Bad debt looms, banks warned

Banks were warned yesterday by the Bank of England and the Securities and Investments Board that a new round of bad debt problems was looming.

The first issue of a new twice-yearly review published jointly by the two organisations urged banks not to let the buoyancy of the economy lead them into careless lending.

The publication, called the Financial Stability Review, said that at a time of optimism about the economy and competitive pressure to maintain market share "rigorous credit assessment often takes second place. This leads to imprudent loans being booked during the upturn, so that subsequent problems are more severe than they need be."

It added that the latest set of clearing bank results suggested that "just such a critical stage in the banking cycle has been reached." Bad debts had declined, probably to their lowest point in the cycle. Yet when expansion was the priority and the economic climate was favourable, warnings from bank credit control departments that monitor the quality of loans were seen as obstructive.

The review urged senior management to ensure that credit control officers were not ignored in the rush for new business. It also listed a series of risks arising from the conversion of building societies such as the Halifax and Alliance & Leicester to banks.

There was fierce competition in the mortgage market, where building societies that are remaining mutual were charging lower lending rates.

At the same time, societies that are converting are offering lower deposit rates because members are locked in, waiting for their windfalls. There was a risk of a flight of money after the conversions take place.

The review said: "It is important that societies recognise the extent to which their lending and deposit books are becoming more mobile and interest rate-sensitive." The review also warned societies not to reduce their lending standards because of competitive pressures.

Other risks listed by the review included unrealistic expansion plans and moves into areas such as treasury management where societies lack expertise.

In the wake of the Robert Fleming and Morgan Grenfell Asset Management scandals, the review also warned that fund management was not the low- risk business it was often assumed to be.

In cases of fraud or negligence there was a risk of losses that could wipe out the financial resources of fund management firms and put their owners' reputations at risk.