye on banks if liquidity buffers were reduced but that it would not necessarily frown upon the reduction.

Capital is the money banks lend that is made up of shareholder' funds and is written off if bad debts increase. Buffers are the capital banks have on top of minimum regulatory requirements. They can be used to support lending to customers before using the minimum capital required for bank safety.

"Banks can draw down on all available capital buffers starting with any additional capital buffer held above their regulatory buffers," the PRA said. "Whilst a bank should notify the PRA if its capital level is, or is forecast to be, below the level of capital we ask it to maintain, this should just be viewed as part of its usual supervisory communication."

The PRA has forced banks to hold on to more capital during the crisis by in effect ordering them to cancel dividends and share buybacks in 2020. The PRA said these actions "will reduce the impact of the automatic restrictions on distributions that come into place as banks begin to draw down on buffers".