LONDON – The Bank of England took a small step Tuesday to dial back the stimulus it put in place for the U.K. economy following last year's vote to leave the European Union, a move also aimed at armoring the banking system against multiple risks ranging from spiraling consumer borrowing to the possibility that Brexit talks collapse.
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The BOE on Tuesday ordered banks to begin rebuilding special buffers of capital that in July it said they could run down with the aim of keeping credit flowing to households and businesses in the wake of the referendum result.
The July reduction in the so-called countercyclical capital buffer to zero was part of a package of measures the BOE implemented to cushion the economy. It also cut its benchmark interest rate to a new low of 0.25% and embarked on a fresh round of bond purchases to support growth in response to the acute uncertainty generated by the Brexit vote.
The instruction to banks to begin returning capital to pre-referendum levels comes alongside an intensifying debate among BOE officials over whether to begin nudging up their benchmark interest rate.
Chief Economist Andy Haldane last week signaled that he is inching closer to voting for a gentle increase in borrowing costs to restrain quickening inflation, adding an influential voice to an increasingly vocal minority in favor of withdrawing some of the extensive central-bank stimulus underpinning the U.K. economy.
The Federal Reserve this month said it would raise short-term interest rates for the fourth time since December 2015 and mapped out a plan to begin shrinking its vast portfolio of assets, highlighting officials' confidence in the U.S. economic expansion. In Europe, the European Central Bank is starting to consider the circumstances under which it, too, would begin reducing monetary stimulus, for the 19-nation eurozone.
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In announcing its decision on bank capital requirements Tuesday, the BOE said in its latest assessment of the prospects for financial stability in the U.K. that the broad level of risk appears "standard" rather than elevated, justifying a reversal of July's decision.
The central bank raised banks' countercyclical capital buffer to 0.5% from its current level of zero and said it expects to raise it again, to 1%, in November. The buffer is designed to be raised in good times to build resilience against potential future losses and relaxed in a downturn, to keep the economy flush with credit.
"This action will supplement banks' already substantial ability to absorb losses," the BOE said.
Officials warned, though, that "pockets of risk" warrant extra vigilance from banks and regulators.
Those concerns include prospects for Brexit talks ending without an agreement on future economic ties to the European Union; a rapid rise in consumer borrowing in Britain; and heavy indebtedness in China.
At a news conference, Gov. Mark Carney said the BOE is aiming to strengthen the banking system so that it can withstand any shocks if these or any other threats fully materialize.
British households' unsecured borrowing has been growing at an annual rate in excess of 10% for several months, as consumers try to support spending amid meager wage growth and quickening inflation. The BOE said banks must test borrowers' ability to repay loans more stringently and ensure they can comfortably cover defaults.
On Brexit, the BOE said it is overseeing banks' contingency planning for withdrawal and listed ways in which a disorderly British exit from the bloc could hurt the U.K. and European economies.
Mr. Carney said that while a "no deal" scenario between the U.K. and the EU might not be the most likely outcome, it would be the most threatening to the financial system and wider economy. The U.K. must conclude exit talks by March 2019 unless EU member states agree to an extension.
"We start from the most difficult situation from a financial stability perspective," Mr. Carney said.
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(END) Dow Jones Newswires
June 27, 2017 10:35 ET (14:35 GMT)