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Bank of England governor Andrew Bailey on Wednesday called on UK banks to pass on higher interest rates to savers, as the BoE concluded that the country’s top eight lenders were sufficiently resilient to withstand a severe economic downturn.
Speaking after the latest BoE stress tests on banks’ capacity to weather potential catastrophes, Bailey said lenders were in a strong financial position to pay more interest on customers’ savings.
The BoE also said that 1mn UK households were facing monthly mortgage payment increases of more than £500 by the end of 2026 because of rising interest rates, if they refinanced on the same fixed terms as their current loans.
MPs have accused banks of profiteering by not passing on higher interest rates to savers after the central bank tightened monetary policy to try to curb inflation.
“It’s important that rates get passed through, it’s also important that we have competition in the banking system, which encourages banks to compete on savings rates,” said Bailey, echoing demands made by chancellor Jeremy Hunt for banks to pay more interest on customers’ savings.
Tighter monetary policy has pushed up banks’ core profitability by boosting net interest margins — the difference between the interest lenders charge on their loans and the rate they pay on deposits.
“One big message from this morning . . . is that the resilience of the banking system is not a constraint on banks managing their net interest margins and therefore managing the rates they pay to savers,” said Bailey.
“Banks can take the decisions they need to take on that front without having to restrict [their interest rates] for financial stability reasons.”
The UK authorities have been regularly stress-testing banks since 2014 but have not failed a lender since 2016, when nationalised Royal Bank of Scotland was ordered to raise £2bn, while Barclays and Standard Chartered were called out for shortcomings.
The latest tests, which cover NatWest, HSBC, Barclays, StanChart, Lloyds, Santander, Nationwide and Virgin Money, were based on a scenario set out in September 2022, before a spate of US bank collapses and the demise of Credit Suisse.
The tests found that in an adverse economic scenario the banks would face aggregate loan losses of £125bn over the five-year period from June 2022, leading to a fall in their common equity tier one ratios to 10.8 per cent, from the current level of 14.2 per cent.
The common equity tier one ratio is a key measure of financial strength that shows a bank’s high quality capital relative to the risk of loans and other assets. The passing grade for the stress tests was a common equity tier one ratio of 6.9 per cent.
The common equity tier one ratios of Barclays and StanChart fell to the lowest levels during the stress tests, coming in at 8.5 per cent and 8.8 per cent respectively.
Some of the shocks the banks were tested against — including UK interest rates rising rapidly to 6 per cent before “being gradually reduced to under 3.5 per cent” by mid 2027 — are now close to current conditions. UK rates are at 5 per cent and not expected to fall below 4 per cent until at least the end of 2024.
But Bailey said the stress tests’ “combination of higher interest rates and simultaneous recession around the world” and high unemployment represented a “significantly more severe” scenario than the conditions banks currently confront.
The stress tests’ adverse economic scenarios included a 5 per cent contraction in gross domestic product over 12 months, the doubling of unemployment to 8.5 per cent and a 31 per cent slide in residential property prices.
UK banks have said they had so far seen little evidence of rising arrears in loan books even as mortgage rates climbed past the levels reached after former premier Liz Truss’s disastrous “mini” Budget of September 2022.
“UK banks are in a strong position to support customers who are facing payment difficulties,” said the BoE. “This should mean lower defaults than in previous periods in which borrowers have been under pressure.”
Asked about the effect of interest rate rises on the 1mn households facing a monthly increase in mortgage payments of more than £500, Bailey said: “It is going to have an impact, clearly . . . that’s part of the transmission mechanism of monetary policy.”
About 2mn households face increases in their monthly mortgage payments of between £200 and £499 — although about 4mn will experience smaller rises.
The more immediate impact of rising interest rates will mean that by the end of this year, about 650,000 households will be spending more than 70 per cent of their income on mortgage repayments and other essentials.
That represents 2.3 per cent of all UK households, lower than the 3.4 per cent judged to be highly indebted at the peak of the last financial crisis in 2007.
BoE officials said that, while UK households and businesses were facing higher debt costs, mortgage defaults in particular should be limited because borrowing burdens were “some way below” the historic peak in 2007 and banks had capacity to offer “forbearance” to customers in distress.
NatWest chief financial officer Katie Murray said: “Banks in the UK play a vital role in supporting our economy and these results provide further confidence that we are able to withstand a severe shock; keeping our customers’ money safe and continuing to lend, even when times are tough.”
Additional reporting by Jane Croft, Siddharth Venkataramakrishnan and Valentina Romei
