Gordon Brown tonight described the behaviour of the Icelandic government over its bank collapses as "totally unacceptable" and said the Government is considering legal action.
His statement came after the Government and the Local Government Association said tonight in a joint statement that councils facing "severe" difficulties after investing in collapsed Icelandic banks will receive "appropriate" assistance,
Mr Brown made his comments as he visited business chiefs in Birmingham to talk about the Government's massive bail-out package that could effectively part-nationalise eight UK financial institutions.
He said: "This is a real problem because we have guaranteed the retail deposits of even Icelandic branches in Britain.
"This is a problem that has been caused by Iceland. It is totally unacceptable behaviour. I have talked to the prime minister of Iceland.
"We are taking legal action against money that has been moved out of Britain into Iceland. We are trying to freeze the assets of Icelandic companies here.
"It is a responsibility of the Icelandic government, but we recognise also that there are issues for local authorities and we are talking to local authorities today to see what we can do to help them."
Town hall officials met Government ministers this afternoon to demand help in recovering hundreds of millions of pounds invested by councils in collapsed Icelandic banks.
The emergency meeting with the Local Government Association came as dozens of local authorities revealed they had deposited taxpayers' cash in the institutions.
They will urge Treasury ministers to give them the same guarantee offered yesterday to individual savers by Chancellor Alistair Darling that they will not lose out.
One authority alone - Kent County Council - has £50 million deposited in troubled Landsbanki and its UK subsidiary Heritable, as well as Glitnir Bank.
Dozens more, as well as Transport for London and the Metropolitan Police Authority, have assets in the banks, estimated by the Tories to be worth in excess of £1 billion.
A total of 37 authorities have so far said they have investments caught up in the collapse, investments branded a "disgrace" by campaigners.
Kent said its local services were not at risk but smaller authorities, with a larger proportion of their cash in the banks, faced potential cuts.
The LGA insisted councils had stuck to Whitehall rules encouraging them to get the best return and to invest their money across a number of financial institutions to spread risk.
Councils took professional advice and were only allowed to lend it to banks with the top credit ratings, they pointed out.
However one local authority, Brighton and Hove City Council, said it suspended transactions with one Icelandic bank - Kaupthing Singer & Friedlander - about a year ago amid concerns about the country's banks expanding too rapidly.
"Our watchword is caution. We're very aware of our responsibilities in managing taxpayers' money, and are very careful both about who we invest with and how much we invest," finance councillor Jan Young said. "We have no deposits with Icelandic banks."
There was no sign that any of the elected councillors responsible for approving the investments had taken the advice of the TaxPayers' Alliance pressure group and resigned.
Mark Wallace, campaign director at the TaxPayers' Alliance, said: "Every year we hear that councils don't have enough money and need to raise taxes but it seems they have had sufficient excess tax to salt tens of millions of pounds away.
"The fact that they have invested this money and seem to have lost it is even more shocking and is sadly yet another reminder of the poor financial management in local councils.
"It's an absolute disgrace. If the councils can't get their money back, the people who took these excesses should seriously consider their positions as councillors."
Chancellor Alistair Darling announced yesterday that he will protect the savings of private investors in Icelandic banks but said local authorities were "more of an informed investor".
LGA deputy chief executive John Ransford said: "This is a very fast-moving situation. It is changing all the time and we need to talk to Government to make sure we act sensibly in the interests of local taxpayers and making sure services are preserved.
"This is public money - it's your money and my money - we need to treat this in exactly the same way as individual investors in these banks."
London public authorities are thought to face exposure of around £200 million, according the umbrella organisation London Councils.
London Councils chairman Merrick Cockell said: "While nobody could have anticipated the collapse of what were once safe deposits, the Government must now act swiftly to safeguard these assets and protect London's council tax payers."
Nick Chard, Cabinet member for finance at Kent County Council, said the council had "followed the protocols absolutely to the letter" in choosing where to put its money.
"In Kent there will be no impact on council services but the concern I have is for some of the smaller authorities. It may well have some impact there," he said.
Shadow local government secretary Eric Pickles said: "Councils have been actively encouraged, and indeed praised, by Whitehall to undertake these kinds of investment.
"Local government finances are now at risk and people will be concerned about their local services and council tax bills. The Government needs to stop dithering and clear up this uncertainty."
Liberal Democrat local government spokeswoman Julia Goldsworthy said: "The easiest way for the Government to reassure local taxpayers is to make clear how local authority funds will be protected.
"Ultimately this is council taxpayers' money at risk and these are funds which are essential for the delivery of local services."
Unison urged the Government to protect local authorities.
The union's general secretary, Dave Prentis, said: "The Government cannot stand by and allow local authorities to lose millions of pounds of council tax payers' cash. They have stepped in to secure the banking system, and we need the same bold and principled action to protect local councils.
"Local authorities have a crucial role to play in protecting individuals, families and communities from the effects of an economic downturn. They are also crucial to rebuilding stability and confidence in our communities."
Announcing the meeting in the Commons, Treasury Financial Secretary Stephen Timms said: "There will be a meeting this afternoon between the Economic Secretary (Ian Pearson), the Minister of State for Local Government (John Healey) and the Local Government Association to consider exactly that issue."
The LGA said any authorities which got into financial trouble because they could not access their funds should be able to suspend business rate payments to the Government.
Its latest estimate is that 45 of the 400 councils in England and Wales it represents have deposits in the affected banks.
Chairman Margaret Eaton said: "Councils are not experiencing immediate cashflow problems at the moment, but allowing a certain breathing space for a small number councils that could be affected is necessary and needed.
"These would be temporary, short-term measures until the Chancellor can reassure councils that their deposits are protected in the same way as personal assets.
"Allowing councils to defer payment of money collected from business rates would help to raise millions of pounds to help plug any short-term cashflow problems."
Treasury guidance to councils states that, in making such investments, "priority should be given to security and liquidity".
It goes on: "That does not mean that authorities should ignore yield. It will be appropriate to seek the highest rate of return consistent with the proper levels of security and liquidity."