British banks gave up a fight over compensating customers wrongly sold insurance, forcing Barclays Plc and HSBC to take a combined hit of more than $2 billion in the latest blow to the industry.

Barclays said it would make a 1 billion pound ($1.6 billion) provision in the second quarter of 2011 to cover the costs related to the mis-selling of payment protection insurance (PPI), with HSBC setting aside $440 million.

British banks, already under pressure from regulators to clean up their act following the financial crisis, said they would not appeal against a ruling requiring them to pay compensation. The bill could total around 8 billion pounds.

Monday's hit comes after rival Lloyds capitulated last week and unveiled a shock 3.2 billion pound charge to cover compensation, after years legal of wrangling.

Barclays and HSBC shares fell 1.4 percent in mid-morning trade, underperforming a 0.3 percent decline in Britain's benchmark FTSE 100 index <.FTSE>.

This is another negative for the banking sector. It means even more costs for the banks, which were already facing mounting costs on their capital structures, said John Smith, fund manager at UK investment firm Brown Shipley.

Banks face higher costs from plans by a government-appointed commission to make them hold more capital and form separate subsidiaries for their retail and investment banking operations, an effort to better protect retail customers and shield the banks in the event of another financial crisis.

Bank overdraft fees also remain in the spotlight after being criticized for being opaque by Business Secretary Vince Cable and parliament's Treasury Select Committee.


The PPI policies were typically taken out alongside a personal loan or mortgage to cover repayments if customers fell ill or lost their jobs.

But the policies were sold to self-employed or unemployed people who would not have been able to claim and to consumers who did not realize they were taking out a policy.

Last month a court ruled the banks were at fault.

Barclays said it had agreed with the Financial Services Authority (FSA) to contact customers and assess the situation.

We don't always get things right for our customers; when we get them wrong, we apologize and put them right, Chief Executive Bob Diamond said in a statement.

Royal Bank of Scotland (RBS) said last week it was too early for it to estimate the possible impact but said settling claims could be material.

Deutsche Bank analysts have said RBS could face a 1 billion pound provision on the PPI mis-selling.

Bank of America has also raised its provision for mis-selling to $650 million from an original $592 million.

Spain's Santander had not challenged the findings of regulators and has already been paying compensation.

It should not really affect banks' long-term earnings forecasts, but the PPI issue is yet another negative for the sector, Royal London Asset Management fund manager Jane Coffey said.

($1=.6100 Pound)

(Editing by Paul Hoskins and Alexander Smith)