Perhaps the most significant announcement in George Osborne’s speech to the Conservative Party conference on Monday was the announcement of a ‘credit easing’ scheme. The idea is that the Treasury will help firms who are unable to obtain credit from the banking sector by buying corporate bonds from them.
The availability of credit to SME’s in Britain remains a significant problem. Monday’s eurostat figures show a significant increase in the amount of unsuccessful loan applications. In 2007, 5.6%, of loan applications in the United Kingdom were unsuccessful whereas in 2010 the figure is 21%. In comparison to other substantial Eurozone players, such as France and Germany, these figures are particularly high.
We have a large financial sector in the United Kingdom one of whose primary functions is to match savers and lenders. However, rather than constantly having the Government stepping in and doing this job on behalf of the industry, we must look seriously at why the industry is not doing its job properly. In the case of business lending, clearly the aim should be for the financial sector to lend to SME’s, not the Government. This dovetails neatly with what surely must be the longer-term aim; the transferring of risk away from the public sector and onto the financial sector itself in order to minimise the need for any future Government bailouts.
Osborne’s credit easing scheme would meet neither of these aims. While it correctly diagnoses the lack of lending to SME’s, the scheme has already been tried, and largely failed in the United States. Moreover it would not transfer risk away from the public sector as it is ultimately the Treasury who would shoulder the credit risk. A commonly suggested alternative to credit easing is for the state to set up a bank using the assets from the nationalised banks and instruct it to direct lending to SME’s. This might provide some short term relief, and give a superficial boost to competition, but it fails to transfer risk away from the public sector, or address the wider structural and competition issues in the banking sector.
More realistically the Government should look at two alternative arguments. The first is to seriously address the argument from the banks themselves on the effect of a potentially excessive amount of regulation coming in at the bottom of the cycle. It may well in fact be true that banks are unable to lend because their main focus is on recapitalisation to comply with stringent new regulations. Tougher regulation in future is necessary to avoid another crisis but clearly it may be better countenanced when the industry is back on its feet, rather than suffocating the industry at a time when the wider British economy needs it most.
Alternatively the Government may consider more radical reforms in the sector. Most recently, Andrew Tyrie MP, Chairman of the Treasury Select Committee, made the case again over the weekend for a more radical mix of supply-side reforms, effective regulation and competition in order to boost activity. Along with his colleague John Redwood MP, Tyrie has made the case for the more radical policy of splitting up the state owned banks and releasing them as new private sector banks in order to stimulate competition. Their proposed reforms will no doubt be unpopular with the banks, but also perhaps with the public, as both have suggested that wider reforms would need to be meet in the retail banking sector including the end of free banking.
Whether it is a case of loosening regulatory burdens, or a case of embarking on a more radical programme of reform, it is clearly not a desirable solution for the taxpayer to do the job of the financial sector. Osborne’s credit easing scheme does not solve the more structural issues and would simply place more financial risk onto taxpayers.