The Bank of England warned high street lenders that failure to support the economy now will leave them billions of pounds worse off in future, as Barclays was accused of failing to get emergency cash to firms fast enough.
Threadneedle Street’s latest financial stability report said banks could suffer loan losses of £80bn due to the economic impact of the outbreak, using up about 45pc of their financial buffers.
But the institution nonetheless expects lenders to dole out at extra £60bn of credit by the end of next year, driven in part by taxpayer-backed small business support programmes.
Speaking as Barclays faced questions from MPs over reports of problems in its application process for a key Government scheme, Bank Governor Andrew Bailey said he is talking to the biggest lenders “almost every day”.
He said: “Lending is the best way to actually prevent a more adverse outcome which could affect them more.”
Credit is vital for new companies starting up and existing ones seeking to trade through tough times.
It is feared that if banks try to limit their losses by refusing to lend, they will only make the brutal economic downturn caused by coronavirus even worse - ultimately reducing their own profits in the long run.
The Government has launched two initiatives to try and keep banks lending - the Coronavirus Business Interruption Loan Scheme (CBILS), in which it covers 80pc of any losses they suffer; and the Bounce Back loans programme for the smallest firms where the guarantee is 100pc.
In a report on financial stability, the Bank stressed that little capital is at risk for lenders using these programmes.
It added that if banks fail to support firms facing a £140bn cash shortfall, the resulting rise in insolvencies and unemployment could deliver a further £10bn loan hit. This would weaken banks' finances even more and deal a heavy blow to the UK's recovery efforts.
Mr Bailey said: “I bear the scars of dealing with the consequences of things that went wrong with small firm lending in the financial crisis, and it reminds us that it is an inherently difficult area. It is something we should come back to again when this all over to see what the structural issues are.”
Philip Shaw, chief economist at Investec, said lenders are in much better shape to support the economy than they were following the last recession.
He said: “The main message is that the UK banking system’s capital buffers are sufficient to absorb losses during the downturn and support the economy, especially via the various government schemes. This at least draws a huge and positive distinction between the current downturn and the 2007/8 global financial crisis."
The Bank’s demand for credit to continue came as Barclays was ordered to explain itself after potential borrowers struggled to obtain Bounce Back loans.
Small businesses have flooded major banks with applications for the loans of up to £50,000 since they became available on Monday, with Chancellor Rishi Sunak tweeting that applying for the money can be done “in the time it takes to have lunch”.
However, some Barclays customers complained that they were unable to access the rescue cash due to error messages on the application page. One frustrated customer tweeted that it was “more like the ‘bounce your head against the wall’ loan”.
In a letter to Barclays UK chief Matt Hammerstein, Tory MP and Treasury Select Committee chairman Mel Stride told the bank to explain what is going on and set out steps to fix any problems.
At a committee hearing earlier this week, Mr Stride asked the Barclays boss if the system was down following complaints. Barclays had 200 applications in the first minute of the scheme's launch and by Tuesday had approved 32,000 loans.
Mr Hammerstein told the committee: “It is definitely not down. The technology is working fine; we are just making sure that we make it available safely.”
Demand for the programme has already eclipsed the CBILS scheme, which has been open since March and has lent £5.5bn to about 33,800 mostly larger firms. By contrast, 69,000 loans worth £2bn were approved in the first 24 hours of the Bounce Back scheme.
A Barclays spokesman said the bank had approved more than 50,000 Bounce Back Loans worth over £1.5bn this week and that some customers needed to give extra details in order to finish their application.