Lending by banks to households and businesses is stagnant. Figure 8 shows that credit growth has been below trend for 47 months in the UK. To counter this, the Bank of England last month launched a new scheme Funding for Lending Scheme (FLS). It seeks to provide incentives for banks to lend more money into the real economy by allowing them to borrow cheaply on wholesale markets.
Firstly, it’s a significantly bigger scheme than its predecessor; the National Loan Guarantee Scheme (NLGS) was around a quarter of the size of the FLS. Secondly, it aims to relieve pressure on lenders by reducing the cost of bank funding. And thirdly, it actively encourages the passing on of cheap money to the private sector by monitoring the volume of loans. Penalties are set if lending drops.
The FLS should help reduce volatility in the wholesale money markets and limit the spread between market interest rates and the base rate. This could help small businesses in particular access cheaper funding.
The issue of lending to businesses is as much about the demand for credit as its supply. Surveys from the Bank of England show that demand for credit for this quarter is expected to stagnate. UK businesses appear to be adopting a wait-and-see strategy until the Eurozone crisis is solved. So while this scheme should help, it is unlikely to have a major impact on business investment and economic growth until confidence returns.