The Bank of England's "funding for lending" scheme (FLS) is expected to be tapped more extensively than the government's previous attempt to boost lending via its Government Guaranteed SME scheme. The FLS is simpler, and contains strong incentives. It does not, however, address any capital constraints and the low demand for credit. The FLS is designed to boost lending to households and businesses, and will open on August 1 for 18 months. Banks and building societies will be able to borrow UK Treasury Bills from the Bank of England, against collateral, for a period of up to four years. The fee the Bank of England charges will rise if a bank does not maintain or increase its lending, thus providing a strong incentive for lenders to access the scheme. The scheme is likely to provide a boost to lenders' profitability because the banks are not required to pass on all the benefit to borrowers, and also because lenders are likely to release some of their excess (and expensive) liquidity. We do not expect the tightening liquidity buffer to be a negative rating driver, as banks and building societies have improved their funding structure since the height of the 2008 financial crisis, reducing dependence on short-term wholesale markets and boosting core retail funds. Furthermore, the Bank of England recently introduced the Extended Collateral Term Repo facility to provide contingency liquidity. Many UK companies, particularly SMEs, are not expecting growth, and demand for loans has remained subdued. July's Purchasing Managers Index for manufacturing is 48.6, up from the three-year low in May, but still signalling falling demand. Furthermore, the housing and mortgage market remains under pressure, with price falls over the last several years reducing the number of transactions coming on to the market. Reuters
