£80bn for big banks – but only if they ease the credit squeeze

By Scott Reid and Holly Williams
Published on 13/07/2012 00:00

Central bank policymakers are today expected to throw down an £80 billion challenge to Britain’s biggest lenders in an effort to ease the credit squeeze.

The Bank of England (BoE) “funding for lending” programme, which has Treasury backing, will offer the money to banks on condition they pass it on to cash-strapped businesses and households in the form of cheaper loans and mortgages.

The co-ordinated action – first flagged last month – is part of a raft of measures being taken to boost lending as banks face a worrying new phase in the credit crisis.

Worsening conditions in the eurozone are making it harder and more expensive for banks to borrow, while they have also been hoarding cash to shore-up their balance sheets in the face of economic woes.

The move comes as it emerged yesterday that banks have slashed the amount of money held at the European Central Bank (ECB) after it stopped paying interest on overnight deposits.

ECB policymaker Josef Bonnici 
described the plunge in overnight 
deposits – to €325bn (£260bn) from more than €800bn just a day earlier – as “encouraging” and said he expected to see a rise in loans to firms and consumers as a result.

The cut in deposit rates to zero means banks now get nothing for parking cash at the ECB and officials hope that will nurture more interbank lending by encouraging lenders to look for more profitable options.

Under today’s proposals from the BoE, British banks will be offered vital funding at low interest rates over a four-year period.

But the funding will be linked to bank lending performance in what marks a direct attempt to free up the log-jam in credit hitting the economy.

Bank governor Sir Mervyn King – who revealed the plans in his Mansion House speech on 14 June – warned this week that a “great black cloud of uncertainty” hung over businesses as the eurozone crisis deepened.

He said lending to businesses has been falling since the crisis started, but that the funding for lending scheme should help provide access to finance. Funding is set to be offered at rates that will be so attractive it will “hit banks in the face”.

However, experts have been quick to warn there are no guarantees the plans will address the core problem of companies’ reluctance to borrow in the face of a eurozone debt storm. Economists have cautioned that banks may simply not want to lend more, even with the carrot of cheaper funding. The funding for lending launch comes a week after the BoE unveiled a further £50bn of quantitative easing, taking the total offered under the QE programme so far to £375bn.

Banks are also being told they are free to tap into billions of pounds held on their balance sheets to use for lending, after the BoE recommended rules on liquidity reserves should be relaxed.

Yesterday’s ECB data showed that banks simply shifted much of the money they took out of the ECB deposit facility into their current accounts at the central bank.

RBS rate strategist Simon Peck said: “It’s just a shifting of cash from one place to another and ultimately it’s a zero sum game.”