Funding for Lending: price wars, cautious lenders and forgotten FTBs

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Funding for Lending: price wars, cautious lenders and forgotten FTBs

21 August 2012

This month saw the launch of the government’s highly anticipated Funding for Lending Scheme, aimed at increasing lending for mortgages and businesses. Three weeks in, we look at the early effects of the scheme.

How it works

Funding for Lending works by allowing banks and building societies to borrow funds from the Bank of England four up to four years at significantly below market rate, accessing £1 of cheap funding for every £1 of additional lending.

The Bank of England then monitors the amount that they lend, which affects the interest rate they are charged. This ensures that banks are incentivised to continue lending but penalises any that attempt to hoard the money through reduced lending.

Mortgage price wars

The scheme came into operation on 1st August 2012 and we have already seen lower mortgage rates from lenders, including HSBC, Nationwide and NatWest – the latter having launched a record low five-year fixed rate of 2.95%.

The announcement of Funding for Lending appears to have had an almost immediate impact, as many of these rates were announced prior to the scheme’s official launch and mortgage lending in July saw a spike in growth of 8% on the previous month.

However, with banks such as HSBC refraining from accessing the facility and price competition being mainly aimed at the low LTV mortgage market, which has had no liquidity issues, the rate cuts can be seen more as banks jostling to tempt customers away from their existing providers by undercutting on price.

These low rates may therefore be short-lived and will not serve to increase overall lending in the long-term: HSBC pulled it’s 2.99% five-year fix last week saying it had ‘used up all the funds to provide the deal’ just one month after its launch.

Lender caution

As there are no requirements from the Bank of England about where the money should be lent, rather that there must be a certain threshold of lending, banks are under no obligation to increase lending to specific demographics such as first-time buyers or those with lower deposits.

This doesn’t mean that banks won’t lend to first-time buyers, but in the same breath it also means that banks don’t need to increase lending to first-time buyers or change their lending policies in order to access funding.

Early data suggests, perhaps unsurprisingly, that the benefits of cheaper bank funding are mainly being passed on to those with larger deposits: with the eurozone debt crisis still raging and house prices outside the south-east region struggling, banks are still being cautious in their lending policies and look to hold more capital against riskier high LTV mortgages.

While Funding for Lending will not reduce the risk aversion of banks, if things in Europe do take a turn for the worse it could help stop another credit crunch occurring and allow lending to continue at its current level.

FTBs are key to growth

With the exception of London, the UK property market has been falling month on month almost consistently, and in order to reverse this trend stimulus needs to reach the lower end of the market through increased lending to first-time buyers and those with smaller deposits. 

Whilst we have seen positive initial reactions from banks, it is arguable the government needs to rethink some of the finer details to ensure that lending is reaching this demographic in order to stimulate growth.

Right now, it appears that banks have free reign in terms of who they lend money to and the rate reductions they pass on, if any. As long as they lend over a given threshold, they are able to access funding through the scheme and increase their profit margins significantly.

Without additional stipulations targeted at increasing lending to first-time buyers, this could lead to a continuation of the status quo with equity-rich, low risk borrowers dominating the mortgage market while first-time buyers’ struggle to access credit.

However, such stipulations must come with some form of protection for banks taking on additional risk, as well as regulation to ensure that lending decisions are sound and not made purely for profit.

Although early signals point to only a small increase in overall lending due to the lack of requirement to lend to first-time buyers, it will be interesting to see how the scheme embeds in the market. The first set of government figures on the scheme’s impact will be released later this year, and we will surely analyse them in a future blog.

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