Bank’s cut-price loan scheme ‘poised to be scrapped’ as demand plummets

A BANK of England scheme aimed at giving Britain’s banks access to extra cash could be scrapped by the end of the year following a sharp drop in demand for the cut-price loans.

Launched by Bank governor Sir Mervyn King in June, the extended collateral term repo (ECTR) facility was designed to limit the damage caused to banks if other sources of finance dried up. It allows banks to borrow funds in return for lower-quality assets than they would usually be able to use, such as residential mortgage-backed securities, credit-card debt, and student and consumer loans.

However, banks such as Barclays, Lloyds and RBS have plenty of cash to spare, having shored up their liquidity to withstand the Eurozone crisis, and industry insiders believe the writing could be on the wall for the ECTR. In the first auction, all of the £5 billion offered by the Bank of England was fully taken up, with banks paying 0.75 per cent interest for the six-month loans.

But the following month saw the amount allocated to banks fall to £4.2bn, while £1.5bn was taken up in August. This month, banks took a mere £150 million of the £5bn on offer.

In its latest quarterly bulletin, the Bank attributed the fall in demand to a number of factors. It said there was ample liquidity in the banking system and some lenders had decided to hold on to collateral so they could use it in the £80bn Funding for Lending scheme, which offers additional funds at a discount to market rates, but only if banks increase lending to businesses and households.

Other sources said banks were now able to access funds more cheaply than through the ECTR, as wholesale funding costs have fallen since the scheme was launched. “The ECTR does not look as attractive as it once did,” one said. Since the facility was launched, three-month sterling Libor – the rate at which banks are prepared to lend to each other – has fallen from 0.92 per cent to around 0.63 per cent.

Another insider said: “Funding conditions have improved and banks have found it easier to get longer dates in the wholesale markets. They’re reducing their short-term borrowings because they have so much liquidity.”

The Bank of England is expected to review the future of the ECTR by the end of the year, and one source said they believed it could be withdrawn as soon as November. By then, the Bank will have ploughed £375bn into financial institutions by purchasing government bonds through its quantitative easing programme.

However, one industry insider said there could be an upturn in demand in December, because some banks may have drawn their entire six-month liquidity requirements in June and will need to participate in the auction process again.

Another source said: “The financial world has surprised us on a number of occasions over the past few years, and it’s probably too early to judge whether the ECTR will be withdrawn.”