Warning to banks on eurozone crisis

Bank of England Governor Sir Mervyn King today urged banks to brace themselves for a potential eurozone collapse amid fears that Britain is caught in a second credit crunch.

Sir Mervyn said financial systems around the world are vulnerable to the eurozone debt crisis and its underlying causes - but warned a resolution was "beyond the control" of any UK authority.

Appearing in his role as chair of the interim Financial Policy Committee, the Governor said: "In the UK, we most try to bolster the resilience of our financial system to better withstand the storms that may come in our direction."

The report comes after Downing Street warned last night that Britain was in the grip of a second credit crunch, and six central banks, including the Bank of England, acted to encourage lending between banks and stave off economic stagnation.

In its final meeting of the year, the interim Financial Policy Committee (FPC) labelled the euro area crisis as the "most significant and immediate threat to UK financial stability".

The dilemma faced by the banks was underlined by the FPC's recommendation to boost capital levels - to protect against future financial crises - while at the same time maintaining or boosting lending to households and businesses.

In its financial stability report, the FPC said UK banks' exposure to government debts of the so-called vulnerable five - Greece, Portugal, Italy, Spain and Ireland - totalled £14.8 billion.

Total exposure to the vulnerable five, including private sector debt, is £191.8 billion.

However, Sir Mervyn said UK banks were in a better position than their continental peers to withstand future financial shocks.

But credit conditions in the UK could tighten if banks are forced to take higher credit losses on exposures to the euro area - where the FPC warned there are already signs of a credit contraction.

Sending a stark message to political leaders, the governor said: "Ultimately, governments will have to confront the underlying causes. Resolving these wider problems is beyond the control of any UK authority."

The FPC reiterated its recommendation that UK banks cap bonuses or dividends if their balance sheets do not appear to be robust enough to withstand major financial shocks, such as a collapse of the euro or a UK credit downgrade.

Sir Mervyn added: "The crisis in the euro area is one of solvency and not liquidity. And the interconnectedness of major banks means that banking systems, and hence economies, around the world are all affected."

Sir Mervyn refused to be drawn on details of any contingency plans the Bank or the Government may be drawing up in the event of a collapse in the euro.

The governor was the driving force behind yesterday's emergency action taken by the Bank and five of its international counterparts, including the European Central Bank and US Federal Reserve, which triggered a rally on global markets.

Investors are increasingly worried that European banks are exposed to huge losses on loans they have made in Greece, Italy and other indebted countries.

Europe's leaders will hold yet another summit on December 9, where it is hoped they will deliver the final word on a response to the eurozone crisis.

In its final meeting of the year, the interim Financial Policy Committee (FPC) labelled the euro area crisis as the "most significant and immediate threat to UK financial stability".

The dilemma faced by the banks was underlined by the FPC's recommendation to boost capital levels - to protect against future financial crises - while at the same time maintaining or boosting lending to households and businesses.

In its financial stability report, the FPC said UK banks' exposure to government debts of the so-called vulnerable five - Greece, Portugal, Italy, Spain and Ireland - totalled £14.8 billion.

Total exposure to the vulnerable five, including private sector debt, is £191.8 billion.

However, Sir Mervyn said UK banks were in a better position than their continental peers to withstand future financial shocks.

But credit conditions in the UK could tighten if banks are forced to take higher credit losses on exposures to the euro area - where the FPC warned there are already signs of a credit contraction.

Sending a stark message to political leaders, the governor said: "Ultimately, governments will have to confront the underlying causes. Resolving these wider problems is beyond the control of any UK authority."

The FPC reiterated its recommendation that UK banks cap bonuses or dividends if their balance sheets do not appear to be robust enough to withstand major financial shocks, such as a collapse of the euro or a UK credit downgrade.

Sir Mervyn added: "The crisis in the euro area is one of solvency and not liquidity. And the interconnectedness of major banks means that banking systems, and hence economies, around the world are all affected."

Sir Mervyn refused to be drawn on details of any contingency plans the Bank or the Government may be drawing up in the event of a collapse in the euro.

The governor was the driving force behind yesterday's emergency action taken by the Bank and five of its international counterparts, including the European Central Bank and US Federal Reserve, which triggered a rally on global markets.

Investors are increasingly worried that European banks are exposed to huge losses on loans they have made in Greece, Italy and other indebted countries.

Europe's leaders will hold yet another summit on December 9, where it is hoped they will deliver the final word on a response to the eurozone crisis.

PA