The Bank of England (BoE) confirmed today that the eight largest U.K. banks are well-advanced in becoming resolvable. Bail-in resolution is a complex, largely untested concept and a successful outcome would rely in large part on market confidence in the process. By improving transparency, S&P Global Ratings believes that today's disclosures enhance the likelihood of a well-executed resolution, assuming the banks go on to address the residual gaps identified in the assessments. We see these gaps as areas requiring further work to maximize preparedness, not material obstacles to an effective resolution.

The resolvability assessment outcomes support our view that there is a real alternative to taxpayer-funded bailouts, and government support for a failing bank is an uncertain prospect. Alongside various European and U.S. peers, we removed implicit government support from our ratings on systemic U.K. banks in 2015 and introduced uplift for additional loss-absorbing capacity (ALAC). This reflected a purposely forward-looking view that firms would build sizable bail-in buffers and address other resolvability barriers. The resolvability assessments published today confirm that the sector has substantially achieved these pre-conditions for a successful resolution.

Pre-Conditions For Resolvability

Resolvability means that a non-viable bank can be recapitalized and restructured in an orderly way, without disruption to systemically important functions or direct cost to taxpayers. The BoE committed to the U.K. Parliament that the country's most systemic banks would become resolvable by this year, and midsize banks by 2023. Today's announcements were postponed by a year due to the COVD-19 pandemic and are the first public disclosures on the large banks' progress. Biennial updates are planned.

Consistent with the resolvability barriers identified by the Financial Stability Board, the BoE identified three broad outcomes that banks must achieve to prepare for a potential resolution: adequate financial resources, business continuity and restructuring, and coordination and communication (see chart 1). Certain aspects of resolvability are clearly visible to market participants, such as banks' issuance of securities to meet the minimum requirement for own funds and eligible liabilities (MREL). Changes to banks' internal processes are less transparent and today's resolvability assessments provide valuable insight into their preparedness (see Increasing Disclosure Is Set To Shine More Light On Bank Resolvability, published on March 18, 2019).

Resolvability Assessments Confirm Significant Progress

Today's disclosures comprised resolvability assessments published by the eight largest U.K. banks, alongside the BoE's appraisal of the sector and each firm. Resolvability is a spectrum, not a binary pass/fail outcome, and the BoE summarized banks' progress against the three resolvability outcomes on a five-point scale: no material issues currently identified; area for further enhancement; shortcoming; deficiency; and substantive impediment (see table 1). The BoE found no deficiencies or substantive impediments but identified a number of shortcomings and areas for further enhancement. This conclusion is not a surprise to us given that these are the first public assessments and resolution planning is a relatively nascent discipline.

Table 1

We conclude from the exercise that banks have made good progress on resolvability and should be able to address the outstanding points. The resolution of a systemic bank would always be complex and most likely encounter unforeseen problems, but preparedness maximizes the chance of success.

Banks Have Resolvability Gaps To Address

The resolvability gaps differ across the eight banks, but the BoE identified two particular themes where more work is required across much of the sector:

• Funding in resolution. The BoE saw a need for more granular modeling of liquidity needs and resources through the various stages of a resolution process. It also identified required improvements in collateral management and forecasting, which would be essential for a resolved bank to access liquidity from the BoE or other secured funding sources. Compared to MREL, funding in resolution is a more recent focus for banks and resolution authorities. Therefore, it is not a surprise that this is an area where further work is required by much of the sector.
• Restructuring planning. The BoE found that banks require more detailed preparation to submit business reorganization plans within a month of entering resolution. These complex plans would likely entail profound changes to banks' business and operating models.

In addition to these two themes, the BoE identified other areas where certain banks must undertake more work. These include timely balance sheet valuations in resolution; continuity of access to relevant financial market infrastructure providers; and improved governance and assurance processes. Regarding legacy capital instruments, the BoE said that it welcomes banks' steps to reduce the outstanding stock and expects these mitigation actions to continue.

The bank-specific findings show that HSBC, Lloyds, and Standard Chartered had certain shortcomings, and only Santander UK had no material issues across all three resolvability outcomes. HSBC and Standard Chartered are the most internationally-active U.K.-headquartered banks, which adds another layer of complexity to their resolution plans. Standard Chartered has a single point of entry resolution plan, whereas HSBC has a multiple point of entry-based model under which it could split into regional blocks in the event of a disorderly resolution process. HSBC's approach implies a range of potential resolution scenarios and requires close coordination between its resolution subgroups.

The Swiss regulator offers gone-concern capital rebates to banks that make progress on resolvability, but this incentive is not on the table in the U.K. or most other jurisdictions. That said, the BoE's Financial Policy Committee has previously stated that effective resolution lowers the U.K. banking system's Tier 1 capital requirement by about five percentage points. Therefore, firms might face higher regulatory capital or MREL hurdles if they fail to fully satisfy the BoE regarding their resolvability. Maintaining market confidence is another strong motivation for banks to address the action points identified in the resolvability assessments.

ALAC Rating Uplift Reflects Resolvability Progress

The outcome of the resolvability assessments was in line with our expectations and consistent with our ratings. Under our rating methodology, we classify each government's tendency to bail out failing banks as either highly supportive, supportive, or uncertain. Alongside the U.S. and certain other European countries, we moved the U.K. to the latter category in 2015 after it enacted the first EU bank recovery and resolution directive. A resolution action at that time would have been very difficult and, although it remains a complex proposition, it should now be more feasible in light of banks' work to address the legal and practical impediments.

Our ratings on the eight largest U.K. banks include the maximum ALAC uplift possible under our methodology (see chart 2). This reflects their large buffers of subordinated gone-concern loss-absorbing instruments--principally senior holding company debt (senior nonpreferred debt in the case of Nationwide) and Tier 2 capital issues--and broader progress on resolvability. We expect that a resolution action would likely ensure that operating entities' senior obligations continue to be paid on time and in full. The gaps found in the resolvability assessments do not alter our view that the U.K. resolution regime is effective and authorities have the ability and intent to apply it to failing systemic banks. Indeed, the evident willingness of the authorities to pursue resolvability and strengthen public disclosure reconfirms our view that U.K. policy remains resolutely focused on investor bail-in rather than government bailout.

Chart 2

We have maintained resolution counterparty ratings (RCRs) on the eight banks since 2018. For their rated U.K. and EU operating subsidiaries, the long-term RCRs sit one notch above the issuer credit ratings. This rating differential recognizes that certain liabilities have a lower default probability because they are legally exempt from bail-in in the event of resolution.

Similar Progress On Resolvability In Other Leading Jurisdictions

The U.K. is among a group of countries that are strong advocates of resolution and are making good progress in bringing the concept to life. In terms of public resolvability assessments, developments in peer jurisdictions include the following:

• U.S. regulators have published firm-specific feedback letters for a number of years that mention shortcomings or deficiencies in resolution plans. They also publish a public section from banks' resolution plan submissions.
• The Swiss regulator has published annual resolution reports since 2020. The 2022 version showed continued progress on resolvability by global banks Credit Suisse Group AG and UBS Group AG while the domestically focused banks were less advanced, having started later.
• The eurozone's Single Resolution Board has defined a heatmap for assessing banks' resolvability and plans to publish the aggregated results later this year, followed by annual updates.

Related Criteria

• Financial Institutions Rating Methodology, Dec. 9, 2021

Related Research

• The Resolution Story For Europe's Banks: More Resolvability, Consistency, Credibility, Oct. 5, 2021
• Increasing Disclosure Is Set To Shine More Light On Bank Resolvability, March 18, 2019