Boston, MA -- (SBWIRE) -- 07/14/2012 -- BMI View: The UK banking sector will be confronted with a more difficult year in 2012 as the eurozone sovereign debt crisis nears its make-or-break moment. Despite efforts to boost capital adequacy, UK banks are still exposed to a constriction in credit availability and deterioration in economic activity. In addition, we warn that over the longer term, the industry faces a raft of new regulation, which will dampen future growth. Although UK banks have less exposure to the sovereign debt crisis in the periphery of the eurozone than do their peers in the core of the bloc, indirect exposure from derivatives and credit availability nonetheless provide considerable cause for concern. Navigating the debt storm will prove even more challenging in 2012 as the sovereign debt crisis will likely reach the make-or-break moment for the euro. UK banks have boosted capital buffers since the global financial crisis, but that would not be sufficient in the event of a major sovereign debt default and collapse in the eurozone banking system. Signs of mounting stress are appearing in a number of places. For one, bank cash held at the European Central Bank (ECB)'s deposit facility (for euro area banks) has reached record levels (EUR471bn at the last count) signalling heightened fear over capital safety. Similarly, both the UK and Germany have United Kingdom Commercial Banking Report Q2 2012 © Business Monitor International Ltd Page 23 recently issued sovereign debt at record low yields as investors have become increasingly concerned over capital safety. Funding markets have also become stressed, which has motivated the ECB, Bank of England, US Federal Reserve and a number of other central banks to coordinate on reducing the cost of US dollar funding for banks. The Bank of England, for its part, is likely to engage in further quantitative easing in 2012. The target on asset purchases was raised to EUR275bn from EUR200bn last year and could rise an additional EUR75- 100bn in 2012. Pinning down long-end yields will help prevent a material deterioration in bank holdings of UK government bonds and will provide some relief to mortgagors. However, a flattening of the rates curve would erode profitability of the UK's borrow-short-lend-long banks. Meanwhile, the government is likely to exert further pressure on banks to curb excess pay and to support lending to the real economy. Thus far, the Project Merlin initiative - aimed at boosting lending to small and medium sized companies - has failed to bear much fruit, with the government resorting to more direct initiatives such as its credit easing scheme. Beyond the immediate turbulence stemming from the eurozone crisis, the UK banking sector faces constant existential threats from regulation both at home and in the European Union. Prime Minister David Cameron raised alarm following his decision to veto a treaty at the last EU summit in December over concerns about plans to tax financial transact

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