The Bank of England said on Tuesday that threats to Britain’s financial system had risen this year due to stretched valuations of companies investing in artificial intel
ligence, risky lending and bets with borrowed money in government bond markets.
The comments in its half-yearly Financial Stability Report build on warnings made in recen
t months by BoE Governor Andrew Bailey and other policymakers, although it also accompanied the first reduction in capital requirements for British banks since the 2008 global financial crisis.
The BoE judged that Britain’s banking sector was well capitalized and that aggregate indebtedness in th
e domestic corporate and household sector remained low, but saw risks from overseas and in other corners of financial markets.
“Overall risks to financial stability have increased during this year. Key sources of risk include geopolitical tensions, fragmentation of trade and financial markets and
pressures on sovereign debt markets,” Bailey told a press conference.
“As governments around the world face increasing spending pressures, their capacity to respond to shocks in the future may be more constrained than we’ve seen in the past,” he added.
BOE Sees Share Valuations Stretched Due to AI
Investor enthusiasm for AI had pushed share valuations in the United States to their most stretched since the dotcom bubble, and in Britain to their highest since the global financial crisis, the central bank estimated.
“Deeper links between AI firms and credit markets, and increasing interconnections betwee
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n those firms, mean that, should an asset price correction occur, losses on lending could increase financial stability risks,” the BoE said.
Bailey said that even if AI proved a success, there was no guarantee that all companies which were currently highly valued would turn out to be winners.
The BoE also noted the collapse of U.S. car parts maker First Brands and auto dealership and lender
Tricolor, which Bailey said in October might be a warning of bigger problems to come.
The BoE intends to conduct a stress test focused on the resilience of the private market ecosystem, with more details to come later this week.
“It’s important for firms to manage their risks by including scenarios in their analysis where losses are greater, or more correlated, than in the past,” Bailey said.
The British Private Equity & Venture Capital Association, a trade body, said that private equity finance had proven resilient in past crises.
“Private capital has been an important part of the UK economy for over 40 years, showing its resilien
ce through different economic cycles,” BVCA Chief Executive Michael Moore said in a statement in response to the BoE report.