of retail space. almost 1, 000 high street chain stores closed in the first half of the year. lower asset values have left debt levels looking too high. households, businesses and, especially, banks are all deleveraging. nowhere is the overhang of debt more obvious than in the banking sector where deleveraging is holding back the flow of new lending. during the crisis central banks have provided liquidity to banks on a truly extraordinary scale, so much so that there were no takers for additional liquidity in our latest auction. it is still useful to keep that auction facility as an insurance policy. but banks are now overflowing with liquid assets. their problem remains insufficient capital. just as in 2008, there is a deep reluctance to admit the extent of the undercapitalisation of the banking system in many parts of the industrialised world. the bis central bankers ’ speeches verdict of the market is clear – without central bank support banks still find it expensive to borrow. so the bank of england, together with the government, has set up the funding for lending scheme ( fls ) which provides banks with access to finance for up to four years at below prevailing market rates for term funding. crucially, the more banks lend to uk households and businesses, the more they can borrow from the scheme and the cheaper is that funding. that provides a powerful financial incentive for banks to supply more credit. more than 20 banking groups, including the five largest lenders to the uk real economy and covering nearly 80 % of all such lending, have so far signed up. since the scheme was announced bank funding costs have fallen by around 100 basis points ( see chart 1 ). not all of this is attributable to the fls – the announcement by the ecb of outright monetary transactions has also played an important role. but it is noteworthy that uk bank funding costs have fallen by more since june than have european bank funding costs ( see chart 2 ). the effect of the fls will be seen in the lending data only after some months because of the time it takes for banks to change their lending strategies and for data to be collected and published. the fls can be only a temporary scheme. the window of opportunity which it provides must be used to restore the capital position of the uk banking system. i am not sure that advanced economies in general will find it easy to get out of their current predicament without creditors acknowledging further likely losses, a significant writing down of asset values

and recapitalisation of their financial systems. only then will it be possible to return to a more normal provision of the vital banking services so crucial to an economic recovery. in the 1930s, faced with problems of sovereign and other debt similar to those of today, the pretence that debts could be repaid was maintained for far too long. we must not repeat that mistake. over the past three years, the bank of england has bought £375 billion of government bonds – gilts – from the private sector to create a lot of new money. many – perhaps some of you – are understandably concerned about the use of such an unusual and unfamiliar policy. some people talk about the dangers of money creation. i want to explain why it is important to distinguish between “ good ” and “ bad ” money creation. in essence, the argument is very simple. “ good ” money creation is where an independent central bank creates enough money in the economy to achieve price stability. “ bad ” money creation is where the government chooses the amount of money that is created in order to finance its expenditure. insufficient money creation can lead to a contraction of the money supply and a depression. we saw that in the united states during the great depression and we see it today in greece. excessive money creation leads to accelerating inflation and ultimately the collapse of the currency. the role of the bank of england is to create the right amount of money, neither too much, nor too little, to support sustainable growth at the target rate of inflation. we are not doing it at the behest of the government to help finance its spending. it is the independence of the bank that allows us to create money without raising doubts about our motives. but just as it is crucial that governments do not control the printing of money, so too the unelected central bank must not determine the levels of taxes and public spending. fiscal policy is a matter for elected governments. there has been some talk about the possibility that money created by the bank could be used directly to finance additional government spending, or even that money could be given away. abstracting from the colourful metaphor of “ helicopter money ”, such operations would combine monetary and fiscal policies. there is no need to combine them because, as now, once the bank has decided how much money should be created to meet the inflation target, the case for the government to increase spending or cut taxes to counter a downturn stands or falls on its own merits. what determines the interest rate at