Britain's biggest banks face a financial "black hole" of up to 60bn pounds from regulatory demands, hidden losses and potential mis-selling costs that threaten to jeopardise future growth, the Bank of England has warned.
In its Financial Stability Report (FSR), the Bank revealed that the "big four" - Royal Bank of Scotland, Lloyds, Barclays and HSBC - may need to take pounds 15bn of extra provisions on consumer loans and European debt. They may also require "a further pounds 4bn-pounds 10bn" to cover fines and customer compensation, and "between pounds 5bn and pounds 35bn" to meet regulatory risk standards.
Sir Mervyn King, the Bank's Governor, said the potential losses distorted the "picture of banks' health" and that lenders may have to "raise capital or take steps to restructure". He added: "The danger to be avoided is that of inadequately capitalised banks holding back our recovery."
However, he stressed that no more taxpayer money would be put on the line. "It was made very clear that the Treasury did not want to put more into the state-owned banks," he said.
Markets have lost confidence in the banks, which had been "mis-leading" investors due to their "complex and opaque" numbers and, to recover investors' trust, lenders needed to set aside capital for "expected losses" and for potential compensation and fines over customer mis-selling and Libor rigging, the Bank said. Risk levels also needed to be calculated more prudently.
The decision was taken after last week's meeting of the Financial Policy Committee. In the most dramatic intervention since the pounds 67bn bail-out of lenders from RBS to Lloyds, the proposal will see regulators from the Financial Services Authority sent into banks and building societies to ensure losses are properly declared by March next year.
However, the Bank declined to put a single number on the scale of potential recapitalisations, stressing that it would depend on the FSA judgment on each individual bank. Sir Mervyn added: "The problem is manageable, and is already understood at least in part by markets."
Bank shares reacted favourably as fears of a worse outcome proved unfounded. Barclays shares closed up 1pc at 244.6p, RBS was 1.5% higher at 299p, and Lloyds rose 1.5% to 46.64p. Jason Napier, an analyst at Deutsche Bank, said: "Overall, the FSR is in line with our expectation, and in areas the report is better than we had feared."
The plan could lead to a shake-up of the industry with rights issues, asset sales, and disposals - so long as they "do not hinder lending to the real economy".
Barclays has already raised $3bn (pounds 1.8bn) in contingent capital, Royal Bank of Scotland has previously been asked by the regulators to consider selling its US operation Citizens, and Lloyds Banking Group is rumoured to be looking at the disposal of its stake in wealth manager St James's Place.
Sir Mervyn said: "The recommendation we have made will soon get the banks back to a position where they can support our economic recovery."
The Bank also released separate data showing write-offs by UK banks fell to pounds 3.5bn in the third quarter from pounds 4bn in the previous three months, well below the peak of pounds 6.3bn in 2011 and the lowest since 2009.