Councils with about £1bn ($1.5bn) tied up in Icelandic bank accounts are optimistic about recovering their investments through the winding up of the banks.

Administrators for Heritable Bank, the UK arm of Landsbanki, have signalled that creditors will recover up to 80 per cent of funds, amounting to about £300m. This has given local authorities confidence that they will reclaim the “lion’s share” of investments in other failed Icelandic banks.

But the Conservatives hit out at the “gloss” being put on an unacceptable situation where “local taxpayers will have lost £200m”.

“This will ultimately feed through to higher council tax or less investment in frontline services,” said Caroline Spelman, shadow local government secretary.

As Iceland’s banks teetered on the brink of collapse last October, Alistair Darling, the chancellor, used anti-terrorism legislation to freeze UK assets of Icesave, the UK internet savings bank operated by Landsbanki. The government later promised to compensate private savers, but left local authorities and some charities to pursue their claims as part of Landsbanki’s bankruptcy.

Ms Spelman attacked as “a scandal” the alleged failure of the Financial Services Authority and the Treasury to warn other public bodies of the risks of investing in Iceland.

“Labour ministers must take personal responsibility for this public policy mistake, given they created a flawed regulatory system and said nothing,” said Ms Spelman.

An Audit Commission investigation found that seven local authorities were “negligent” in depositing money in Icelandic banks days before they collapsed, in spite of warnings from credit rating agencies.

In total, 127 local authorities had £953m on deposit when the Icelandic banks went under – just over 3 per cent of the £31bn councils had invested. The Audit Commission invested £10m of its own funds in the banks.

Margaret Eaton, who chairs the Local Government Association, said the first step forward in reclaiming investments would be “a relief to taxpayers”.

“The LGA …is continuing to work flat out to make sure that the council taxpayer is top of the list for repayment,” she said.

● A coalition of green groups has called on Mr Darling to take urgent action to raise money for renewables infrastructure, including creating a green infrastructure bank and launching a system of “green bonds”.

Friends of the Earth and 60 other signatories have written to the chancellor saying there is an urgent need to fill the gap left by the withdrawal of private finance from the sector.

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