Britain's financial sector looks in much better shape than six months ago, the Bank of England said on Friday, with one of its senior figures arguing that departures might be a "price worth paying" for tougher rules.
"Some of the downsides of carrying around a big financial system are now evident to all," BoE Executive Director for Financial Stability Andy Haldane told the BBC.
"If some of that were to migrate overseas that would be unfortunate but given the costs of carrying the financial system around, it may be a price worth paying," he added.
The British government has slapped a one-off 50 percent tax on bank bonuses this year in an effort to rein in hefty payouts by banks bailed out with public money.
Banks and brokerages have complained about this and some have threatened to move parts of their business abroad.
Deutsche Bank Chief Executive Josef Ackermann said he opposed government interference in setting pay and said the bank would spread the cost of the tax among staff around the world. [nLDE5BG2I3].
In its twice-yearly Financial Stability Report, the BoE said banks had benefited from a remarkable rise in asset prices over the past nine months and were finding it easier to raise capital.
But it cautioned that extraordinary policy stimulus could not last forever and said banks needed to do more to reduce the mismatch between long-term assets and short-term funding.
REFINANCING CHALLENGE
UK banks need to refinance more than one trillion pounds of wholesale funding over the next five years, something the BoE said would be a challenge in the absence of stronger capital positions.
"Banks need to reduce leverage further, extend the maturity of their funding and refinance substantial sums as official sector support is withdrawn," the BoE said.
"While their profitability is relatively buoyant and market conditions are broadly favourable, banks should take the opportunity to do so."
The BoE said the adjustment from the financial crisis would be prolonged, with both banks and households needing to get their balance sheets back in order.
It noted banks would face higher capital requirements on trading assets and securitisations from 2011 — of around 33 billion pounds based on Financial Stability Authority estimates.
Household debt could also become more problematic once interest rates began to normalise. Household income gearing would return to levels last seen in the early 1990s if Bank Rate were to return to 5 percent, its level prior to the credit crisis.
"Given their balance sheet vulnerabilities, banks remain exposed to any future deterioration in macroeconomic and market conditions, which could substantially raise the cost of funding and capital raising in the future," the BoE said.
It cited four main areas of concern that could raise funding costs — the impact of the withdrawal of extraordinary stimulus measures, sovereign credit risk, a slower-than-expected recovery and a setback in asset prices.
Over the medium-term, the BoE was clear that the root causes of the recent crisis needed to be tackled with a "robust multi-faceted policy response".
It said a beefed up framework should comprise complementary initiatives in three areas — regulatory policies, the structure of the financial system, and resolution arrangements.
Regulation, the BoE said, needed to give greater emphasis to systemic risks over the cycle and across institutions, as set out in its recent discussion paper [ID:nLK164499]
"Because failures of financial institutions cannot and should not be prevented, the resolution framework will need to limit the impact on the wider economy," it concluded.
