FLS re-worked after mixed results

The BoE was always set to announce changes to the FLS today at 6 a.m., UK time and the announcement was expected to include a one-year extension to the scheme and broadening the eligible participants to increase the flow of lending to SMEs.

It was to be anticipated that these steps would further reduce the chances of the MPC increasing QE in the near future.

It was then duly announced that the Funding for Lending Scheme was re-worked in the hope of getting more credit flowing to small and medium-sized firms and injecting life into the country’s flatlining economy, with the Bank of England and the Treasury saying that incentives to boost lending would be heavily skewed towards smaller firms and that the period during which banks can get funding from the FLS would run for an additional year, until the end of January 2015.

The statement said that banks will be able to lend to alternative providers of credit such as leasing and factoring firms, which help small companies raise funding, as well as mortgage and housing credit corporations, and Bank Governor Mervyn King stated “I believe such an extension is valuable as it gives banks continued assurance against the risk that market funding rates increase,” and in a joint statement Chancellor Osborne said “This innovative extension will now do even more for small and medium-sized businesses so that they can play their full part in creating new jobs”.

As we know, the original FLS was launched last August and offers banks cheap credit if they increase lending to households and businesses but results have been mixed, with benefits so far mainly going to banks and homebuyers rather than small businesses.

Under the changes announced, every pound of additional lending by banks to small and medium-sized firms in the remainder of 2013 increases the amount of funding that banks will be able to draw upon by 10 pounds. In 2014, that falls to five pounds of FLS funding for banks for every pound they lend to SMEs, the Bank and the Treasury said.

Despite reduced risk of further near-term debt monetization, the scope for dovish policy innovation in H2 leaves us bearish sterling. The change in the monetary policy remit provides the basis for much greater quantity and quality of monetary stimulus in the second half of the year. The likelihood of an introduction of Fed-style forward guidance in August with intermediate thresholds is likely to suppress the front-end rate structure for GBP even lower.

James Bevan is chief investment officer of CCLA, specialist fund manager for charities and the public sector. CCLA launched The Public Sector Deposit Fund in 2011 to meet the needs of local authorities and other public sector organisations. You can follow James on twitter @jamesbevan_ccl