Can banks be forced to lend more?

 
Bank of England

If it wasn't tragic it might be comic, that there is so little consensus among politicians, bankers and economists about whether the weakness in the economy stems more from inadequate supply or weak demand.

This uncertainty is most acute in the debate over why banks are lending so little, especially to businesses.

So, as the FT reports this morning, the Lib Dems in the coalition want the Bank of England's cheap Funding for Lending scheme (FLS) extended beyond the end of January 2014, when it expires, and - in some nebulous way - to provide even more attractive credit to smaller companies.

But those who run our biggest banks tell me that the FLS will never on its own either lead banks to increase their net lending to the real economy or in a significant way contribute to economic recovery.

For them, the shortage of credit is not the underlying reason why the UK economy can't wake from its torpor (although the the credit crunch sent the economy into its torpor five years ago).

They say that the businesses they deem to be creditworthy simply don't want to borrow right now - because these small businesses don't see the demand for their respective goods and services, so they are neither increasing their working capital or investing in enlarged capacity.

On this view, providing cheap credit to small businesses could never create a recovery, and the flow of credit to these businesses will only start to gush as and when the economy is independently recovering (perhaps, the likes of Vince Cable would say, when government increases its own spending on infrastructure - or when Britain's customers in the eurozone start to spend again).

In that sense, the FLS is an example of the proverbial pushing on a string, in an economy. You can take the gee-gee called Small Business to the pond called Cheap Loans, but you can't...

Certainly the available data seems to underwrite the gloom of the bankers about the FLS rather than the optimism of the Treasury and government about it.

To remind you, in the six months since the FLS was launched in the middle of 2012, net lending to UK households and non-financial businesses fell by £1.5bn - and the contraction of credit provision in just the last three months of 2012 was £2.5bn.

Within these figures, there is a bifurcation between the experience of individuals and of businesses. There does appear to be an increase in the provision of mortgages for house purchase, which looks as though it will be sustained throughout 2013. The take-up of loans by companies remains flatter than a very flat pancake.

All that said, the provision of loans to banks by the Bank of England at an effective interest rate of 0.75% has brought down the cost of mortgages and the cost of small business loans. Which has increased the spending power of households and companies, and presumably has had some positive economic impact.

But the fundamental problem remains - that the companies to which the banks want to lend do not want to borrow.

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The fundamental problem remains - that the companies to which the banks want to lend do not want to borrow”

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So here's the question. Should the Treasury redesign the scheme in a way that pushes credit to the weaker and riskier companies that the banks are shunning?

Should the taxpayer, in other words, take on some of the credit risk of lending to businesses, so that banks can lend to the businesses they don't regard as credit worthy, but perhaps ought to be supported - in the hope that some of these unbankable companies will turn into fast-growing winners.

Before answering this, let's shove to one side what you might call the RBS and Lloyds paradoxes - which is that, as semi-nationalised banks, the Treasury could simply instruct RBS and Lloyds to increase their appetite for risk, irrespective of the red ink that might flow.

For better or worse, the Chancellor wants to maintain the conceit that RBS and Lloyds are normal commercial operations. And therefore on his watch at least there is no chance of them being converted into arms of the state, whose lending is directed for public policy purposes.

Is there any likelihood however that George Osborne and the Treasury would indemnify the Bank of England and all the banks against losses on a certain portion of their business lending, so that the banks could lend to younger and more ambitious companies without exposing their owners to the losses?

The answer, I am told by government sources, is firmly negative - for reasons of practice and principle.

The practical objection is that it would be seen as state aid, and would therefore be blocked or impeded by the European Commission.

And the more ideological objection is that it would be a de facto statement that the banks have no idea what they're doing when lending - and that's quite hard to sustain for a government that wants to privatise RBS and Lloyds at the earliest opportunity.

All of which suggests that although the life of FLS will almost certainly be extended for another year or so, and perhaps access to cheap loans from the Bank of England will be widened to lenders that aren't technically banks or building societies, it won't be "put on steroids" (to use the resonant phrase from this morning's FT headline).

That said, there is a different set of dice that could be rolled, by the Bank of England's Financial Policy Committee (FPC).

Sir Mervyn King Sir Mervyn King: Heading for disagreement with the chancellor?

The FPC might yet conclude that the underlying cause of inadequate credit creation is that banks have barely enough capital to support potential losses on their current portfolios of loans.

So on March 19 it could decide that banks need to be over-capitalised, for the health of the economy - in the hope and expectation that banks forced to raise tens of billions of pounds of additional capital would then feel powerfully motivated to lend, to earn a return on that new capital.

This would be a very bold decision for the FPC to take. And, rather like the FLS, it would be policy forged in the crucible of hunch and optimism, rather than scientific certainty.

Such an ordinance from the FPC would certainly lead to conflict between Sir Mervyn King, the retiring governor of the Bank of England, and Mr Osborne. It would oblige taxpayers to inject more funds into Lloyds and RBS, and that is the very last thing (literally) that the Chancellor wishes to do, and could be career-terminating for him.

But for the banks and perhaps for small businesses too, that FPC meeting could be rather more important than the budget on the following day (though, in theory, we will have to wait till March 27 to know what the FPC has ordained).

 
Robert Peston Article written by Robert Peston Robert Peston Economics editor

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  • rate this
    0

    Comment number 363.

    289.All for All

    Are these your own plans or do they reference a solution already worked out? If so please provide a link to it because I really haven't a clue how you would implement what you've written. Austrian school?

    The key point is that banks should only lend money they actually have. A trusted protected body must be the sole issuer of all new money interest-free on behalf of the state.

  • rate this
    0

    Comment number 362.

    305.JoellyPololly
    The point of the scheme seems to be to fund a mini-bubble based on uncreditworthy borrowers.
    ~
    Not really. Not only does bank lending tend to be cyclical, but in a difficult economic situation it tends to instinctively tighten.

    Govt's desire is that worthy borrowers should not be sent away empty-handed.

  • rate this
    -1

    Comment number 361.

    jgm2 @357
    "age old skill
    of picking winners
    no more understanding"

    We need to 're-recruit' or transform what 'expertise' we might still have, agreeing Equal Partnership and a diversified investment strategy, allowing teams to function and compete in a range of risk-levels, performance rewarded with furtherer responsibility NIT corrupting 'bonuses', failure rewarded with lesser roles

  • rate this
    0

    Comment number 360.

    Our banks are good at making money, that is theit focus and it is an art.
    Underneath our economics is burgeoning pensions liability which matures to annuity. Both the concept and its practice are overdue root and branch reforms becuse of the vast capital investment that has accumulated into very conservative practice. Incresed competion for annuities business is worth review.

  • rate this
    -3

    Comment number 359.

    Last night on the BBC six o’clock news
    Nick Robinson ask 2 men in a pub how much they though the Debt had gone up under the Tories, he then held up a pint glass and put his hand up and said is it to here then moved and said to here
    This is all true
    He could have informed them of the facts but playing child like games seemed much more entertaining.

  • rate this
    +1

    Comment number 358.

    I run a small successful business and have never been to the bank for a loan. I would suggest that in a lot of cases, if you have to go to ask for a loan then your business is perhaps not viable? Banks have been stung badly over the past few years with debt so of course they are being much harder in their outlook on providing loans.

  • rate this
    0

    Comment number 357.

    exbankman

    'The age old skill of picking winners and losers by the local Bank Manager has sadly disappeared.'

    The last time I wanted money from a bank (for a mortgage) was 15 or more years ago. I got some kid with a liberal arts degree plugging figures into a spreadsheet. No more understanding of maths or economics than a dog watching an Airbus has of aerodynamics.

  • rate this
    0

    Comment number 356.

    20 years or so ago Banks were more willing to help small businesses to grow and get started by providing small amounts of working capital. Although in theory they can still do this it does not happen to any significant degree. The Banks are only prepared to lend against security. The age old skill of picking winners and losers by the local Bank Manager has sadly disappeared.

  • Comment number 355.

    All this user's posts have been removed.Why?

  • rate this
    0

    Comment number 354.

    M_T_Wallet @352
    "how?"

    Part of problem is in servicing of 'guarantees' - ordinary expectations of contract honouring & enforcement, between businesses, between employers & employees, between state & citizens - all 'essentially' FRAUDULENT, dependent on (but actually destabilising of) health of host economy - to the point of crisis if not war - calling for contract re-write, in equal partnership

  • rate this
    0

    Comment number 353.

    @351.jgm2


    Agree.

    But if you force over-cpatalised banks to lend, then they cease to be over-capitalised.
    Given that banks have been told to de-leverage, they do this by reducing the loan portfolio. Extra capital will merely reduce the rate of de-leverage.

  • rate this
    +1

    Comment number 352.

    343.JustKBO
    1 Hour ago
    341 I agree with you, but how do you do it?
    --------
    Affordable social housing build/re-build program.
    Future income guaranteed through rents and sales. Create 300-500k apprenticeships for young people from labourers through to marketing. Massive multiplier.
    Scrap warmongering and trident - waste of money

  • rate this
    +1

    Comment number 351.

    From the article...

    ' it could decide that banks need to be over-capitalised, for the health of the economy - in the hope and expectation that banks forced to raise tens of billions of pounds of additional capital would then feel powerfully motivated to lend'

    Sheer lunacy. Force banks to over-capitalise so they then have to find risky investments to try and cover their costs.

    Kafkaesque.

  • rate this
    +5

    Comment number 350.

    @343 Do savers and pensioners consider it fair now?

  • rate this
    -1

    Comment number 349.

    itinerant@344
    "disaster"

    Perhaps NOT beyond recovery from 'educational deficit', we see a
    consensus emerging on 'demand deficit', perhaps soon on 'democratic deficit'

    Who will SEEM to 'have to pay' in clear-up?

    Acknowledging 'what we have' is from centuries of work AND injustice (work mainly of forefathers, injustice acutely of today), need Social Contract for security of ALL: equal partnership

  • rate this
    +3

    Comment number 348.

    Halt the cuts and in some cases reverse them eg school improvement programme and watch the economy recover faster than you can say deficit. An anal obsession with balancing budget is reason for recession not Euro or anything else. Economy is not like a household budget.

  • rate this
    -2

    Comment number 347.

    The weak economy is because we have exhausted the world's finite materials (namely oil). There will never be a recovery.

  • rate this
    -1

    Comment number 346.

    JustK@343
    "down house prices"
    "agree (but will it be) fair?"

    Like to eat omelette, in stable economy
    But have concern for eggs & bankers
    Does you credit

    The 'money spent afar' was prodigal son's pension pot. He came back still able to regain credit. To escape our 'locked-in' paper prison, we need to wipe the slate by domestic agreement, with rules fairly to settle any foreign outrageous

    As@282

  • rate this
    +1

    Comment number 345.

    Money will not be borrowed when there is no income for repayment. People are not spending because they fear job loss. Stop privatizing the public sector en masse, and watch the economy begin to recover. Nations can afford to go into debt. The economy of a Nation cannot be equated to the economy of a household. Nation's live longer than households. Austerity is only about protecting banks.

  • rate this
    +1

    Comment number 344.

    @ LOM . course it's lack of demand. 4 years of the base rate at 0.5% and abysmal growth proves it lack of demand. now figure out why. maybe it's because current monetary policy has only succeeded in signalling a disaster ahead. why? because the banks are bust.

    I just hope the 1% are as scared as I am.

 

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