Economy

United Kingdom banking sector stress test 'is not fit for purpose'

United Kingdom banking sector stress test 'is not fit for purpose'”

A damning report has claimed the stress tests used to judge the safety of the United Kingdom banking system are "worse than useless".

Major UK banks are still too highly leveraged and the current stress tests give a false comfort by overstating their resilience, the Adam Smith Institute says. In this sense, the stress tests are like a ship's radar system that can not detect an iceberg in plain view.

The UK'S finance sector is an "accident waiting to happen", according to a report branding the Bank of England's stress tests as "worse than useless".

He suggested that the stress test system is "dangerous" and should be scrapped.

However, it added the Bank's reassurances lack credibility and are contradicted by evidence.

The report, from one of the UK's leading exponents of classica liberalism, focused on the Bank of England's 2016 test of the United Kingdom banking system's resilience.

But in a letter to Sir John in December, Mr Carney, who is also chairman of financial health watchdog the Financial Stability Board, said there was "little evidence to suggest that investors should be concerned about poor asset quality for United Kingdom banks".

'The UK banking system is still highly vulnerable and another major shock could bring it down again'.

It said major United Kingdom banks remain too highly leveraged and would all fail a stress test if it was based on market value of bank capital rather than book value.

"We use a baseline forecast of a bank's profitability to construct the projection of its capital position".

"We find that our baseline projection for the four largest United Kingdom banks equates to a price to book ratio of between 0.7 and 0.8, consistent with the actual price to book ratio at the time the stress tests were published".

It added: "The Bank's stress model also produced implausibly low projected losses and so failed a basic reality check".

Professor Kevin Dowd, senior fellow of the ASI and author of the report, said: "The stress tests are about as useful as a cancer test that can not detect cancer". In the paper he added that it is compromised by conflicting objectives and by the Bank's poor forecasting record.

"Even if the Bank were right about risks, this would make crises less frequent, but when they did arrive, much, much worse".



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