Risks to UK Financial System Broadly Unchanged Since Q1 But Risk of Sharp Correction Persists – Bank of England Report

According to an update shared by the Bank of England, risks to the UK financial system have remained broadly unchanged since Q1. However, some asset prices have continued to rise, and the risk of a sharp correction persists.

The Bank of England pointed out that the risk environment “is broadly unchanged since Q1 2024.”

The prices of many assets such “as shares and bonds remain high relative to historical norms, and some have continued to rise.”

This suggests that investors in financial markets “are continuing to expect the economy to recover and inflation to fall.”

The Bank of England added that they “are placing less weight on risks, such as geopolitical developments or continued high inflation, that might cause weaker growth or interest rates to stay higher than expected.”

These risks make it more likely “that there could be a sharp correction in asset prices that could ultimately make it more costly and difficult for UK households and businesses to borrow.”

As noted in the update from the Bank of England, the global economy is “facing several challenges, including the continued adjustment to higher interest rates and higher debt payments for businesses and households.”

Higher interest rates have “put downward pressure on property prices, including commercial property (such as offices and retail premises), which is particularly affecting borrowers in that sector and banks in the US.”

Geopolitical risks remain high, and “there is policy uncertainty associated with elections set to take place globally.”

This could make the global economic outlook “less certain and lead to financial market volatility.”

Overall, UK households and businesses “have remained resilient to the impact of higher interest rates.”

The Bank of England also mentioned that “with continued strong income growth and low unemployment, the aggregate amount of debt held by UK households relative to their income has fallen further since Q1.”

That said, many UK households, “including renters, are still facing pressures from the increased cost of living and higher interest rates.”

The Bank of England further noted that the “share of households spending a high proportion of their income on mortgage payments is still expected to increase slightly over the next two years. But the overall share of households who are behind in paying their mortgages remains low by historical standards.”

As stated in the report from the Bank of England:

“We still expect most UK businesses to continue to be resilient to the economic outlook, including high interest rates. However some firms are likely to struggle with higher borrowing costs in the coming years. Firms with a large amount of market-based debt which still needs to be refinanced, and where a high proportion of income is being spent on repayments, are likely to come under the most pressure.”

The update also noted that the UK banking system is strong enough “to support households and businesses, even if the economy does worse than expected.”

Despite higher interest rates on loans, “the number of households and business who are unable to make their payments remains low.”

But even if this were to increase, the UK banking system has appropriate capital buffers and other resources – “such as liquidity – to absorb any potential losses on their lending or outflows of cash.”

Because of these resources, UK banks are strong enough “to support households and businesses, even if economic and financial conditions were to be worse than expected.”

The update also stated:

“We set the UK countercyclical capital buffer (CCyB) rate each quarter. This provides banks with an additional ‘rainy day’ buffer they can use to withstand potential losses without restricting lending to the wider economy. The CCyB decision is based on our assessment of economic and financial conditions, and risks. We have decided to maintain the UK CCyB at its neutral setting (of 2%).”

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