Bank of England eases banks' capital leverage rule to help support economy

LONDON (Reuters) - The Bank of England took a rare step on Thursday to ease its broad measure of capital adequacy for banks to help avoid crimping the flow of credit to an economy hit by the referendum vote in June to leave the European Union.

A sign is displayed outside the Bank of England in London, Britain August 4, 2016. REUTERS/Neil Hall

The BoE’s Financial Policy Committee said it decided at a meeting on July 25 to permanently exclude money held at the central bank and loans of up to three months from the calculation of a bank’s leverage ratio.

The ‘leverage ratio’ measures a bank’s core capital as a percentage of its total assets, not just risk-weighted exposures as is the case with the so-called core ‘capital ratio’.

“In doing so, the FPC’s aim is to ensure that the leverage ratio does not act as a barrier to the effective implementation of policy measures that might lead to an increase in central bank reserves,” the FPC said in a statement.

The FPC had already cautioned last month there was a risk of “unintended effects” from the leverage ratio because it could limit the ability of banks to draw on central bank liquidity in stressed times and called on global banking regulators to make changes to the leverage ratio rule.

The FPC decided to delay announcing its own decision on the leverage ratio until Thursday when the BoE cut its main lending rate to a record low of 0.25 percent, and said it planned to buy corporate and government debt to ease monetary conditions following the EU vote.

An expansion in central bank money could effectively tighten the leverage ratio’s impact on lenders.

“This could affect the ability of the banking system to cushion shocks, and to maintain the supply of credit to the real economy and support for market functioning,” the FPC said.

The British Bankers’ Association said there was no rationale for holding capital against central bank deposits.

“In times of stress banks receive large inflows of deposits from a wide range of market counterparties and retail depositors,” Simon Hills, an executive director at the BBA, said.

“Without the safety valve of excluding central bank cash deposits, this leaves banks exposed to volatility in their leverage exposure which they have no power to control,” Hills added.

By removing the inclusion of central bank reserves from the leverage ratio calculation, banks would need to hold about 11 billion pounds less in core capital.

“This is not the FPC’s intention. It therefore intends to recalibrate the UK leverage ratio standard to offset this impact,” the FPC said.

The committee, charged with spotting risks to financial stability, said the BOE will consult and decide on the appropriate form of this recalibration as part of its planned review of the leverage ratio framework in 2017.

In the meantime the BoE’s banking supervisory arm, the Prudential Regulation Authority, will monitor the behaviour of banks regarding their capital.

The change in the leverage ratio metric is the second move to be made in as many months by the BoE to ease capital rules for banks since the EU referendum result. In July it reversed a decision requiring banks to build up an extra capital buffer to cover souring loans in a downturn.

Reporting by Huw Jones; Editing by Greg Mahlich