UPDATE 2-British funding scheme fails to boost business lending
* Net lending to all business down 3.9 bln stg
* Net lending to small businesses down 0.4 bln stg
* Biggest overall declines at state-backed Lloyds and RBS
* Lloyds was highest net lender to small businesses
* Funding Circle founder says scheme is failing businesses (Adds Funding Circle comments, bank-by-bank data)
By Matt Scuffham
LONDON, Aug 28 (Reuters) - Britain's much-heralded scheme to encourage banks to make more credit available to households and businesses failed to boost lending in the second quarter, data showed, as banks focused on meeting tougher capital demands from regulators.
The Bank of England launched its Funding for Lending Scheme (FLS) in August 2012 as a key part of government efforts to stimulate the economy, with banks having since drawn down a total of 45.7 billion pounds ($75.8 billion) of funding.
The scheme was tweaked last November to end incentives for mortgage lending with the intention of persuading banks to focus on businesses, but data from the Bank of England on Thursday showed that net lending to businesses fell by 3.9 billion pounds in the second quarter of this year, widening from a 2.7 billion pounds drop in the first quarter..
Lending to small businesses fell by 400 million pounds, though that was an improvement on a decline of 719 million in the first quarter.
Britain's biggest banks have cut back on lending and shed assets to meet tough rules on capital that were imposed by regulators to prevent a repeat of the 2008 financial crisis. Banks have also pointed to a lack of demand from borrowers.
"Funding for Lending is failing to help the thousands of British businesses that need finance but can't access it," said James Meekings, co-founder of Funding Circle, one of Britain's biggest online lending platforms.
"Instead, alternative sources of finance, like peer-to-peer lending, are proving to be a better way for the Government to get finance through to British businesses," Meekings added.
Fewer smaller businesses in Britain are using traditional forms of bank financing, such as overdrafts, loans and credit cards, a survey showed on Thursday.
The data showed that the biggest declines in lending came at state-backed Lloyds Banking Group and Royal Bank of Scotland, where net lending contracted by 2.1 billion pounds and 1.5 billion pounds respectively.
The decline at Lloyds was driven by a 2.45 billion pound drop in lending to large companies. Lending to small businesses rose by 384 million pounds, making it the scheme's biggest provider of credit to small businesses.
RBS, which is majority owned by the British government, cut lending to big business by 1.13 billion pounds and to small businesses by 360 million pounds.
The biggest rise in net lending came at Santander UK , which lent 254 million pounds to businesses, including an increase of 99 million pounds for small businesses. The next-highest lender was new bank Aldermore, with net lending totalling 118 million pounds.
South Africa's Investec Bank increased net lending by 96 million pounds with a 136 million pound increase in small business lending offsetting a 40 million pound fall in lending to large companies.
The update covers the first full quarter since the changes to the scheme took effect in February. ($1 = 0.6026 British Pounds) (Editing by Keith Weir and David Goodman)