My Lords, I, too, congratulate the noble Baroness, Lady Kramer, on securing this debate. It is a pleasure to follow the noble Lord, Lord Popat, who brings a great deal of relevant business experience to our debate. I also look forward to hearing the reply from the Minister, the noble Lord, Lord De Mauley, who also has a very impressive career record in banking and financial services. Although the number of speakers in the debate may be small, with the single exception of me the quality of contribution will no doubt be exceedingly high.

It may be helpful to set some context for this issue. First, lending by UK banks to corporate borrowers, excluding financial institutions and real estate, represents less than 5% of the assets of the UK banking sector. Secondly, small businesses, and in particular the smallest of small businesses, tend on average to be net lenders to banks rather than net borrowers: that is, they run working capital cash surpluses and do not rely on debt from any source to support their business. They do of course rely on the banks for services, particularly for payment processing.

Chart B on page 7 of the Bank of England's Trends in Lending, published in April 2012, shows that net lending to SMEs continues to contract at a rate of about 5% per annum. In fact, this has been the case since 2009 and it is not limited to the UK alone; it is a global phenomenon. It is observable in the United States and in the euro countries that lending to small companies is contracting.

Despite the fact that lending is contracting, terms are widening. An economist might say that that suggests prima facie evidence that if banks can charge more in a market of contracting demand, there must be inadequate supply so that the banks can charge more generous-some would say penal-terms. I am not at all persuaded of that. As a Treasury Minister I wrestled with the issue of whether declining commercial lending was a function of banks not lending or of borrowers not wanting to borrow. I certainly did not find a convincing answer to that question and I do not think that the current Government have either. I suspect that we will never be able to find the answer. I remind noble Lords that this is not a distinctly UK phenomenon. It appears to be happening elsewhere in the world.

I think that the widening of terms is a consequence of effective competition among market leaders. The noble Baroness, Lady Kramer, referred to the dominance of our five major lenders. Indeed, the report of the Independent Commission on Banking highlighted on page 167 that the concentration and absence of effective competition was at its most acute in the SME sector. Personally, I think that the Royal Bank of Scotland should never have been allowed to acquire NatWest. I declare an interest. I was a director of NatWest at that time and have no doubt that it needed remedial treatment, but the economic consequences of the concentration in SME lending was damaging to the economy.

We must, of course, await the White Paper, due to be published on 14 June, detailing the bank's proposals on ring-fencing. I sincerely hope that the Government will show real determination to implement the recommendations of the Vickers report, and in particular take urgent action to reduce the extent to which the taxpayer continues to be at significant risk of failure as a consequence of the investment banking operations of a number of UK banks-not, I hasten to add, limited to those that are owned by the taxpayer in a significant part.

The noble Lord, Lord Popat, referred to Project Merlin. It did not deliver the gross lending target that was set for it, but it was not the right target. Again, I wrestled with this in government. Mr Vince Cable was very clear. In an interview in the Daily Mail before Merlin, he said that the introduction of a gross lending target as opposed to a net lending target would,

"be completely letting the banks off the hook. It's perfectly possible for banks to achieve a gross lending target while withdrawing capital from small to medium-sized businesses".

I think that the right honourable Vince Cable was correct and that the Treasury's approach to defining the objectives of Project Merlin were right. Indeed, it is to the Government's credit that they did not renew Project Merlin because the banks were quite frankly running circles around them in achieving those gross lending objectives.

We shall see how the new programme of credit easing operates. It does not involve direct lending to small businesses; it involves reducing the funding costs paid by the banks. We have heard very little about credit easing and have seen very few cases of small businesses claiming that they have been rescued or significantly supported by credit easing. I am very sceptical about whether it will work in practice. I hear that one of the major banks is offering cashbacks to SMEs through credit easing-in other words, not reducing the level of debt at all. The Government need to look very carefully at whether that initiative will work.

The noble Baroness, Lady Kramer, referred to the case for new banks, and I think that the noble Lord, Lord Popat, did as well. We have seen two banks sold recently-at least one, Northern Rock, was sold; and Lloyds Banking Group is still trying to sell the business under the code name Project Verde, which has to be disposed of under the state-aid remediations. It was interesting that these banks sold not at book value but well below it. That is quite telling when we consider the attractiveness of being involved in banking. Mr Stephen Hester, the chief executive of the Royal Bank of Scotland, said in a recent interview that many people thought that one had to be dumb to invest in banking at the moment. I suspect that those who hope for the creation of new banks will find themselves waiting a long time. At the moment, if you put £1 of capital into a new bank, its de facto value will rapidly fall to 70p or 80p because-I do not wish to be too technical-the ROE generated with an appropriate leverage ratio is simply not capable of matching the cost of capital. In other words, the banks are not producing a return that is consistent with the risk, as the equity provider would expect.

We heard comments about alternatives such as pay-day and peer-to-peer lending. We need to keep them in perspective; they are very marginal and will not have a transformational impact on the UK economy. They might be of some benefit to individual borrowers but they are not the solution to the problem of generating economic recovery. Similarly, the proposals from Mr Tim Breedon-worthy, well argued and thoughtful as they are-must again be seen as marginal, at least in the short term. Reducing the dependence on banks as a source of credit and encouraging bond markets, as one sees for instance in America, is a good and laudable objective, but it will not help us out of the current mire of the double-dip recession. For that, we need to see fundamental economic adjustments.

The core issue is not that our banks are not willing to lend, or that they are constrained by capital, but that people do not want to borrow any more than they need in a climate where the business and economic outlook is highly uncertain. The absence of confidence, to which the Government's economic policies have been a contributory factor, is leading to a lack of appetite for borrowing, investing and growing businesses. While we may look for fault on the banking and credit availability side, the real issue is whether we can articulate coherent and credible strategies that will get the economy moving again. To date, the Government have not shown evidence that they can do that. They and the Bank of England seem to be following policies of financial repression. However, I am hopeful that circumstances are changing and that there will be a greater appetite on the part of the Government for taking positive measures to stimulate and promote economic growth without going back to aggressive deficit-growth strategies.