Stop the 40 billion bank interest racket: calls from across political divides to curb stealth subsidies to lenders

Political opponents are rallying to demand cuts to stealth subsidies to big banks, which cost taxpayers $40 billion a year.

Critics say banks are getting billions of pounds for nothing.

It comes as Labor and the Conservatives trade blows over how they will plug the gaping hole in the public finances.

Lenders make billions from a little-known scheme under which they receive interest on cash reserves they must hold at the Bank of England.

These reserves, which amount to more than 700 billion, are the result mainly of the Bank's quantitative easing (QE) program.

Under QE, new money was created out of thin air to shore up the financial system after the 2008 credit crisis.

The idea was to flood the system with liquidity to keep interest rates low.

The theory is that this would encourage people and businesses to spend and invest, which would stimulate the economy.

Under this scheme, commercial banks must maintain cash reserves with the Bank of England.

This money earned them virtually no return when interest rates were low.

However, they now receive interest of 5.25 per cent because the base rate has risen and QE is being phased out.

As a result, nearly 40 billion a year in interest flows to banks, inflating their profits.

This is done at the ultimate expense of the taxpayer, since the government is responsible for the Bank of England's costs.

The scale of the banks' windfall 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 twice as much as the previous year and represents about a quarter of their 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’s a tax transfer from him to the banks.”

Lyons, now chief economist at wealth manager NetWealth, believes some of the interest paid on bank reserves should be removed to save money for the public purse. This proposal is supported by a number of figures 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.

Dominic Caddick, economist at the NEF, said: “The European Central Bank already does this, so it’s less controversial.

“The UK has also done this before, in the 1970s, so it wouldn't be the end of the world,” he added.

The foundation advocates an approach called “tiering,” which has been adopted by the European Central Bank, under which banks would receive no interest on a portion of their reserves.

But such a move would risk conflict with Bank of England Governor Andrew Bailey, who has made his opposition clear.

Some experts fear that if their “stealth windfall” were wiped out, banks could increase mortgage lending or cut savings rates in retaliation. Economists at Barclays say bank profits could be hit by up to 30 per cent.

The big banks have benefited enormously from the recent sharp rise in interest rates. They paid off their mortgages and other borrowing costs faster than the amount they were paying savers and pocketed the difference.

Any money saved by ending their stealth subsidies would help offset the huge public coffers deficit that will weigh on whichever party wins the election.