The UK economy is in a sorry state. Overnight, it posted 0.3% growth in GDP over the March quarter, narrowly avoiding a ‘triple-dip recession’. Highlighting just how low expectations have become following ten quarters of negative growth since the onset of the Global Financial Crisis, the result was regarded as a “plus” for the Chancellor, despite it representing an anaemic annualised growth rate of only 1.2% (see next chart).
As noted last last month, a key problem for the UK economy is that it has become critically dependent on private borrowing and public spending to drive growth. But with UK debt already the third highest in the developed world, according to McKinsey Global (see next chart), and real incomes contracting, it is finding it increasingly difficult to leverage-up in order to drive growth.
Enter the Bank of England (BoE), which in August 2012 launched an ambitious scheme, dubbed “Funding-for-Lending” (FFL), which is designed to improve credit conditions in the UK, particularly for small and medium-sized enterprises (SMEs).
Under the £80 billion FFL scheme, UK banks are permitted to borrow up to 5% of the value of their outstanding loans directly from the BoE at below market rates. And if banks increased their net lending, the amount they can borrow from the BoE would increase at the same rate.
Data released earlier in the week by the BoE suggests that the FFL scheme is failing.
According to the BoE, the stock of lending to businesses by all UK-resident banks and building societies fell by around £5 billion in the three months to February 2013, with the annual rate of growth in the stock of lending to businesses also negative in the three months to February (see next chart). The availability of credit for SMEs was also broadly unchanged over the March quarter.
While business lending continues to contract, the FFL scheme does appear to have stimulated mortgage lending, which rose in the three months to February and was positive over the year (see next table).
Moreover, the availability of mortgage credit has received a boost following the introduction of the FFL scheme (see next chart).
The FFL scheme is also proving problematic for UK savers. By providing an alternative source of funding to customer deposits, savings rates have been slashed since the FFS’s introduction in August. As shown by the below BoE chart, rates on new time (term) deposits fell from 3.01% in August to only 2.20% in February:
To make matters worse, the spread between the price UK banks borrow money at and the rate that they lend money at has widened since the FFL scheme was introduced, suggesting that savers are being punished without borrowers receiving commensurate rewards.
So far, FFL seems to have been tentatively successful in re-inflating the UK housing market, albeit at a steep cost to savers. However, it has been next to useless in reviving the languishing business sector, which is the scheme’s intended target and the lifeblood of the UK economy.
Perhaps because of this failure, the BoE earlier this week announced that it would expand the FFL scheme, extending it to January 2015 from January 2014 and also increasing the amount that banks can borrow from the BoE.
Given the likelihood that the expanded FFL will flow into mortgage lending, rather than SMEs, and that it was the UK’s leveraging-up into housing between 2002 and 2009 that helped get it into this mess in the first place, the BoE’s policy intervention looks like yet another short-sighted ‘kicking the can’ measure that risks a much bigger debt hangover down the track.
