High Street banks 'may need £30bn'

The "worst-case" scenario forecast came as the Bank of England launched its £50 billion financial package to try to counter the credit crunch.

In what is being described as the most generous scheme offered by any central bank since the subprime collapse began last summer, the Bank is preparing to offer to take on at least £50 billion of mortgages from UK lenders' books and swap them for one-year money, which it will offer at very close to base rate. The package is designed to free up liquidity in the money markets, where banks have become reluctant to lend to each other, pushing up the cost of borrowing and cutting back on the number of mortgages they will offer.

But the improvement in liquidity addresses only one of the banks' problems, with regulators making it clear in recent meetings that in return for the Bank of England help, they expect High Street lenders to strengthen their own balance sheets.

Merrill Lynch points out that on one of the most commonly used measures of a bank's balance sheet - core tier one ratio - the UK average (excluding Royal Bank of Scotland) is just 5% while for the continental European banking sector it is 7%. The broker argued that Royal Bank of Scotland's decision to launch a massive rights issue and come clean on its writedowns will put pressure on its rival to do the same.

It said: "We think the level of any possible RBS markdowns, and its core tier one ratio post any equity-raising, will represent a benchmark for the sector, and management teams would have to justify why their asset writedowns and capital ratios differ from this benchmark."

Merrill Lynch calculates that Barclays could face another £6.3 billion of writedowns, HBOS around £3 billion and HSBC £1.3 billion. The broker downgraded its recommendation on Barclays from buy to neutral.