The Bank of England (the Bank) has today launched its first system-wide exploratory scenario (SWES) exercise. The SWES will improve our understanding of the behaviours of banks and non-bank financial institutions (NBFIs) during stressed financial market conditions, and how those behaviours might interact to amplify shocks in UK financial markets that are core to UK financial stability. We are working closely with the Financial Conduct Authority (FCA), The Pensions Regulator (TPR) and other regulators on this exercise.
In recent years, events in a number of global markets have illustrated how liquidity conditions can quickly deteriorate – underlining some of the vulnerabilities in market-based finance (MBF). In light of these events, we have requested that a group of banks and NBFIs who are active in UK financial markets participate in a collaborative SWES exercise to:
enhance understanding of the risks to and from NBFIs, and the behaviour of NBFIs and banks in stress, including what drives those behaviours; and
investigate how these behaviours and market dynamics can amplify shocks in markets and potentially pose risks to UK financial stability.
The SWES is the first exercise of its kind, and it offers a novel opportunity to better understand system-wide dynamics. The exercise will focus on how the actions of individual financial firms can interact to exacerbate shocks, and on the resulting impact on a specific set of important UK financial markets – the SWES ‘markets of focus’.
The SWES is not a test of the resilience of the individual firms we have asked to participate. Those participating firms include large banks, insurers, central counterparties (CCPs), and a variety of funds (including pension funds, hedge funds, and funds managed by asset managers). This reflects the wide range of institutions engaged in UK financial markets.
Today we have launched an initial information gathering phase of the SWES. Later this year, we will ask banks, insurers, funds and CCPs to evaluate the impact of a severe but plausible stress to global financial markets. This stress scenario phase of the SWES will comprise of two rounds, enabling us to account for system-wide interactions and amplification effects. We anticipate publishing a Bank report to conclude the SWES exercise in 2024.
The Bank is conducting this exploratory exercise under the guidance of the Financial Policy Committee (FPC) and the Prudential Regulation Committee (PRC) working closely with and with full support of the Prudential Regulation Authority (PRA), FCA and TPR; both Committees support this exercise and consider it an important contribution to understanding and addressing vulnerabilities in MBF.