If the $700 billion American bank bailout plan is voted down, or even if it goes through, what should the British Government do to help to bolster banks on this side of the Atlantic?

Yesterday’s move by the Irish Government to guarantee deposits in its banks added another item to the wish-list of British banks.

They rightly complain that the Irish guarantee puts them at a competitive disadvantage. The French and Belgian governments have also made clear they stand behind all retail deposits in their banks, even if they have not issued such an explicit pledge as the Irish.

It might be a bit much to expect the British Government to go as far as the Irish by guaranteeing not only retail deposits but all lending to the banks by other institutions right down to subordinated debt. This would be to transfer a huge risk from the banking sector to the State, even if, as in the Irish case, the guarantee supposedly will be priced on commercial terms.

However, to make explicit the implicit guarantee on retail deposits would prevent the sort of run on the bank that forced the Government to act to rescue Bradford & Bingley last weekend (even if it might have only postponed the inevitable). And it would somewhat reduce the risk that a sharp fall in a bank’s share price could trigger a self-fulfilling crisis of confidence.

In a conference call with Alistair Darling last night, the banks were expected to urge other policy changes to help them, and the economy, through the crisis.

Some are pressing for a broadening of the Bank of England’s Special Liquidity Scheme to allow banks to pledge a wider range of assets in return for government bonds. The allowable assets could include securities backed by buy-to-let mortgages, self-certified mortgages and even more toxic securities.

One proposal would see the scheme reformed so that banks would not be forced to pledge more assets to offset any short-term deterioriation in the assets already earmarked. This would protect banks from the risk of a further downturn in the market for asset-backed securities just as the American plan would. A more radical proposal would involve some suspension of the requirement to “mark-to-market” such asset-backed securities.

Many bank executives, regulators and academics believe that the credit crunch has been greatly exacerbated by the accounting rules that force banks to take losses on assets they continue to hold but whose market price has fallen. For many of the more complex mortgage-backed securities, there are virtually no buyers and the “market prices” are widely agreed to be way below the assets’ likely long-term value.

The heavy losses that many banks have taken on these assets have seriously weakened their balance sheets, forcing them either to raise more capital or rein in new lending. A number of leading banks have pressed for a suspension of the mark-to-market rules. But others, notably Goldman Sachs, have argued strongly against.

The critics say that such a move would be very dangerous and point to the experience of the US savings and loan crisis, in which the lack of such accounting rules meant that the insolvency of scores of lenders went unrecognised for a prolonged period with very costly consequences.

But if it would be dangerous to scrap fair-value accounting permanently, that does not mean it should be ruled out as a temporary emergency measure. If the American bank bailout plan fails, it should be seriously considered.

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