First the Government bailed out Northern Rock, then it was Bradford and Bingley.

Now, with nearly every other bank looking as nervous as a turkey on Christmas Eve, the Government has announced a £50 billion rescue package. However it could end up costing us taxpayers up to £500 billion!

The key points of the plan are:

• Banks will have to increase their capital by at least £25 billion and can borrow from the government to do so.
• An additional £25 billion in extra capital will be available in exchange for preference shares.
• £200 billion will be available in short-term loans from the Bank of England, up from £100 billion.
• Up to £250 billion in loan guarantees will be available at commercial rates to encourage the banks to lend to each other.
• To take part in the scheme, banks will have to sign up to an FSA agreement on executive pay and dividends.

Which banks are included?

It seems likely that five of the eight institutions listed in the announcement will participate in the equity raising; Royal Bank of Scotland, Barclays, HBOS, Lloyds TSB and Nationwide - while HSBC, Standard Chartered and Abbey will be more likely to take advantage of the money market operations. Other banks and building societies would be able to apply for inclusion in the plan.

In return for all our taxpayers money, the government insists it has extracted a price from the banks; no more big bonuses, no dividends to shareholders and a pledge to keep lending money to small businesses and would-be homeowners. But, whether this is adhered to, remains to be seen.  

How on earth did we get here?

In a nutshell, banks got careless and loaned too much money to people who just couldn't pay it back. If a lender makes too many bad loans, they go bust. But because these lenders are so vital to the economy, the government has decided we can't let them go bust; hence the bailout. 

How do banks borrow money?

They borrow it from you and me (through savings deposits), or from commercial lenders (through the wholesale money markets), or through issuing bonds. So say the bank has £1 in shareholder equity. It then borrows £9 on top of this. It then writes £10-worth of loans based on this.

There are two serious flaws to this. Firstly, you have to make sure the people you lend to will repay you and secondly, if everyone you've borrowed from wants their money back at the same time, you're in trouble, because you've loaned most of it out. So you have to keep an eye on when your payments are falling due.

Most bank lending is done over the long-term (like a 25-year mortgage) and banks charge more for this, as it's taking a bigger risk. Most bank borrowing, however, is done short-term, via instant access deposit accounts and 30 or 90-day loans from the money markets. This borrowing is cheap, because it's only short-term.

What went wrong?

All this is fine as when a short-term loan comes to an end, the bank just rolls it over, which the lender is usually happy to do.

Notice the word ‘usually’…

When the US sub-prime mortgages started going wrong, it was clear that the loans that banks had been writing were worthless. Would you be keen to fund a bank giving out bad loans? If it doesn't get its money back, maybe you won't either. More to the point, many of the people doing the lending are banks themselves. So they realise they're going to need that 'spare' money, and hang on to it.

So the money markets dry up as institutions hoard their cash and that is what the central banks have been trying to deal with. This is the liquidity problem, which is what scuppered Northern Rock. It relied too much on wholesale markets, couldn't repay its debts when they fell due and couldn't be rolled over, so it went to the wall.

Northern Rock; more of your money down the drain

What does all of this mean?

It means we've acknowledged that UK banks are broke. But by offering extra capital and vast liquidity to the banks, this may unblock the money markets, reduce inter-bank interest rates, and encourage banks to lend to each other again.

In this scenario, credit for businesses and individuals should become cheaper and more widely available. For now, this should stop the immediate panic about the security of British banks, but how will things be in a year’s time? What about 5 year’s time?

The Government can play a very long game, holding these assets for years, or even decades, until they recover in value.

For instance, Sweden bailed out its banks in this way in 1992, and made a profit for Swedish taxpayers. So, while this plan may be a short-term lemon, it could prove to be a long-term cherry.

How much will it cost all of us?

With about 25 million UK households, the £50 billion rescue plan works out at £2,000 per household added to our national debt.

What it also means that the part  nationalisation gives us all a stake in these lenders; hence we mustn’t allow them to take our money and then lend it back to us at high rates of interest! 

Though they may be recapitalised, banks can't return to rampant lending. None of this will be over until the property crash ends, because as long as property markets continue to tumble, the asset side of banks' balance sheets remains under question.

PS: One piece of good news: the government has guaranteed all £4.5 billion of savings in failed Icelandic bank Icesave (and plans to sue the Icelandic government for withdrawing its savings safety-net).

What do you think of the Government’s decision?

Should they be bailing out the organisations who should have known better or are they not left with much choice?

Why not let us know what you think in the comments below?

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The Bank of England cut the interest rate by 0.5% to 4.50% even though inflation remains above target. The decision was due tomorrow.

At the exact same time, the Federal Reserve, European Central Bank and Swiss, Canadian, Swedish and Chinese central banks all announced similar cuts.

In this shock move, central bankers around the world took emergency action to end the market meltdown and hope the co-ordinated interest rate cuts will ease the credit crunch and lift the global economy.

It’s some encouraging news but the question is, will it work?

If you have put some of your savings in Icelandic banks, then yesterday’s news would have left you feeling rather cold.

The 300,000 of you with savings deposited in Icesave, the Icelandic internet bank, have found that you are blocked from withdrawing any money from your account.

The move follows the decision by the Icelandic Government to take control of Landsbanki, Icesave’s parent company, which has been engulfed in the worldwide financial chaos. It collapsed on Tuesday morning and is now being run by the Icelandic Financial Services Authority, the Fjármálaeftirlitið (FME).

The Icesave website was frozen from early Tuesday morning, leaving many of you angry about the situation and lack of information. A source close to Landsbanki warned that it was unlikely the website would return to normal.

Alistair Darling, the Chancellor, has said he is making a commitment to the 300,000 of you affected by the Icesave situation.

The Chancellor’s guarantee means that you will not lose out even if you have more than £50,000 in an Icesave account. Last week, the Government increased its guarantee to savers from £35,000 to £50,000.

Mr Darling refused to extend explicitly his commitment above the £50,000 to any other institution which runs into trouble.

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Below we try to examine some key questions about the Icesave situation.

• Can I withdraw my money now?

No. Icesave's website says it is "not currently processing any deposits or any withdrawal requests".

• What has triggered this?

The move follows the decision by the Icelandic Government to take control of Landsbanki, Icesave’s parent company after it was put into receivership yesterday.

• When can I withdraw my money?

Nobody knows. A spokeswoman for Icesave said: “We are waiting to find out what is happening from the Icelandic Government.”

• Is Icesave bust?

No. The Icelandic Government is battling to save Landsbanki and other major banks. As long as it has not been declared bankrupt, you cannot make a claim on any guarantee scheme.

• What happens to my money if Icesave does collapse?

Wait and see. If Landsbanki is officially declared in default, the FSCS steps in. In theory, you will have to apply to Iceland's scheme for the first €20,887 (£16,000) of any claim, and then to the UK scheme for any sum over that amount, up to a maximum of £50,000.

• But will the Icelandic scheme be able to pay out? 

A very good question. The Icelandic scheme has only £88 million to cover £13 billion of savings deposits. The Icelandic Government is supposed to cover any shortfall, but can it really guarantee deposits that total twice its GDP? Probably not.

If they can’t they might reimburse you with puffins instead…

• What if the Icelandic Government can’t pay?

Icesave says that Sweden, Norway and Denmark are committed to backing Iceland in an emergency, but only as a last resort.

• Will the treasury bail us out? 

Highly unlikely. The Treasury said Icesave was Icelandic, so the prime responsibility lay with Iceland. The Treasury had no plans to go beyond fulfilling its obligations under the deposit guarantee scheme.

• I have savings with Kaupthing Edge. Should I worry?

Then you are in a better position thanks to Kaupthing’s link with Singer & Friedlander. It qualifies in full for the UK’s £50,000 scheme.

• I managed to withdraw my money from Icesave yesterday, but it says it takes four days to transfer. Will it come through?

Who knows? With the transfer process taking several days and things grinding to a halt yesterday, there is a sizeable chance that your  money will be stuck in the system.

• Is there a helpline I can call?

No. Icesave said that you should keep checking the website for information.

(9.10.08 Latest Update: The UK government has stepped in to guarantee 100% of your money in Icesave after it emerged that the Icelandic government was refusing to meet its obligations to UK savers and Icesave was placed in default.

The default declaration triggers action from the FSCS, which will write to you outlining what they need to do to reclaim your money. It is not clear how long it will take for pay outs to be paid, but the FSCS warned that it could take up to four months)

Want somewhere safer to keep your cash? Compare the best savings accounts.

Buy to let has always been a element of the housing market that has provoked much discussion among Money Hospital readers!

Just under a year ago, we were talking about whether it was bye bye to buy to let? and since then, we have seen buy to let mortgages drop by 85% in the last year.

Now, those of you landlords that need to remortgage are running out of options as buy-to-let mortgage lenders  withdraw products and raise prices in response to the collapse of Bradford & Bingley. 

The Mortgage Works and UCB (both subsidiaries of Nationwide) temporarily withdrew their buy-to-let deals last week after Bradford & Bingley (B&B) pulled its entire range, including deals offered through its subsidiary, Mortgage Express (MEX).

Lenders still offering you buy-to-let deals include Cheltenham & Gloucester, NatWest, the Principality building society and the Leeds, but as a landlord you face tighter lending criteria, higher fees and lower maximum loans-to-values.

BM Solutions has just increased its three-year tracker rate, with a 75% loan-to-value deal up from 5.59% with a 2% fee to 5.99% and a 2.5% fee.

Its three-year tracker with an 85% loan-to-value has risen from 5.89% with a 2% fee to 6.49% with a 2.25% fee.

Andrew Montlake of mortgage brokers Cobalt Capital says:

'Landlords who had borrowed on 85% or 90% loan-to-value will struggle if their fixed rates are coming to an end. They may have to stay on their lender's standard variable rate until things calm down.'

Melanie Bien of broker Savills Private Finance says if you are seeking to remortgage should contact a broker at least three months before their deal runs out.

Interest rates are likely to fall towards the end of this year, so those who can afford fluctuations on a base-rate tracker mortgage may see their monthly payments fall,' says Bien. 'Although the outlook is more difficult, the majority of landlords will survive.'

Do you think the majority of landlords will survive? Or do you think that the end is in sight for the buy to let sector?

Let us know in the comments

The king and queen of buy to let

(Please note that articles on Money Hospital do not constitute regulated financial advice. The articles are intended to provide general personal financial information, and are based on journalistic research. We urge you to consult an Independent Financial Adviser (IFA) before making any important decisions about your finances. All rates are correct at time of printing but are subject to change without notice.)

The government has decided to give the savers among us a boost by pushing through an increase in guarantees for bank deposits up to £50,000.

This is partly due to anxiety that the UK banking system is losing out to blanket guarantees of savings in Ireland, the Financial Services Authority (FSA) made it clear the government was preparing legalisation to "further enhance consumer confidence in the banking sector".

Hector Sants, chief executive of the FSA, said the increase in savings guarantees would take place from Tuesday, October 7.

The FSA will also decide on whether the limit should be raised even higher especially as last night Germany announced it was following the lead of Ireland and Greece and offering a blanket guarantee on all savings. Late last night Denmark also followed suit and the treasury may now need to take more radical steps to avoid many of us investing our savings elsewhere.

Below we try and explain the current situation.

• What’s changed?

Currently, if you have a current or savings account in a UK-based institution, up to £35,000 of your cash is protected through the Financial Services Compensation Scheme (FSCS). This will be increased to £50,000 with effect from October 7.

If your institution collapses,  you will be entitled to claim back 100% of your money up to that limit. You are covered for that sum in each organisation you bank with; unless any of them share a banking licence. If, for example, you have money with Barclays and HSBC, which don't share a licence, you will have up to £50,000 protected in each bank.

However, if you have money with HSBC and First Direct, which do share a licence, only the first £50,000 of your total will be protected.

Are your savings institutions part of the same banking group? Find out here.

The protection is for each account holder, so in a joint account up to £100,000 will be covered.

• What if I have more than £50,000 in an account?

The first £50,000 will be 100% secure and you will be able to reclaim it in the same way as someone who holds less than the new limit. You may be able to recover some of your other money, but only after the bank has been liquidated. The FSA is looking at how this process can be made easier.

• How do I get my money back if my bank does fail?

If a bank or building society falls into difficulty the FSCS will act.  It will get a list of customers from the administrators and if you are on it you will be sent a form to apply for compensation. You must fill this in and send it back to get your claim processed.

• How long will that take?

The FSCS says that so far it has settled 96% of claims from depositors within two weeks, but these have related to credit union failures so there have been far fewer savers involved than if a major bank were to fail. A spokeswoman for the FSCS admits this is "uncharted waters" and is unable to say how long claims would take to turn round.

• How many of us will benefit from the increased limit?

If you are approaching the old limit of £35,000 or already hold between £35,000 and £50,000 in a single savings account, you stand to benefit from the change; it means you will not have to transfer your money elsewhere to get 100% protection.

According to a Treasury consultation document, last summer 95% of building society accounts and 96% of bank accounts held deposits of £35,000 or less, while 97% and 98% respectively held deposits of £50,000 or less.

If those figures are unchanged, around 3.5 million accounts which were not completely protected under the old limit are now 100% guaranteed which equates to nearly 40% of all the money held in UK savings accounts.

• How does this fit with the Irish savings guarantee?

UK savers with Ireland's six biggest banks, including those with Post Office savings accounts, do not have to worry about the protection limits that apply to banks and building societies in this country. You will have 100% of your deposits protected under the guarantee announced earlier this week by the Irish government.

• What if my mortgage and savings are with the same bank?

Your deposits are offset against your outstanding borrowing and you only get back anything that is left after this has been done. So if you hold £30,000 in a savings account and have an outstanding mortgage of £200,000 when your bank fails, instead of getting any money back you would see your mortgage debt reduced to £270,000. The FSA is consulting on whether your mortgage and savings should be dealt with separately, but in the meantime you might want to move your savings to another provider.

• What else is changing?

Nothing right now but the FSA is looking at ways to improve the scheme and to make payouts quicker. Currently, if you have a large amount of money in an account on a temporary basis (say, from a house sale) you only have £50,000 covered.

• Unlimited guarantees?

Because of the move by Ireland and other European countries, its no surprise that 40% of savers here in the UK want unlimited guarantees for our money says money website Fool.co.uk. The raising of the UK compensation scheme to £50,000 may not be enough.

41% of us would switch to an Irish bank and further evidence that many of us are preparing to switch can be seen from the number of new Irish bank accounts opened through the Fool.co.uk savings centre. Out of 19 savings accounts offered on the website, Anglo Irish Bank accounted for 41% new accounts opened.

The threatened flow of money into Irish banks suggests that the raising of the UK compensation scheme may not convince many of us. The current scheme is unnecessarily complicated as it restricts compensation to a banking license. So, different brands under one license are only covered once.

David Kuo, Head of Personal Finance at Fool.co.uk, says:

“The decision by the Irish Government to give its domestic banks complete backing is the least that any government should do to assure savers. The UK Government should follow suit.

“Interestingly, Anglo Irish Bank is not even a top interest payer. So, it seems that savers appreciate the relationship between risk and reward, and top rates may indicate where your money may be most at risk.

“In today’s troubled markets, savers are not too bothered about full returns on their savings but that their savings are returned in full when they want.”

Some information © www.fool.co.uk 2008

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