In his autumn statement, George Osborne sang the praises of his new scheme to boost bank lending to small and medium enterprises: ‘with the Bank of England, we are directly addressing the problem of tight credit through the Funding for Lending scheme’. Funding for Lending (F4L), launched in August 2012, is the latest in a string of schemes designed to improve credit conditions. Under this scheme, banks can borrow up to 5% of the value of their outstanding loans directly from the Bank of England at below market rates. If banks increase their net lending, the amount they can borrow from the Bank of England increases at the same rate. So a bank that has £100m of lending outstanding can borrow £5m from the Bank, but if it increases its net lending to £105m, it can borrow £10m. Lowering bank’s funding costs means that they can in turn lower rates for borrowers, which remain stubbornly high despite rock-bottom Bank rate and £375bn of quantitative easing.

The problem with the Funding for Lending scheme is that it has no mechanism for ensuring banks pass the reduction in their funding costs on to borrowers. The National Loan Guarantee Scheme failed precisely because it required banks to pass on these savings, which they proved unwilling to do. But in the worst case scenario for F4L, the Bank lends £80bn (5% of total outstanding loans) to banks at below market rates without banks lending a penny more. There are also losers from the scheme: the liquidity provided by the Bank means that banks no longer have to compete so hard for savings deposits, and can therefore slash rates on savings accounts. Since the launch of the scheme, rates on savings accounts have fallen by over 1%.

The logic is that if Funding for Lending improves credit conditions, the economy will get a boost, benefiting savers in the long run. But, as Andrew Bailey of the Bank’s Monetary Policy Committee pointed out in evidence to the Treasury Select Committee, the jury is still out on whether F4L is actually increasing bank lending. There are some signs of success: the Bank’s Credit Conditions Survey finds that 26% of banks say they are supplying more mortgages. Large companies were also benefiting from easier access to credit. But small and medium-sized enterprises – the policy’s intended target – were seeing little improvement in their access to credit.  Demand for loans from SMEs declined further in the last quarter of 2012, as many gave up on even approaching their banks for accommodation. So far, F4L’s success seems to consist in re-inflating the housing market, but something more than Funding for Lending is needed to revive the languishing business sector.

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