The German government was last night drawing up a multi-billion euro contingency plan to shore up its banking system, which could see the state guarantee interbank lending in the country and inject capital in its largest banks.

The contingency draft, closely modelled on the British initiative announced this week, marks a dramatic political U-turn for Europe's largest economy after Angela Merkel, chancellor, and Peer Steinbrück, finance minister, both ruled out a sector-wide state rescue for banks this week.