The Bank of England has said this year’s health check on the banking sector will test if Britain’s biggest lenders can keep credit flowing even if the pandemic wipes £800 billion off the economy.
It will test the resilience of eight banks and building societies against a doomsday scenario for the pandemic hit, in which the economy plunges by 37% between 2020 and 2022, the unemployment rate soars to 12% and house prices tumble by a third.
The Bank will also use the stress tests to help assess the ability of banks to return to normal levels of shareholder dividends after payouts were curbed at the start of the crisis.
Last year’s stress tests were cancelled to allow banks to focus on the immense challenges of the coronavirus crisis and to boost lending to help the economy weather the shock.
While the checks are back on the agenda for 2021, the Bank said it would adapt the tests given the real-life crisis facing the economy.
“Once the economy enters a stress, as it has now, the focus changes, with stress tests used to assess if the buffers of capital that banks have built up are large enough to deal with how the stress could unfold,” according to the Bank.
Its 2021 tests include a scenario where the pandemic continues to wreak economic havoc, with the UK entering a double-dip recession as gross domestic product (GDP) falls by a further 9% at the start of the year.
In its grim worst-case outlook, the Bank slashes its interest rates into negative territory for the first time in 2021, pummelling lenders’ revenues.
The hit from the pandemic would leave the UK economy permanently weaker, with growth not recovering even at the end of 2025.
The global economy would also suffer a 31% plunge between 2020 and 2022, sending stock markets tumbling once more.
The eight lenders taking part in the test account for around 75% of lending to the UK economy.
The Bank said it would stagger the tests throughout 2021, bringing forward the deadline for initial projections to April from June.
Their “ring-fenced” retail banking arms will not form part of the test in light of the timetable change and ongoing operational challenges due to the crisis, it added.