Westpac Banking Corporation, Australia's oldest company, is in talks with St George, a former building society, about merging to form a A$64 billion (£31 billion) institution.

The single company resulting from the merger would replace Commonwealth Bank of Australia as the country's biggest bank by market value and would create its biggest financial services group. Its customer base would equal half the population of Australia.

Analysts were divided on the prospect of a counterbid from HBOS, which previously has tried to forge a merger of BankWest, its wholly owned subsidiary in Australia, and St George.

Brian Johnson, an analyst for JPMorgan in Sydney, said: “Whenever big banks take over little banks, there's always loss of market share. Westpac are buying St George because they want the customer base and, historically, major banks who have taken out regional banks have found it very difficult to keep market share, which is an opportunity for someone like BankWest.”

International groups, such as ING, Rabobank, Citigroup and HSBC, are developing successful niche operations in Australia, but HBOS has aimed higher, with an aggressive organic expansion - its biggest continuing international project - intended to exploit dissatisfaction with the big four banks that have long dominated the market, with a 70 per cent share.

Its ambition was laid bare last year when it announced plans to fast-track the growth of BankWest, the Western Australian bank that it bought in 1995, into a national operation. It said that it would open 160 new branches within four years in the big eastern states.

Mr Johnson said that BankWest was already becoming a significant force through its policy of introducing aggressive pricing for savings and current accounts and home loans.

The merger talks have raised eyebrows because until last year Gail Kelly, the chief executive of Westpac, headed St George. Westpac, Australia's fourth-largest bank, approached St George after years of speculation that one of the four biggest banks, which are prevented from merging with each other under the so-called “four pillars” policy, would pounce on the market's No 5.

Analysts have speculated that if the Government were to approve the takeover, the pillars policy would be dealt a fatal blow.

Ted Evans, the chairman of Westpac, said that the merger would help the bank to achieve its strategic priorities earlier.

While other big banks are beginning to expand into Asia, Britain or the United States, Westpac wants to focus on the local banking and wealth markets, where it would be the biggest operator, with A$108 billion in customer funds.

St George has been reduced to the target of an all-share offer as the credit crunch has cut its price-earnings ratio from 15 to 11. Analysts expect a takeover premium of about 30 per cent, valuing the target at about A$20 billion.

Separately, John Stewart, the chief executive of National Australia Bank, has ruled out a sale of its Clydesdale and Yorkshire banks. Instead, the bank would consider acquiring another bank or finance house in Britain.

Kelly’s progress

— Gail Kelly, 52, a former school teacher, joined South Africa’s Nedcor Bank as a teller in 1980 and completed an MBA while pregnant with her first child

— She emigrated in 1997 to join the Commonwealth Bank and in 2002 was appointed chief executive of St George, where she doubled profits and delivered share price gains

— The first woman to run one of Australia’s ten largest companies is remembered at St George for arriving at staff birthday celebrations and chatting casually about family matters

— She took the reins of Westpac on February 1

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