Why are we giving a £24bn-a-year subsidy to profitable commercial banks? | Letter

Gerald Holtham suggests that it time to cut the 3.75% that the Bank of England pays out on the lenders’ reserves

There are increasing calls for a windfall tax on banks (Taxing the banks: what Europe’s windfall levies brought in as Burnham eyes his next move, 2 September). Such a tax is unnecessary; it would be enough simply to stop paying commercial banks a huge existing subsidy. The Bank of England holds the reserve deposits of the commercial banks and pays its policy interest rate on the entirety of those reserves. Paying 3.75% on about £640bn means handing over £24bn a year of public money to profitable commercial concerns. The Bank does so only to control the banks’ lending rates by establishing a floor.

Yet that could be done more economically by paying interest on a marginal slice of the reserves. The Bank could announce a tranche for each bank and declare that any reduction in reserves from that level is counted as coming firstly from the interest-bearing tranche. That keeps the same marginal opportunity cost to the banks and ensures interest-rate policy is effective. If the tranche were 20%, there would be a gross saving of more than £19bn a year.