Urgent government action is needed to restore the credit insurance market or the economy faces “disastrous” consequences, the boss of a West Midland automotive supply firm has warned.

In a letter to business secretary Lord Mandelson, Mark Ashwell, owner and director of West Bromwich-based Steel & Alloy Holdings, said the drying up of credit insurance - used by companies to cover the risk of customers defaulting on paying - could force otherwise successful businesses to close down.

Mr Ashwell called for swift action from government to address the issue and warned that if help was not forthcoming the lack of credit insurance could “completely destroy the basis of trade as we know it”.

There are signs Mr Ashwell’s call could fall on sympathetic ears as it was reported yesterday that the government is looking at a state guarantee scheme to underpin credit insurance which could be announced in next week’s Budget.

The government will offer guarantees for medium-risk companies which have seen their cover reduced but not withdrawn, it was reported.

Although the scale of the scheme is not yet said to be finalised, it could fall short of the £5 billion called for by industry.

Mr Ashwell said: “Credit insurance plays a fundamental role in supporting the liquidity and confidence that is essential to trade in the UK and globally.

“In the past six months, insurance underwriters have been withdrawing from a large proportion of the automotive sector and from other areas such as retail and construction.”

He warned that automotive supply firms were “backed into a corner” because of the nature of the companies they supply to, such as Jaguar Land Rover and LDV, and the difficulties these vehicle-makers are experiencing.

“Because we are dealing with large multinational companies placing large volume orders, we are simply not able to walk away from supplying these companies because we can’t get credit insurance.

“We are therefore trading with the probability of enormous financial losses when our customers go into administration, and there is nothing that we can do about it.

“We are backed into a corner. Furthermore, if we are not prepared to trade on this new basis we have concluded that we would be better off closing down a successful business employing 200-plus people.

“I know that a large number of other businesses are in the same position.”

Mr Ashwell said that within the automotive industry, where insurance cover has been withdrawn, the majority of suppliers were taking on the entire risk.

But he warned it would take only one or two major failures - such as LDV or Jaguar Land Rover - and confidence would evaporate entirely.

“Without the funding provided by the suppliers, a significant proportion of the liquidity that is fundamental to the whole economy dries up, everything comes to a full stop with calamitous results.”

The issue of credit insurance was highlighted as one of the major problems facing the automotive supply sector at the industry summit organised by the Birmingham Post in January and featured in the ten-point communiqué sent to Lord Mandelson after the event.

Mr Ashwell repeated the communiqué’s call for a domestic version of the Export Credit Guarantee Department, a scheme which ensured UK businesses had the confidence that they would be paid when trading with overseas customers.

He called for the government to take on the role of insurer of last resort and, rather than setting up a whole new system, to work with the commercial insurers on the market and effectively act as a re-insurer for the underwriters.

A similar scheme is in place in France where the state guarantees cover for companies unable to obtain insurance elsewhere.

Mr Ashwell said that in the meantime strong political pressure on the credit insurance industry would be useful.

He said: “Throughout the long period of relative economic prosperity with few business failures, these companies have enjoyed fantastic premium income with minimal downside.

“Yet, as soon as times get tough, they have pulled cover with little or no warning and seemingly no sense of responsibility or business ethics.

“To use a metaphor, they are prepared to hire us an umbrella when the sun shines but as soon as the weather forecast indicates rain they snatch it away while still insisting that we pay the hire charge.

“The insurers may be contractually entitled to behave in this manner, even so there is surely an ethical imperative to consider and certainly their actions pose a severe threat to us all.”