UK councils hit by Icelandic storm

LONDON (Reuters) - The British government on Thursday said it will help local councils who have short term cash-flow problems as a result of investments in failed Icelandic banks but did not offer councils the same guarantee as retail savers.

The Local Government Association (LGA) said that 108 councils have 799 million pounds deposited in Icelandic banks.

After a meeting with the LGA, the government said most councils had enough cash to fund services but "a small number of authorities may have specific problems."

"We will judge what's appropriate on a case by case basis but in previous situations support has included helping local authorities restructure their financial priorities, providing additional expertise and capitalization of expenditure," the government and LGA said in a joint statement.

Both sides agreed that there was no evidence of reckless investment by local authorities, adding that Treasury advice on balancing security of investments and returns "appears to have been adhered to."

The LGA had asked the government to give councils the same guarantee extended to retail savers. However, it said it was confident councils have enough money in contingency funds for front-line services to remain unaffected.

An LGA spokesman said: "We (councils) have been following government advice, we have put money in a bank that only a few months ago had a very high credit rating. We believe the government should help us out in this situation."

"It's absolutely impossible for treasurers in councils, just as bankers in Wall Street or in the City of London to know the storm that was about to hit the global banking system in the last month or two."

RISKS WERE SPREAD

British local authorities with money in failed Icelandic were protected by rules preventing them from investing a high proportion of their cash with any one institution, but some may have to draw on contingency funds.

Transport for London, which has 40 million pounds ($69 million) in Kaupthing KAUP.IC, the latest Icelandic casualty, said the amount "is a significant figure, but needs to be set in context against TfL's total annual budget of 7 billion pounds."

"Clearly we need to see what we can do to resolve this situation but it's not going to have an impact on day-to-day services," said a spokesman for TfL, which runs the capitals' buses and underground trains, and is, by law, a local authority.

Kent County Council, whose 50 million pounds investment with three Icelandic banks is among the largest announced so far, said: "It's a large amount of money but (the council) has a gross revenue budget of 2.2 billion pounds and a capital budget of 400 million pounds. So, proportionately it's not that large."

Rhondda Council, in south Wales, said it had 3 million pounds on deposit with Icelandic banks, but it would be able to maintain services without access to the cash.

Regulations governing what councils can do with cash were tightened up after they nearly lost hundreds of millions of pounds in the 1980s by investing in interest rate swaps.

Many local authorities made money in the 1980s when they agreed to pay banks' floating rate interest and receive fixed payments -- an interest rate swap.

Interest rates fell and banks paid out.

But when British interest rates rose sharply at the end of the 1980s, many councils faced huge losses.

However, a flagship case involving the London Borough of Hammersmith and Fulham led to a court ruling that declared the swaps contracts to be ultra vires, or outside the council's powers.

About 80 international banks were estimated to have lost 600 million pounds as a result of the court case.

While the British government has not given a guarantee that the councils' money is safe, a spokesman for Prime Minister Gordon Brown said on Thursday: "As the Treasury have been making clear we do stand ready to discuss this particular issue with local authorities to see if we can find a way through."

(Additional reporting by Frank Prenesti; editing by Elaine Hardcastle)