Bank of England issues warning to lenders of 'risks around the referendum'
The Bank of England has warned over a potential credit crunch and urged lenders to bolster their balance sheets ahead of the EU referendum.
The Bank's Financial Policy Committee (FPC) said the UK banking sector was "resilient", but said heightened uncertainty triggered by Britain's forthcoming referendum on EU membership posed a risk to financial stability.
It said the value of the pound - which plummeted earlier this year amid Brexit fears - could weaken even further and impact the cost and availability of finance for UK borrowers.
The concerns come amid a backdrop of tough trading for the banking sector, which has seen its profits come under pressure as interest rates have remained stubbornly low across major economies.
In the minutes from its latest policy meeting, the FPC said: " The committee assesses the risks around the referendum to be the most significant near-term domestic risks to financial stability."
The FPC said its outlook for the UK's financial stability had "deteriorated" since its previous meeting in November, as dark clouds continue to circle over the global economy and the threat of Brexit disrupts the markets.
It has also pressed ahead with plans to make banks hold extra capital in order to strengthen their resilience against a major economic shock.
Banks will now have to hold a 0.5% so-called counter-cyclical buffer by March 29, 2017, half way towards its 1% target.
It also warned that Britain's vote to leave the European Union could impact the availability of lending and lead to higher interest rates, while also dealing an economic blow to the Eurozone.
The FPC said: "Looking ahead, heightened and prolonged uncertainty has the potential to increase the risk premia investors require on a wider range of UK assets, which could lead to a further depreciation of sterling and affect the cost and availability of financing for a broad range of UK borrowers."
It added: "In addition, the impact of a decision of the United Kingdom to withdraw from the European Union could spill over to the euro area, driving up risk premia and further diminishing the prospects for growth there."
The FPC said the outlook for bank profitability had weakened since November, as low-interest rates make it difficult for lenders to achieve strong return on loans.
It comes as heavyweight financial stocks faced sustained pressure earlier this year when investors took flight amid fears some banks were not holding enough capital to withstand a potential economic crisis.
The FPC said UK bank share prices had fallen by about 15% since November 2015, warning that if weaker earnings persist it would reduce the "capacity of the system to withstand shocks".
Meanwhile, the Bank of England also revealed the outline for its latest stress test on the banking system, which will investigate the resilience of the financial sector to a major economic shock.
It will discover if British banks and building societies have the capital buffers in place to weather a cocktail of pressures, including a slump in global GDP to -1.9%, a fall of 4.3% in UK GDP and 4.5% rise in UK unemployment.
The results will be published in the fourth quarter of 2016.
Former chancellor Alistair Darling, who is supporting Britain Stronger in Europe's campaign to remain in the EU, said the FPC had issued a "stark warning" about leaving Europe.
He added: " This assessment makes it clear our economy would be more vulnerable and less resilient if we vote to leave the EU - leading to higher mortgage rates for families and higher interest rates for Britain's businesses."
However, Tory former cabinet minister John Redwood, who is backing Britain to leave the EU, told BBC Radio 4's The World at One: "I think they have to be very careful to remain neutral. They do seem to wade in on one side to this argument.
"They have found that the banks are even stronger now than they were last November when they last checked it out and they find that the banks are perfectly able to deal with those sort of shocks - including the shock from the referendum - so why don't they highlight that?"
JP Morgan economist Allan Monks said the Bank of England could take further action in the buy-to-let market later this year if the housing market strengthens further.
But he said the bank believes lenders "are well capitalised in the event of Brexit-related shock".