Bankers warn £50,000 guarantee is not enough

Gordon Brown's pledge to raise the amount of savings protected in a banking failure to £50,000 may not be enough to restore confidence in Britain's banks, senior industry executives have warned the Government. Senior bankers are pressing the Government to guarantee in full more than £2 trillion-worth of deposits, protecting all UK bank creditors completely.

The Prime Minister revealed last night that legislation this month will raise the maximum payout from the Financial Services Compensation Scheme from its current level of £35,000 to £50,000. However, with signs that the credit crisis is worsening, the Treasury is now coming under pressure to match the pledge made by the Irish government yesterday, which promised to stand behind all deposits held by Ireland's six largest banks.

It emerged last week that more than a third of savers at Bradford & Bingley with more than £35,000 in cashdeposits had withdrawn their cash as speculation about the bank's future mounted. Executives at several other banks have privately told ministers they are also seeing withdrawals of larger deposits because savers' confidence in banking security has been so badly eroded.

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No bank wants to push in public the case for a full guarantee, because such a move would spark speculation that it was losing depositors. However, Nick Clegg, the Liberal Democrat leader, led calls for a full guarantee, calling for an Irish-style "copper-bottomed" guarantee for British savers that all their deposits are safe.

Mervyn King, the Governor of the Bank of England, held discussions with the Prime Minister over how Britain should respond to the latest stage in the credit crisis at an emergency breakfast meeting yesterday morning.

A spokesman for Mr Brown said: "We will do whatever is necessary to maintain stability and to protect the interests of savers."

While yesterday's compensation-cap increase mirrors a similar move inIreland last week, the Government is extremely wary of following the subsequent Irish move and offering a cast-iron guarantee for deposits. Mr Brown refused to say yesterday whether such a move was under consideration.

Cash on deposit at British banks and building societies totals £2.05trn,almost one and a half times last year's UK GDP.

The Irish government's promise to protect all retail, commercial and inter-bank deposits, as well as senior debt, is even more dramatic, with ministers guaranteeing €400bn (£317bn), more than twice the $190bn value of the country's economy. But Brian Lenihan, the country's finance minister, said the government had no choice but to act: "If funds are not secured by the Irish banks, it will be a very, very serious matter for the economic life of this community."

Mr Lenihan called for the European Commission to consider making similar guarantees across the EU's 27 member states. Such a move would head off criticism from other countries, particularly Britain, that the Irish guarantee gives their banks an unfair competitive advantage.

The British Bankers' Association said UK banks competing in Northern Ireland would face unfair competition and that the matter needed to beresolved between countries or by the European Union. The Building Societies Association (BSA) said it had told the Financial Services Authority that the guarantee skewed the market for deposits in the UK. Adrian Coles, the BSA's director general, said the guarantee would, for example, give "a significant competitive advantage" to Bank of Ireland deposits marketed through the Post Office. The Irish guarantee gave the six banks covered a significant boost yesterday, with their shares moving sharply upwards. By contrast, despite a rally from the European and US stock markets, most British banks remained depressed yesterday.

While shares in Lloyds TSB rose 4.3 per cent, shares in HBOS, the bank it is supposed to be rescuing, slumped by a further 14 per cent. Shares in Barclays also fell back.

Congress' failure to back the USgovernment's $700bn bail-out also resulted in a sharp increase in inter-bank lending costs yesterday, with financial institutions even more reluctant to lend to each other. The overnight sterling London Interbank Offered Rate (Libor) hit a record high, more than doubling from 3.71 per cent to 6.78 per cent.

The deterioration in the creditmarkets has also led to growing calls for interest rate cuts.

David Blanchflower, the Bank of England Monetary Policy Committee (MPC) member who has repeatedly called for rate cuts, said he would do so again at next week's meeting of the committee. "The time has come to cut interest rates decisively and soon," he said. "Costs of central bank inaction now probably outweigh the risks,said Michael Saunders, chief economist at Citibank.

Credit crisis The Swedish solution

*The Irish government's promise to bank depositors could be a crucial step in breaking the credit crunch, the lessons of history show. Sweden's economy was paralysed in the early 1990s by a banking crisis that had its roots in a property market bubble that burst. Faced with massive bad debts, five of Sweden's seven biggest banks had to go cap in hand to the government and shareholders for massive injections of capital. Two banks were nationalised and merged.

If the crisis sounds familiar, so too will Sweden's solution. The Hank Paulson US bailout plan – and the Irish intervention yesterday – are modelled on the way Sweden dealt with its crisis. First, in late 1992, the government offered a guarantee to all depositors in Swedish banks that their money would be safe. The pledge remained in place for four years. The next step was the launch of Securum, a state-run bank into which SKr67bn (£5.4bn) of bad debt and under-performing loans were dumped. The bank got SKr24bn of capital from the government and was given 15 years to dispose of its assets.

As the property market recovered, Securum was wound up after five years, having recouped SKr13bn. The crisis ended up costing taxpayers very little.