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An overhaul of the way banks are regulated threatens to make the financial sector even more vulnerable to recessions, the Bank of England has warned.
On Monday debt collection and finance group London Scottish Bank warned it was considering scrapping its dividend and launching an emergency rights issue after breaching the regulatory rules, which came into effect yesterday.
The Bank argues that the updated
The system focuses on how much capital - largely consisting of shareholder money - a bank must raise in comparison to its assets. Whereas the previous
The report said: "Under Basel II then, banks' risk-weighted assets, and therefore capital requirements, might rise in a recession scenario as credit risk materialises and borrowers are downgraded." It added that this might force banks to cut back on lending and issue more shares.
Such a phenomenon is already occurring in the current credit crisis, though the Bank said it could be even more severe under the new system. "A systemic tightening in credit supply may in turn increase financial pressures on companies and households and deepen, or prolong, a downturn," it said. It calculated that, in a "global economic slowdown" similar to the
London Scottish said it had undershot international banking guidelines on the amount of capital that must be set against assets, forcing it to consult with the Financial Services Authority about "actions the company plans to take to address the shortfall".
Peter Spencer, chief economic adviser to the Ernst & Young Item Club warned recently that the capital requirements demanded by both old and new
Other experts have warned that even if Basel II had been put into place before the market turmoil of last summer, the credit crunch would still have occurred. Mark Wheaton, head of Accenture's