Adam Smith Institute

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Get the government out of banking

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It's time the government got out of the banking business. Britain's biggest banks are about to report profits of £8.4bn – not bad for a sector that was supposedly on the brink of collapse a couple of years ago – but Chancellor George Osborne has told them he's not pleased. He wants them to be lending more to Britain's struggling businesses, not stacking up profits. It's a view that goes down well in the newspapers. But it's wrong, and it shows why politicians shouldn't run businesses.

It wasn't long ago that the politicians were telling the banks they were lending too much. Taking too many risks. Giving companies and householders loans that they might be unable to repay. They told the banks they had to 'strengthen their balance sheets' – that is, start making some money and put in in their vaults so that they wouldn't need another bailout if things turned bad again. But now, as soon as they start making a profit, the rhetoric screeches into a u-turn. You just can't expect people to run a business when you are pushing them in contradictory directions.

Banks are in the same line of work as every other business, which is to make money for their shareholders. This is exactly what they are doing, and since the government is the biggest shareholder in UK banks, you would think our politicians might be pleased. In fact, £8.4bn is not so huge a profit for a sector that has assets of £2,500bn, but it's a sign that the banks are indeed getting stronger, which is why RBS's share price has bounced back 70% this year and shares in Lloyd's are up nearly 37%. Having picked up the stock at fire-sale prices, politicians and taxpayers should be laughing all the way to the bank.

I recognise that the biggest problems for UK businesses right now are a lack of confidence, and the difficulty of getting loans out of their bankers. At interest rates of nearly zero, the demand for loans should be meteoric, but customers are still not bullish about things. And at interest rates of nearly zero, the banks know they can't make much money for their shareholders by issuing new loans. So we are stuck here for a while, which is why the politicians want to bully the banks into lending.

More lending might revive business, but is that a good thing right now? Company liquidations are their lowest in thirty years. In the ordinary run of things, lots more businesses would be going bust; but they have been kept alive by a huge transfusion of the Bank of England's quantitatively-eased cash. But this hair of the dog is simply staving off the hangover, and maybe making it worse. The Bank must actually be relieved that the banks haven't been lending out all this new money to their customers (most has, of course, ended up in the pockets of Britain's debt-ridden government). If they had, businesses would have been busily investing and expending to meet demand that isn't there, and inflation would really be something to worry about. When the banks start lending, the Bank of England is going to have to pull back all of its expansionary largess in very short order. No central banker likes to do that – they prefer to have a constant boom. Hope springs eternal in the breast of politicians and monetary authorities, but (read your Hayek and your Mises) every boom built on fake money inevitably ends in a destructive bust. Perhaps it's time we got the politicians out of the central banking business too.

Dr Eamonn Butler is author of Ludwig von Mises – A Primer.