Banking regulators should consider temporarily lowering capital requirements in an effort to boost the feeble supply of credit to the economy, according to a top official at the Bank of England.
In a powerful paper that drew parallels with President Franklin D. Roosevelt’s handling of the US economy and bank regulation in the 1930s, Andrew Haldane, executive director for financial stability at the Bank and a member of its new macro-prudential financial policy committee (FPC), said the situation in the US in 1938 was “eerily reminiscent of today”.
"Criticism of banks’ unwillingness to lend to the real economy was rampant. Fear in financial markets was mounting,” he said.
Roosevelt’s response -– to loosen banks’ regulatory requirements –- was an early example of macro-prudential regulation, Mr Haldane enthused. “It worked. Lending and growth resumed.”
The comments, published on Thursday, are the clearest signal yet that top policy officials see the merit of relaxing capital buffers in the short term, rather than pushing banks to build bigger ones as most regulators have advocated – especially if the drought in lending continues.
Mr Haldane pointed to the slump in the ratio of credit to gross domestic product, a key indicator of an under- or over-supply of lending compared with normal levels. “Any further fall would put credit below its cycle-neutral level, implying a loosening [of capital requirements] to support risk-taking [is needed],” Mr Haldane said.
Noting the signs that lenders are frightened of risk, Mr Haldane suggested the FPC could lean in favour of risk-taking.
“The FPC, like the monetary policy committee, needs to act symmetrically in response to these developments,” he said. “Its job is to cushion the fall as well as arrest the rise in credit and debt.”
Mr Haldane noted that the main task of the FPC was to protect the nation’s banking system against risks, including that of unsustainable levels of leverage, debt or credit growth such as those seen in the run-up to the financial crisis that began in 2007. Some parts of the system still had unacceptably high levels of leverage, he noted.
“Yet elsewhere, there is evidence of credit growth being unsustainably low,” Mr Haldane said.
Lending to the UK’s private, non-financial corporate sector has been falling steadily year on year since 2009 and is particularly acute for small- to medium-sized enterprises. These are particularly dependent on bank lending because, unlike their larger counterparts, they do not have access to capital markets.
Mr Haldane set out the idea, popular in recent financial commentary, that markets are operating in a jittery “risk-on, risk-off” mode in which they run to, or flee from, risk-bearing assets. Currently, he said, “risk-taking is in retreat”.
“And past crisis experience suggests that the contraction of lending internationally may have further to run.”