Lending will suffer as banks face painful liquidity requirements

New regulatory restraints on banks’ liquidity will force them to scale back lending that requires high levels of capital and increase interest rates on loans, according to JPMorgan.

In a report published last week, JPMorgan says the liquidity coverage ratio an aspect of the Basel III rules that requires banks to hold enough highly liquid assets to survive a 30-day run on funding is the most painful piece of regulation banks are facing.

The LCR will be introduced on January 1 2015 but banks must start reporting liquidity ratios to supervisors on January 1 2012.

JPMorgan says UK banks have a €130bn (£114bn) shortfall to make up before they meet the required standards.

It adds that banks will be forced to reduce their reliance on wholesale funding and increase their retail deposits, but warns that the cost of increasing retail deposits is high as banks would need to raise the interest rates they pay on savings accounts by at least 50 to 150 basis points to significantly increase volumes.

Gary Styles, strategy, risk and economics director at Hometrack, says: “It will be difficult for some smaller and medium-sized lenders to build up the necessary liquidity reserves to survive a 30-day run, which creates a competition issue between large and less sophisticated lenders.

“And while banks have been gradually reducing their wholesale exposure over the past few years, if they had to significantly increase their retail deposits it would considerably shrink the mortgage market.”