Cash-strapped banks may be forced to pay billions of pounds upfront into a compensation scheme for the victims of bank failures under reforms to be proposed by the Government tomorrow.

The proposals, which come in the wake of Northern Rock’s near-collapse last September and have been backed by Mervyn King, the Governor of the Bank of England, will be announced by Alistair Darling in his latest consultation on banking reform.

In the biggest shake-up of banking practices in decades, the consultation will also give further details on the triggers that the Government will use to decide when to take control of a failing bank. The final reforms will be included in the Queen’s Speech and will be implemented next year.

Having undergone their most punishing business quarter in almost 20 years, banks are desperate to avoid further costs. The financial institutions fear the Treasury will demand that they pump billions of pounds into the compensation scheme, to be held until the cash is needed to repay deposits.

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The banks would prefer to pay compensation as and when it is needed. They also want a “sensible” limit on the level of savings covered by the scheme.

Customers are guaranteed to receive back all savings up to £35,000 under the existing compensation scheme, but this could be raised to £50,000 or even higher.

The deposit protection scheme in America has a $50 billion compensation pot, built up over many years, but even this sum would barely cover the £25 billion of deposits held by Northern Rock before savers queued to withdraw their money. About £1,000 billion is held in British bank accounts.

Bankers accused the Government of competing unfairly with the industry. National Savings & Investments (NS&I) will be exempted from the scheme, despite being the UK’s second-biggest provider of savings products and an increasingly aggressive competitor in the savings market.

A source said: “The industry is aggrieved that there’s one rule for the Government and one rule for banks and building societies. People are increasingly resentful about NS&I, which seems to enjoy unfair competitive advantages.”

It is not clear whether Northern Rock, the nationalised bank, will be required to pay into the scheme. If not, rival banks are certain to complain that it has been given another unfair advantage, on top of its government funding. The European Commission is due on Thursday to conclude its investigation into Britain’s decision to take the Rock into public ownership.

Separately, the Chancellor is expected to meet Henry Paulson, the US Treasury Secretary, who is in Britain this week to discuss issues relating to financial stability.

Mr Darling will also announce details of a number of new working groups, including their membership, as part of a reorganisation of the existing high-level group that advises him on business matters. One of the groups will focus on competitiveness.

Richard Lambert, Director-General of the CBI, and other business leaders have criticised Mr Darling for making policy changes that undermined the country’s competitive edge. Other groups will look at rights issues, insurance and long-term savings.

It has been a painful second quarter for the City’s biggest companies, which have not been as pessimistic about their outlook since the start of the last recession in 1990, according to the CBI. A dash by investment banks to fire staff by today could have been driven by the belief that workers are less likely to sue for an unpaid bonus if in the first half of the year.

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