Local Authorities are borrowing from private banks instead of the Public Works Loan Board (PWLB) even if it is more expensive to do so. Central Government is encouraging this, as it pushes debt off their balance sheet. As a result tax payer money is being unnecessarily wasted, and profits from lending are going to the banks rather then recirculating in the public sector.
Borrowing from banks is more expensive.
Under the cloak of austerity, Central Government aims to reduce the level of debt held on central government books. HM Treasury therefore supports Local Government borrowing less from the PWLB, and more from the private banks, even if it is more expensive and risky to do so. As a result profit that could be derived by Central Government through interest on lending are going to the private banks rather then recirculating in the public sector. In addition every time a loan is signed, restructured or renegotiated by a public body, banks, advisors, lawyers and brokers make further profits by way of additional fees and charges, unnecessarily wasting public funds.
Borrowing from banks is more risky.
Advisors, brokers and banks have been actively persuading councils to borrow from them instead of Government in order to expand their balance sheets and generate profit. Local Government debt is highly prized by private investors because councils have a AAA credit rating and theoretically cannot default as Central Government should intervene when a Councils get into trouble. If a Council were to default on debt obligations, natural recourse for private lenders would be to seize public assets such as housing association stock, hospitals and schools. Effectively, privatising public assets or services.
Private sector lenders cannot compete with the PWLB’s low fixed-rate 50 year loans on a like-for-like, cost-competitive basis. Therefore, to win business, bank lenders either extend repayment terms to 60-70 years to reduce the cost of each payment, and/or propose an initial teaser rate .
Most long-term loans from banks have interest rates that change over time and that are based on different economic variables. Because of the complexity of the variables, the longer the term of the loan the harder it is to predict the overall interest rate. Therefore banks ‘blend’ derivatives within the loans to “hedge” the interest rate risk . A typical derivative used to make loans more attractive is an interest rate swap which can be described as a “bet” on a series of future changes in interest rates. Swaps can be used for speculating as well as hedging and can introduces further risks to the Local Authority balance sheet.
Debt Resistance UK (DRUK) is exposing suspicious lending practices between the private sector and Local Government, in the form of Lender Option Borrower Option (LOBO) loans.