The Royal Bank of Scotland has failed the Bank of England’s annual stress test, which measures a bank’s ability to endure financial crises, such as recessions.
Ordinarily, the BOE uses this test to identify any weaknesses in a major bank’s system. The uncovered issues point to Britain’s lingering inability to fully bounce back from the 2008 global recession, according to an article from The New York Times. The weaknesses may have also arisen due to Britain’s pullback from the European Union, the result of an unexpected popular vote that has created global shockwaves.
The victory of President-elect Donald Trump in the U.S. election similarly sent global prices soaring, which, financial experts speculate, may have also contributed to the stability issues that RBS is currently facing. Despite these offsets, majority of the United Kingdom’s banking systems are in good condition and are expected to weather through any financial difficulty that lasts up to five years. Half a decade was the standard by which the stress tests were given, since an economic crisis will typically last up to five years.
“The annual tests measure the health of seven lenders—RBS, Barclays, Standard Chartered, HSBC Holdings PLC, Lloyds Banking Group PLC, Santander U.K. and Nationwide Building Society. The scenarios change each year and provide a road map for British banks’ capital plans, including their ability to pay dividends. They are watched by analysts and investors, but so far haven’t taken on the significance of similar annual tests of big banks by the Federal Reserve,” an article from The Wall Street Journal reads.
Europe is currently dominated by low interest rates, which indicates that the probability that the bank’s profits may decrease are exceptionally high. In addition, RBS may also face fines and other costs to cover due to previous difficulties.
As per the plan mandated by the BOE to potentially resolve the situation at RBS, the bank must either divest or sell off shares of Williams and Glyn. Additionally, RBS must now follow a revised capital plan that mandates severe financial cutbacks and reductions in “risk-weighted assets” and “the sale of loan portfolios that the bank does not consider core to its business.”
BOE Governor Mark Carney has specified that the current stress tests are used not only to predict a bank’s response to a major financial crisis, but also to determine both the role and the preparedness of the United Kingdom in today’s global economy.
According to an article from The Times, “The lender, which is 73 percent owned by the British government since a bailout during the financial crisis, announced plans last year to dismantle its global investment bank and to focus on retail and corporate banking in Britain and Ireland. The bank has struggled to return to profitability as it faces ballooning litigation costs from past misconduct—including potential fines by the United States authorities related to its sale of mortgage-backed securities—and a difficult business environment.”
RBS Chief Executive Ross McEwan indicated that the bank would present a revised capital structure plan early in the upcoming year. He, along with other financial officers at the bank, predicted that the earnings would not meet specified target goals due to the consequences that followed Brexit.
Currently, the bank is expected to add an extra $2.5 billion in capital, but its share prices have dwindled down 4 percent since the stress test failure was declared. The test has uncovered issues at other major banks in addition to RBS, such as Barclays and Standard Chartered. These banks, however, are not required to revise their capital plans.