What would a disorderly Brexit look like? The Bank of England is not alone in being unable to say, although with masterful understatement yesterday governor Mark Carney acknowledged that exiting the European Union without a trade deal in place would be "painful".
But just how painful? Releasing results of the latest – and toughest – stress tests on Britain’s banks, Carney insisted the banking sector could withstand the “unlikely event” of a no-deal Brexit.
The central bank's job was to prepare for the worst, he said, but "our predisposition is to expect we will continue to have a highly co-operative relationship with Europe. "
For the first time since the stress tests were introduced in 2014, all seven banks passed – HSBC, Barclays, Lloyds Banking Group, Standard Chartered, Royal Bank of Scotland, Santander UK and Nationwide building society. The weakest were RBS – still 70 per cent owned by the government – and Barclays, both of which earned their clean bills of health only after raising fresh capital during the year.
Brexit was not explicitly included in the raft of doomsday scenarios conjured up by the bank
The stress tests were introduced three years ago as a check that the banking system was strong enough to withstand another financial shock, and to ensure that taxpayers would not be forced to fund further bailouts.
This year’s test envisaged an economic scenario even more severe than that experienced during the global financial crisis. It concluded that the UK banking system is “resilient to deep simultaneous recessions in the UK and global economies, large falls in asset prices and a separate stress of misconduct costs.”
Brexit was not explicitly included in the raft of doomsday scenarios conjured up by the bank, but Carney indicated the impact of a disorderly departure from Europe would be “no worse” than this year’s extreme tests.
While that may sound reassuring, closer examination of the hypothetical Armageddon imagined by the Bank is anything but:
- UK GDP drops by 4.7 per cent; global GDP falls by 2.4 per cent;
- Unemployment rate doubles to 9.5 per cent;
- Interest rates soar from 0.5per cent to 4per cent;
- House prices crash by a record 33 per cent;
- Sterling collapses from $1.32 to $0.85;
- Collective losses of £50 billion for the banks;
- A further £40 billion of fines for misconduct on top of the £60 billion already incurred.
As Carney said: “This is not a good scenario; it’s a scenario we are all trying to avoid because it has some quite material economic costs even if the financial system continues to function through it.”
Painful doesn’t even begin to describe the likely impact of the worst-case scenario. And should another calamity occur at the same time, such as a global recession more severe than the downturn envisaged in the stress tests, banks would ultimately be forced to restrict lending to households and businesses, said Carney.
The bank reiterated its warning that swift agreement on a transition deal is vital and that the UK must have a legal framework in place. It also highlighted a number of other Brexit-related uncertainties, including cross-border insurance contracts. There are six million UK policyholders who have insurance products with EU companies and legislation would be required in the UK and EU for premiums to continue to be paid and for claims to be settled.
While the successful outcome of the 2017 bank stress tests is welcome, it should in no way provide politicians or the City of London with a false sense of security. The outlook is grim and the Organisation for Economic Co-operation and Development (OECD) added its voice to the chorus of gloom over the UK’s prospects, citing Brexit uncertainty for Britain missing out on the pickup in global growth.
Carney told reporters the bank was 'putting our money where our mouth is'
Even gloomier than the reduced forecasts released in the budget last week by the Office for Budget Responsibility (OBR), the OECD expects UK growth of 1.2 per cent next year, falling to 1.1 per cent in 2019, as high inflation holds back household purchasing power. This compares with the 1.4 per cent and 1.3 per cent forecast by the OBR for 2018 and 2019.
As he delivered the stress test results, Carney told reporters the bank was “putting our money where our mouth is”. In what was seen as a reference to the Canadian governor’s scheduled departure from Threadneedle Street in 18 months time, Carney noted: “We will still be here to see what happens in March 2019 in the unlikely event of a disorderly Brexit.”
In the meantime, bank officials are no doubt already dreaming up the nightmare scenarios for next year’s stress tests. One thing they will not include, however, is a hard Brexit test. As Carney pointed out, by then it will be too late.
- Fiona Walsh is business editor of theguardian.com
