Funding For Lending - Welcome help or another flop?

A new government scheme designed to encourage lending to businesses has finally launched – but commentators have already raised concerns about its effectiveness.

Under the Funding For Lending scheme the Bank of England effectively lends to banks at below market rate, on the basis that the banks will in turn lend that money to businesses and homeowners. The Bank of England says that the system will increase the total volume of lending by helping to offset the current “elevated” price at which banks can currently borrow.

The government insists that the scheme is structured in such a way as to incentivise lending. Banks that increase their lending will be able to borrow more from the scheme, and at a lower cost. Conversely, the cost of borrowing from the scheme will increase for those banks that reduce their net lending.

Has the scheme had any impact?

Although it has only been in operation for a week, some analysts suggest that the scheme has already impacted mortgage rates. Some fixed-rate products have fallen in price in recent weeks, reportedly in anticipation of Funding For Lending. Meanwhile RBS has said that it will cut by 1 per cent the cost of a portion of its business loans.

What are the criticisms?

There are several major criticisms levelled against Funding For Lending. In the first instance, the supposed successes already enjoyed by the scheme appear, on closer inspection, to be less impressive than they first seem. For example, only those with deposits of more than 40 per cent have benefited from lower mortgage rates. RBS, meanwhile, has not said that it will increase lending – only that some of its existing lending will be cheaper.

There is also concern about the government’s inability to enforce an expansion of lending. The scheme operates on the basis that banks will take advantage of the supposed new incentive to lend. But there are no sanctions for banks that borrow cheaply from the Bank of England and then fail to lend. There is also no way for the government to force the banks to reduce the price at which businesses and homeowners borrow. It is relying on increased availability to drive down prices – but, as we have seen, the government has no way of ensuring that availability does in fact increase.

Connected with this is the fact that the Funding for Lending scheme does not address the underlying risk aversion demonstrated by banks. The scheme is designed to tackle the rising cost of borrowing, but the stumbling block for many businesses is not the price of a loan but their ability to secure one at all. Banks are unwilling to lend, seemingly because of a perception that most businesses are too risky a proposition. Funding For Lending does little to mitigate this.

The government says that the success of the scheme will be difficult to determine, because “we cannot know what would have happened in its absence.” Broadly, though, the Bank of England expects lending “to be higher than in the absence of the scheme.” The Bank had predicted that bank lending would fall over the coming months, and has said that the success of Funding for Lending “will depend on the extent to which it can prevent that projected outcome.” For many commentators, though, these parameters are too narrow. Until there are concrete measures to force the banks’ hands, for example through nationalisation, many will insist that the government is not doing enough.