Bank of England warns UK banks need more capital

The Telegraph reports that the Bank of England's Financial Policy Committee would like to see banks increase both their book capital levels and their lending.

Sorry, but it is not going to happen.

What banker is dumb enough to make new loans given all of the zombie loans sitting on and off their balance sheet?

Sorry, but it is not going to happen.

What investor is going to invest in a bank given that bank reporting leaves bank's resembling a 'black box'?  A black box that everyone knows holds the zombie loans as well as government bonds and structured finance securities of little value.  In case that isn't enough, of course there is also the potential for losses on the tsunami of lawsuits related to Libor manipulation.

Sorry, but it is not going to happen.

Every banker knows that capital ratios are higher gambling with securities in the casino than making new loans.

Sorry, but it is not going to happen.

The UK government realizes that banks are not going to make loans they have to hold on their balance sheet and set aside capital for, so the UK government is putting up 80 billion pounds in a "Funding for Lending" program.

Britain's banks do not have enough capital to withstand an escalation in the eurozone crisis, the Bank of England has warned. 

Members of the Financial Policy Committee (FPC), the Bank’s risk regulator, “judged that the overall capitalisation of the banking system was unlikely to be sufficient for stability to be assured” if there were “severe but plausible” developments in the sovereign debt crisis, according to minutes of last month’s meeting.

Since the advent of deposit guarantees and access to central bank funding for liquidity, bank book capital levels have been simply an accounting construct.  Nobody, but regulators pursuing harmful policies, cares about them.

Everyone, except for PhDs in Economics, knows that book capital is there to protect the real economy from harm by absorbing the losses on the excesses in the financial system.

The committee was also sufficiently concerned about weak lending in the UK to consider suspending the rules governing how much banks must hold in cash and other liquid assets to get credit flowing again. The rules may have “pushed up the pricing of loans” and, by relaxing them, funds “supporting liquid assets could potentially be used instead to finance lending”, the minutes said.

Free at last, free at last, the bankers cried, free at last to increase our gambling in the casino!

Both issues were addressed in last week’s Financial Stability Report, when banks were told to continue building up their capital levels and liquidity regulations were relaxed slightly instead of suspended. 

Analysis of the report showed that easing the liquidity rules could release as much as £150bn for lending to small businesses and households.

Or multiples of this for speculative investments.

Banks had been hoping for the capital rules to be loosened as well, but the FPC decided the risks to financial stability and the economy were too great, even though UK lenders are “reasonably well placed” to meet new standards that begin coming into effect next year.

The same 9% Tier I capital ratios that the OECD called meaningless since policies were adopted to suspend mark to market accounting and regulatory forbearance was embraced so that banks could keep zombie borrowers alive with 'extend and pretend'?

“The committee was concerned that in especially severe, but plausible, adverse scenarios in the euro area some UK banks could face large losses,” the FPC said. Although “the position of individual institutions varied significantly”, the overall health of the banks was too weak and threatened “the supply of financial services to the economy”....

We have known since the Less Developed Country Loan Crisis in the mid-1980s and the Saving and Loan Crisis in the late 1980s that banks can operate with negative book capital levels and supply financial services.

The only threat to the supply of financial services to the economy is that bankers won't get their bonuses.

Banks have increased their capital levels by £90bn since the crisis but they have been broadly flat since last year. 

To boost their capital, the FPC said banks now need to issue equity or contingent capital because “the weak profit outlook for banks would make it difficult to raise sufficient additional capital solely by limiting cash dividends and compensation”. Debt-for-equity swaps should also be considered, it said, which could raise £8bn.

As stated above, there are no investors other than governments (who don't have to because of the design of a modern banking system) that are dumb enough to buy any form of capital in the banks.  

Some of the extra capital could also be used to “support lending immediately” but the bulk would be to “enhance market perceptions of resilience and reduce funding costs”.

Bank book capital levels do absolutely nothing to enhance market perceptions of resilience or reduce funding costs!

Investors are not muppets.  They are smart enough to know that the UK banks would all probably show negative book capital levels if not for the regulators blessing the deceptions in each bank's current financial disclosure.

If there were one bank CEO that truly believed that his bank had positive book capital, he would immediately embrace ultra transparency and disclose on an on-going basis his bank's current asset, liability and off-balance sheet exposure details.

He would do this knowing that the market could independently assess that his bank could stand on its own two feet and would rush to a) buy his bank's stock and b) provide his bank with low cost funds.

He would do this because he knows that any bank that doesn't provide ultra transparency is sending a very easily understood message that they have something to hide.  Investors understand that banks that are hiding something should be rewarded with low stock prices and high costs of funds.