Press reports suggest that the planned facility to allow banks to swap mortgage assets for gilts could be as large as £100 billion. If true, this would make it much more significant that the Federal Reserve’s equivalent scheme – the term securities lending facility (TSLF).

The TSLF is currently capped at $200 billion, of which $100 billion had been used as of Wednesday 9 April. $200 billion is equivalent to 1.8% of the US broad money supply (expanded M2). The same percentage of UK broad money M4 would be £29 billion.

The UK scheme arguably needs to be larger because the Fed has introduced a range of other measures to help markets. Total Fed support amounts to $470 billion* or 4.1% of broad money. The equivalent UK sum would be £69 billion. From this should be subtracted the £25 billion of three-month funding the Bank of England has offered to banks against AAA-rated asset-backed securities. This suggests the UK swap facility should be £44 billion to equate total UK and US support. (An earlier post suggested additional aid of about £40 billion was necessary to ease mortgage market strains.)

Demands for a £100 billion facility seem excessive. The success of the scheme will depend as much on the precise collateral rules and term of the swap as its size.

* Breakdown: TSLF $200 billion, term auction facility $100 billion, additional term repos $100 billion, swap facilities with ECB and Swiss National Bank $36 billion, primary credit discount window lending $7 billion (9 April), primary dealer credit facility lending $26 billion (9 April).

Today’s Wall Street Journal argues that three-month dollar LIBOR fixings compiled by the British Bankers’ Association (BBA) may understate true interbank borrowing costs by as much as 30 basis points. The suggestion is that some banks on the BBA panel are failing to report actual borrowing rates for fear of alerting markets to financing difficulties.

The chart below shows the spread between three-month dollar and sterling LIBOR fixings and an average of offer rates quoted by the interdealer brokers ICAP and Tullett Prebon – these should reflect actual borrowing costs The BBA dollar fixings do indeed look low relative to broker rates, although the divergence is smaller than suggested in the WSJ article – 14 basis points yesterday. However, the issue is much less significant for sterling rates, with a gap of just 1 bp yesterday.

The divergence in dollar rates is puzzling but seems unlikely to reflect BBA banks deliberately understating borrowing costs, since this would be expected to affect sterling rates by a similar amount.

I have been tracking the path of annual industrial output growth in the Group of Seven (G7) major economies against “soft landing” and “hard landing” scenarios, based on average experience in prior downswings over the last 40 years. Despite the credit crisis, my bias has been to expect an outcome closer to the soft landing path, for reasons explained here.

The first chart below updates the comparison to include February industrial output data. Activity held up reasonably well in early 2008 and continues to track the historical soft landing path closely. Supportive factors have included solid export gains to emerging markets and modest stock levels in late 2007.

I still think a hard landing will be avoided but further credit tightening and commodity price gains in early 2008 may result in growth moving slightly below the soft landing path over coming months. As the second chart shows, business surveys are consistent with the annual output change falling close to zero.

UK net mortgage lending last year totalled £108 billion (see here). Of this, only £27 billion ended up on the books of banks and building societies. The other £81 billion was assumed by “other specialist lenders” – often bank subsidiaries largely funded in wholesale markets.

Reflecting the shut-down of wholesale funding, these specialist lenders reduced their mortgage book by nearly £5 billion in the first two months of 2008. Assume – optimistically – that their net lending is zero for the year as a whole. If mortgage demand remained at £108 billion, and banks and building societies planned again to lend only £27 billion, this would imply a “funding gap” of £81 billion.

The actual gap is likely to be significantly lower, for three reasons.

First, banks funded £10 billion of the £81 billion advanced by specialist lenders in 2007. This £10 billion will be available to finance their own lending in 2008, reducing the estimated funding gap to £71 billion.

Secondly, mortgage demand would have fallen as a result of Bank rate rises and a slowing economy even in the absence of the recent tightening of lending standards. In the last housing slowdown in 2004/5, when supply conditions remained generous, the 12-month running total of net mortgage lending declined 22% from peak to trough. A drop in mortgage demand on this scale in 2008 would cut the implied funding gap from £71 billion to £47 billion.

Thirdly, a portion of the funds that last year were invested in wholesale markets will this year end up in bank and building society deposits, creating extra lending capacity.

Of course, any contraction of specialist lenders’ mortgage books would offset these factors, boosting the funding gap.

I think the authorities need to offer about £40 billion of additional funding assistance to mortgage lenders this year. The previous post discussed detailed proposals.