James Daley: We need to be told the banks are safe

It has not been easy being a financial journalist over the past few months. As bad news has followed bad news, newspapers have had a duty to report on it. Yet these endless negative headlines have inevitably continued to erode the fragile public confidence in our banking system, ever increasing the chances that a big bank really might collapse. In spite of all the talk about the banks' capital shortages, a far bigger problem for the financial sector is the short supply of confidence.

If all the newspapers and broadcasters agreed to put out one prominent positive story every day – explaining that people's money is safe with the banks, whatever happens – then the kind of events that unfolded at HBOS this week would never have taken place. The problem is that while this story would almost certainly prove to be true, its validity depends on the assumption that the Government simply won't let a big high street bank fail – a promise that no government will ever explicitly make.

And without that promise, we're forced to entertain the possibility that the worst really could happen.

So when I'm asked to write about whether people's money is safe in bank X or bank Y, I feel obliged to advise them about how to protect against the one in a million chance that their bank really does go under. Don't panic, I say, the Financial Services Compensation Scheme will come to your rescue, guaranteeing to replace the first £35,000 of any deposits.

After that, however, I find myself compelled to point out that, for the moment, there's no guarantee how quickly your money would be returned – it could be weeks or months – so if you need absolute certainty about being able to get access to your savings at short notice, then perhaps you should consider Northern Rock or National Savings & Investments, which are Government-owned.

At first, it's just one or two people who read the article and decide to take extra precautions and move their money. But then on the day the share price of their bank plummets in reaction to some bad news on the other side of the Atlantic, thousands of other people decide to take the extra level of precaution too. Suddenly, a bank that was perfectly stable starts to experience a mini-run, at which point its financial stability is thrown into question. As panic spreads, the Government is forced to either accept the bank's imminent collapse, or engineer a rapid takeover to calm everyone's nerves and restore stability.

I guess this is what they call the butterfly effect – at its destructive worst.

So sadly, HBOS, an organisation with more than 150 years of heritage, finally gave up its independence this week, brought to its knees in just three days due to a bout of irrational panic. The same may yet happen to another major high street name.

Although I understand the Government's reluctance to explicitly say it will stand behind the entire banking sector – as it would create an issue of moral hazard – I think this week's events have shown that this is what the market needs to hear. Banks are so tightly regulated, it seems unlikely that any of them would see this as an excuse to start taking big risks. And the upside would be the restoration of long-term financial stability.