The Government last night took the unprecedented step of issuing an explicit guarantee to all Northern Rock savers amid fears that public panic could spread to other financial institutions.

The move, which leaves taxpayers underwriting about £28 billion of deposits – or the equivalent of about three-quarters of Britain’s defence budget – came as rumours of problems at other banks flew around financial markets.

Shares in Alliance & Leicester collapsed by 31 per cent, wiping £1.2 billion from its market value, on a false rumour that it had applied to the Bank of England for emergency finance. Bradford & Bingley shares fell by 15 per cent.

Treasury officials made plain that, if other lending institutions hit problems and approached the Bank of England, then they, too, would be eligible for similar treatment, including the deposits guarantee if they were considered solvent. By giving a cast-iron guarantee to Northern Rock’s savers, the Government departed from the decades-long tradition of leaving some ambiguity in order to encourage banks to behave responsibly.

BACKGROUND

• Goldman Sachs steps into Northern Rock crisis

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• Northern is not just a bank, it’s our bank

• Northern Rock still lending ‘recklessly’

• Star investor stays bullish on banks

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• Northern Rock crisis: in depth coverage

After another day during which calming words from ministers and regulators failed to shorten the queues at Northern Rock branches, Alistair Darling, the Chancellor, said that he wanted “to put the matter beyond doubt”.

He added: “I can announce today that following discussions with the Governor [of the Bank of England] and the chairman of the Financial Services Authority, should it be necessary, we, with the Bank of England, would put in place arrangements that would guarantee all the existing deposits in Northern Rock during the current instability in the financial markets.

“This means that people can continue to take their money out of Northern Rock. But, if they choose to leave their money in Northern Rock, it will be guaranteed safe and secure.”

Although technical details still need to be worked on, Mr Darling said that the guarantee would be binding. It will apply not only to the estimated £22 billion of retail deposits but also to around £6 billion of wholesale deposits, so that businesses as well as individuals will be protected. More than £2 billion has already been withdrawn from Northern Rock.

The Treasury was unable to say last night whether depositors’ interest was also guaranteed.

The guarantee has been offered without an attempt to put a Treasury nominee on to the Northern Rock board. “At the moment the company is solvent and Northern Rock is running its own company,” a Treasury spokesman said.

Justin Urquhart Stewart, of the City firm Seven Investment Management, said: “This is extraordinary. I’ve never seen anything like this. When did you last see a private company guaranteed by the Government? Are they now underwriting the entire British banking system?”

The policy shift came after hopes receded of a private-sector rescue of the Newcastle-based bank. Northern Rock said that it was not now in discussions with any other party. Until last week Lloyds TSB was in serious talks about a rescue takeover.

The beleaguered lender said that the statement “makes it clear beyond doubt that all savings in Northern Rock are safe and secure”. It also moved to encourage deserting depositors to return by offering to refund exit penalties to those who put their money back in the bank.

Although the Chancellor, the Bank and the FSA have made reassuring comments about the security of deposits at Northern Rock, last night’s statement was designed to remove any remaining doubt. The normal deposit protection system run by the Financial Services Compensation Scheme only fully protects the first £2,000 of a bank or building society deposit and then 90 per cent of the next £33,000. For larger deposits there is no legal protection. So existing Northern Rock deposits are now safer than any other bank.

Northern Rock savers in Kingston-upon-Thames were yesterday dismayed when a photocopied memo from chief executive Adam Applegarth was pushed out through the letterbox addressed to “All staff”. It advised staff to reassure savers the government had guaranteed all deposits and signed off, “Bloody hurrah!”

"The Chancellor’s statement makes it clear beyond any doubt that all savings in Northern Rock are safe and secure. Consequently anybody who is in a queue outside a branch, or who is trying to access an online account can be fully reassured that there is no cause for concern whatsoever. Bloody Hurrah!,” Mr Applegarth wrote.

Before the intervention, Northern Rock shares slumped by another 35 per cent and now stand at 282.75p.

Mr Darling said that Britain was well placed to handle the lending crunch that arose from a collapse in the US sub-prime mortgage market.

But David Cameron, the Conservative leader, said: “Under Labour our economic growth has been built on a mountain of debt and, as any family with debts knows, higher debt makes us more vulnerable to the unexpected.”

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