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Local authority investments - Communities and Local Government Committee Contents


Memorandum by the Public Works Loan Board (PWLB) (LAI 44)

  Thank you for your e-mail of 4 March about the CLG Select Committee's inquiry into local authority investments. You say that in the written and oral evidence reference was made to the Public Works Loans Board as follows:

    A number of local authorities have said that changes to the arrangements for the early repayment of PWLB loans have made it too expensive for local authorities to repay debt, and have therefore found it less advantageous to repay a debt than to hold cash on deposit alongside the debt. This has resulted in local authorities having more cash to invest in the money market than might otherwise have been the case. The PWLB change introduced from November 2007 has meant that a significant penalty is imposed if an authority seeks to repay a fixed rate PWLB loan early and the arrangement retrospectively applies to all loans, including those taken out before the PWLB rules were changed.

  It may be helpful if I answer by explaining the history and statutory background to the Public Works Loan Board, and then turn to the changes introduced in November 2007.

Background

  The PWLB is an independent statutory body dating from the eighteenth century and in its present form from 1875. It is headed by Commissioners, who are unpaid. Their function is to consider loan applications from prescribed bodies and where loans are made to collect the repayments. Nowadays almost all loans are to local authorities only, for capital purposes. Since 2002 the secretariat of the PWLB has been a unit of the UK Debt Management Office (DMO), operating from its offices in the City.

  The Board publishes an Annual Report, which is laid before Parliament, and its accounts are audited by the National Audit Office. The Secretariat has four staff, plus IT support. Such economical management has come about over the years because: loans can be agreed with the minimum of scrutiny; there is a homogenous client base with very low credit risk; and operations lend themselves to computerisation. The amount of outstanding PWLB loans is £51 billions. The cap on the outstanding amount has recently been raised by secondary legislation to £70 billions.

  DMO sets the Board's rates of interest according to methodologies which have been agreed with HM Treasury and are designed to protect the National Loans Fund, which is the source of PWLB funds and into which repayments are made. It is because the Board in effect on-lends the Government's own borrowings that rates are set according to the Government's cost of borrowing, plus a small margin. The effect of this is that local authorities can borrow at rates close to those at which the Government itself may do so, but it also means that the range of instruments that the Board can offer is limited to the basic and standard. The Board's function is to provide capital finance to local authorities, not to be an active treasury management counterparty. While the Board is open to requests to make early repayments, its terms will not favour the borrower over the National Loans Fund. This is because there is a working assumption that the NLF continues to meet the cost of financing the amount outstanding.

November 2007 Changes

  With effect from November 2007 DMO/PWLB has determined two sets of rates, one for new advances and the other for early repayments. The spread between the two is to take account of intra-day volatility and to compensate the NLF for the risk posed by mismatches in timing and maturity by pricing, albeit imprecisely, the option that local authorities have to repay early at discretion. The two sets of rates were introduced as part of a package of measures to remove pricing anomalies which had in some instances created the potential for ex ante risk of loss to the NLF, but the package also included features which benefited borrowers by facilitating finer rates for advances . DMO/PWLB stated at the time of the changes that they were not intended to remove local authorities' opportunities for restructuring debt, and so it has proved. For example, in January, albeit an exceptionally busy month, borrowers repaid 437 loans early, amounting to principal of £2,628 millions and thereby realising discounts of £21.2 millions. It is probable that this activity was related to the poor rates currently available for investment deposits.

  I and my DMO colleagues are in frequent contact with the local authorities' representatives and advisers, including the Committee's witnesses. We are aware of their concern, particularly at the size of the spread at the long end of the rate curve. We remain open to suggestions as to how PWLB can improve its service to borrowers, subject to the overriding need to protect the NLF from loss.

  I hope this is helpful. Further information on the Board's activities, interest rates etc is available on the Board's website, the address for which can be found at the head of this letter.

13 March 2009





 
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