It’s increasingly clear that the UK’s coronavirus death toll is a preventable catastrophe. On top of the government’s short-term failures to prepare and react, a decade of austerity has left the NHS and social care tragically under-equipped to respond to the pandemic.

In a similar way, decades of right-wing policies have left our economy acutely vulnerable to the dangers of lockdown. Many households have no savings to help them weather months of lost income. Workers’ rights have been stripped back so far that people could be laid off literally overnight after pubs were advised to close. Less widely understood, but no less disastrous, our dysfunctional banking system seems incapable of supporting businesses through the crisis – a failure that will surely deepen the recession.

Support for small and medium-sized enterprises (SMEs) in the form of guaranteed loans was one of the earliest economic measures announced by the government. Media coverage focussed largely on the headline figure of £330bn – equivalent to 15% of GDP – described by Rishi Sunak as an “unprecedented package” and by the BBC as an “extraordinary figure”. But three key facts passed largely under the radar. All of them relate to the fact that the government is not lending to businesses directly, but via commercial banks.

First, the £330bn figure refers to government guarantees against default for lenders, not borrowers. Businesses taking out loans under the Coronavirus Business Interruption Loan Scheme (CBILS) are still being asked to bear the full risk of taking on additional private debt in the middle of a downturn – a daunting prospect for many, especially given the huge uncertainty about how long the lockdown and its economic fallout will last. If they cannot pay the loans back, they will still go bust. It is banks that are being protected in this scenario, with the government promising to underwrite 80% of the value of the loan (and now 100% for the smallest loans – more on this later).

Second, £330bn is a notional level of guarantees being offered by the government. Whether this amount of credit is actually extended to struggling businesses is not within its control: it depends on whether commercial banks choose to lend to them on this scale. So far, it seems there is not a chance of anything close to this figure being reached. Two weeks after the scheme was announced, a paltry £90m of loans had been extended, with many businesses complaining they had been turned away or could not get a response. The scheme was hastily overhauled, and lending has since accelerated – but as of May 6th it had still only reached £5.5bn, with just 33,800 businesses receiving loans out of 300,000 thought to have enquired.

Third, although the government promised vaguely that credit would be available on “attractive terms,” no conditions were actually imposed on banks to ensure this. As with landlords and tenants, the government’s approach seemed to rest on a bizarrely naïve assumption that banks would voluntarily ‘do the right thing’. Unsurprisingly, they did precisely the opposite. The London Chambers of Commerce issued an excoriating statement complaining that “SMEs are being offered loans with outrageous interest rates and demands for security from every possible source.” Business owners reported being asked to jump through impossible hoops to demonstrate that they would still be viable after the crisis (whenever that might be).

The phrase “demands for security” is dry investment-speak that hides a shocking human reality, so let’s quickly walk through what it actually means. Banks – who, remember, were being offered an 80% government guarantee to incentivise them to lend – were still asking small businesses to put their assets on the line to be seized in the event of a default. For owners of the smallest businesses, this might mean losing their home.

Even if ‘lucky’ enough to be offered a loan on these terms, many felt caught in an impossible dilemma about whether to accept it. They faced potential ruin either way, while banks might actually profit from their misfortune by clawing back the loan value twice: once from the government, and once from the business itself. The fact that this was even contemplated speaks volumes about the way banks think, and how far away it is from the government’s fantasy of public-spirited service in a time of crisis.

The government’s revamp of the scheme clamped down on some of this bad behaviour. But it did nothing to cap interest rates. Reports persist of businesses being asked for double-digit interest rates after the first year (during which the government is paying the interest on borrowers’ behalf). This is at a time when banks can borrow at close to 0%, and are being offered low-cost funding from the Bank of England specifically to support their SME lending. Even for the smallest loans, where government guarantees have now been increased to 100%, interest rates are fixed (not capped) at 2.5%. Contrast this to the Swiss scheme, widely praised for its effectiveness, where interest on the government-backed portion of crisis loans is set at 0% or 0.5%. 

Yet again, banks are pursuing their own bottom lines at the expense of the economy and their customers. Yet again, their losses are being socialised while their gains remain privatised. Sadly, the only surprising thing about this sorry saga is the complete absence of public outrage.

If you were trying to design a vehicle for channelling affordable credit to struggling small businesses during a downturn, you could scarcely do worse than the UK’s large commercial banks. As the London Chamber of Commerce concludes, they “have whittled away at their capacity to engage effectively with small and medium enterprise” for decades. Why bother, when they can make bigger profits with less trouble through mortgage lending and financial engineering?

The evidence has been there for years that shareholder-owned banks are bad at productive lending, and tend to amplify rather than reduce economic shocks. The only reason we are relying on them for this crucial job during a crisis is because we have nothing else. Unlike other countries, the UK has no public banks and has systematically dismantled its mutual and co-operative banking sector. 

As Laurie Macfarlane, Shreya Nanda and I conclude in a new report for IPPR, the shambles of the government’s flagship loan scheme should refocus minds on the case for structural reform. Indeed, a report for the conservative Institute for Government recently concluded that “coronavirus may be exposing a gap in the UK government’s ability to invest quickly into corporate Britain, not necessarily mediated by banks or other financial institutions, but directly” – and that a prolonged crisis may require this gap to be plugged by “a new institution with a new remit,” such as a State Reconstruction Bank. The best time to do this would have been ten years ago. The second best time is now.

As Laurie and I have previously proposed in a report for the Labour Party, a new National Investment Bank could be built out from the existing British Business Bank – currently misnamed, since it is not a true bank with the ability to borrow and lend at scale. Crucially, it must be guided by specific public interest missions, such as greening the economy and regional rebalancing.

It must also be underpinned by an ecosystem of public and co-operative finance. Otherwise, its lending to SMEs will suffer from the same problem as the CBILS: it will depend on existing commercial banks for ‘on-lending.’ We need to build up capacity for this kind of lending to be done through public interest institutions – for instance, by establishing a new Post Bank using the Post Office network to be present in every community, or by supporting new co-operative regional banks. 

Another obvious lever is RBS. It is surely no accident that the state-owned bank is the single largest provider of coronavirus crisis loans. Despite the fig leaf of independence, it has always been obvious that the government can put pressure on RBS when it really wants to. Our IPPR report concludes that the collapse in share prices creates an opportunity to accept the inevitable: RBS will not be reprivatised any time soon.

Instead, it should be fully bought out and turned into a genuine public-interest business bank. At current prices, this could cost less than £5bn: a drop in the ocean of the government’s crisis spending. RBS has for too long been a poster-child for UK banks’ appalling treatment of small businesses. In public hands, it should become the opposite.

The clash of interests between small businesses and banks is a glaring fissure in the right’s traditional coalition – one that the left has failed to effectively exploit. The coronavirus crisis is now blowing it wide open. If ever there was a moment to build a powerful consensus on the need to democratise finance, surely this is it.