- Lenders Are Making Billions Through Little-Known Scheme
- They receive interest on the reserves they must maintain in the Bank of England
- These reserves arose as a result of the Bank’s quantitative easing program.
Political opponents are uniting to demand curbs on a stealth subsidy paid to high street banks that costs taxpayers £40bn a year.
Critics say banks are being handed billions of pounds of money for nothing.
It comes as Labor and the Conservatives trade blows over how to fill the gaping hole in the public finances.
Lenders are making billions through a little-known scheme under which they receive interest payments on the reserves (piles of cash) they have to hold at the Bank of England.
These reserves – amounting to more than £700 billion – emerged mainly as a result of the Bank’s Quantitative Easing (QE) programme.
Concern: Critics say banks are being given billions of pounds of money for nothing
Under QE, new money emerged out of nowhere to shore up the financial system after the 2008 credit crisis.
The idea was to flood the system with cash to keep interest rates low.
That, the theory goes, would encourage people and businesses to spend and invest, which in turn would boost the economy.
Under the plan, commercial banks must hold cash reserves at the Bank of England.
They earned virtually no returns on this money when interest rates were low.
However, they are now receiving 5.25 percent interest because the base rate has skyrocketed and QE is unraveling.
As a result, almost £40bn a year in interest payments are funneled to banks, inflating their profits.
This is ultimately at the taxpayer’s expense, as the government is responsible for the Bank of England’s costs.
The magnitude of the banks’ windfall profits is enormous.
MPs on the Treasury Select Committee found that Lloyds, NatWest, Barclays and Santander made more than £9 billion in 2023 on their reserves.
This was more than double the previous year and represents around a quarter of its profits. Gerard Lyons, former economic adviser to Boris Johnson and Liz Truss, said: “There is a strong case for changing the current policy of paying interest on bank reserves.
“The taxpayer pays a big bill: it is a fiscal transfer from them to the banks.”
Lyons, now chief economist at wealth manager NetWealth, says some of the interest paid on banks’ reserves should be removed to save money for the public purse. That proposal has the support of a variety of high-level figures from across the political spectrum.
They include former Labor prime minister Gordon Brown – who wants to use the money saved to fund schools and hospitals – and two former deputy governors of the Bank of England, Charlie Bean and Paul Tucker.
The left-leaning New Economics Foundation estimates that up to £55 billion could be saved over the next five years if some interest payments were suspended.
NEF economist Dominic Caddick said: “The European Central Bank already does this, so it is less controversial.”
“The UK also did it before, in the 1970s, so it wouldn’t be the end of the world,” he added.
The foundation advocates a so-called “tiering” approach, which has been adopted by the European Central Bank, under which banks would not receive interest on a portion of their reserves.
But any such move would risk a clash with Bank of England Governor Andrew Bailey, who has made his opposition clear.
Some experts fear that if their ‘windfall’ were limited, banks could increase mortgages or cut savings rates in retaliation. Economists at Barclays say banks’ profits could be hit by up to 30 percent.
Commercial banks have benefited greatly from the recent sharp rise in interest rates. They have paid off mortgages and other borrowing costs faster than the amount they pay out to savers and have pocketed the difference.
Any money saved by ending its stealth subsidy would help offset the huge shortfall in public coffers that will hit whichever party wins the election.