Farewell 2012, Farewell customer funding gap

18 December 2012

So what is the customer funding gap and why is it important?  The customer funding gap measures the aggregate difference between customer loans and customer deposits across the UK banking system.  This gap peaked at close to £900bn in 2008 at the height of the financial crisis. It revealed one of the fragilities in the UK banking system – as this gap was typically funded from short-term wholesale markets, which, as we found out so dramatically, couldn’t be relied upon.

Progress on this measure has been swift. In the three years to 2011, the gap shrunk to £200bn as a consequence of a strong uptick in the rate of savings (in both the corporate and household sectors) and weak levels of net lending.  These trends have continued throughout 2012. ONS data suggests that the household savings ratio has remained steady at around 6% this year (a big increase compared to -0.2% in Q1 2008) and net lending to private non-financial companies has shrunk over the year – it was down £31bn for the first 8 months of the year.  This means that the customer funding gap has probably already closed. With savings and lending trends well entrenched it is likely that this gap will inverse: UK banks, in aggregate, will have surplus deposits in the coming years.

So does this matter? Well, this is good news from the perspective of the stability of the UK banking system. On this measure, it suggests a more balanced system which is less reliant on short-term wholesale money markets. This is to be welcomed. But this has a number of wider implications:

  • The chase for deposits is over.  For the past few years UK banks have been competing vigorously to attract retail and corporate deposits to replace other sources of funding. This has helped to support retail savings rates, but no longer.
  • 2013 will be a miserable year for savers. With the closing of the customer funding gap, UK banks will be competing to stay off the top of the best buy tables and with no increase in base rates in sight, savers will have to get used to lower rates next year compared to those they achieved this year.
  • Banks margins could improve. As UK banks no longer chase deposits, they should be able to improve overall margins, assuming no dramatic deterioration in the credit environment.  
  • Deposits can still move. While deposits are a more stable source of funding compared to wholesale markets, banks will need strategies to encourage longer-term deposits and customer loyalty to manage their funding risks.
  • Lending support will shift. As UK banks’ funding positions improves, UK authorities will shift their interventions designed to support lending from being funding based (e.g. the Bank of England Funding for Lending scheme) to more structural forms (e.g. the forthcoming Business Bank being developed by the UK Department of Business, Innovation and Skills). 

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