Lenders 'underestimate' risks of consumer debt, says Bank of England

Lenders 'underestimate' risks of consumer debt, says Bank of England”

The Bank of England warned Monday of "a pocket of risk" in the rapid growth of consumer credit in the British economy, and is compelling lenders to hold an extra 10 billion pounds ($13.5 billion) in capital to cover themselves against potential losses.

"Growth of consumer credit remains well above the rate of growth in household disposable income", the committee said in a report on a meeting held September 20.

The Financial Policy Committee (FPC) said that while climbing debt levels do not pose immediate risks to the British economy, banks are in a more precarious position.

Although consumer credit represents only 11 percent of overall household debt, this asset class is disproportionately more likely to default in a downturn.

It said that while the quality of consumer credit has "improved significantly" since the financial crisis, lenders are using the wrong benchmarks.

The committee said lenders have placed too much weight on the recent performance of consumer lending in benign conditions, which has seen default rates fall. "As a result, they have been underestimating the losses they could incur in a downturn", the FPC added.

The Bank of England has warned that United Kingdom lenders are underestimating their potential losses on credit card and other unsecured loans to customers and is compelling them to hold an extra £10bn of capital to protect their balance sheets in the event an economic shock.

The extra £10 billion is small in the context of the £280 billion of core capital held by British lenders, but the Bank said it expected banks to take the greater risks into account in their future lending plans.

Under its latest stress test scenario for lenders the Bank said they would incur a 20 per cent los rate on consumer loans, worth around £30bn.

The Bank's stress test exercises are meant to measure how United Kingdom lenders would fare in an economic downturn and under hard market conditions.

The Bank of England has kept interest rates on hold at their post-Brexit low of 0.25% - but warned earlier this month that a rise is "likely" in the "coming months" if inflation continues to surge above its 2% target.

The experts at Threadneedle Street in London also said they were keeping an eye on the "risks of disruption" on Britain's financial services sector arising from Brexit.

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