Helping ease the credit channel

The government is to help ease the tight credit situation by providing 'soft loans' to banks so they can in turn lend to businesses and households. The Independent described it as a 'panic measure' but that seems more than harsh.

The measure is presented as a precaution against a second 'credit crunch' which might follow a partial collapse of the Euro area. This is too simple because one of the major issues preventing recovery is that when firms or households approach banks for loans they are turned down. Although the banks deny it, they are very cautious and this caution is stopping growth.

So banks will be able to borrow around £5 bn a month which they can then pass on in loans to firms and households. The risk to the bank is reduced as the cost of these funds is lower than the market rate and as the funds can only be used for relending they make nothing if they don't use the funds.

The result should be a rise in bank lending, followed by higher Consumption and Investment and so an increase in AD.

Ed Balls says it won't work. Odd as his entire economic plan relies on exactly the same principle. He also says that the previous policy has failed and this acknowledges that. Well that may well be true, QE and low interest rates have not persuaded banks to lend and the recovery has stalled, this can only help. The sensible question (something Balls can rarely ask) is will it be enough?

The Independent covers the story here