Andrew Haldane, an executive director at the Bank of England, has warned that banks will face higher financing costs in 2012, making it even harder for them to lend. Falling confidence in the banking system means banks will need more collateral to raise finance in the bond markets, and the result is they will be less willing to extend credit to customers and businesses.

But the truth is that banks are already not lending. They haven't been for years. It's time we looked at new ways to unlock finance for households and small businesses, which is why this week, the New Economics Foundation (Nef) and a host of other organisations from the Federation of Small Businesses to Metrobank will be contributing to a conference to discuss how to create a local banking system in the UK.

The failure of banks to lend since the credit crunch is no secret. The availability of credit to non-financial firms has fallen by about 4% year-on-year to £23.3bn, while net lending to small and medium-sized enterprises (SMEs) is down 3.3%.

Government policies, focused on nudging the big banks into lending with tax incentives and underwriting debt have failed. From Labour's enterprise finance guarantee, which now pays out 40% fewer loans than it did a year ago, to Project Merlin, which Citigroup analysts recently found had had no effect on the underlying reality of lending.

And with the chancellor's autumn statement announcing further plans for credit easing under the national loan guarantee scheme, we are handing even more subsidies to banks with no assurance the benefit will flow through to the high street.

The government has failed to grasp that when it comes to retail lending, the big banks are no longer fit for purpose. What we need is a local banking system, where banks focus on the real economy – the needs of individuals and SMEs – and not financing Canadian tar sands, or speculating in financial markets and commercial property.

Local banking works. The experience of other countries that have thriving local banking sectors, including the US, Germany and Switzerland, has demonstrated that smaller, locally focused institutions are the ones that provide economic resilience.

Germany in particular provides an excellent case study of a different way of doing things. Once considered plodding and underperforming compared with swashbuckling British banks led by the likes of Fred Goodwin, the humble German savings banks, or sparkassen, have been quietly showing their mettle since the financial crisis began.

There are 430 of these banks, each of which is focused on serving its local area. They are public interest institutions with explicit social as well as economic objectives. They are prudently managed, but also will back new business ventures and stay with customers for the long term. Lending decisions are not made by computers, or sent to some remote regional office. Your branch manager has the authority to back his or her judgment.

They overcome the disadvantages faced by smaller banks by acting as a group, providing mutual insurance and pooling certain financial services, such as leasing and factoring. Their combined balance sheet is over a trillion euros, and they have more than 15,600 branches and 248,000 employees.

The system is not without its problems, and it would also be surprising if even the prudent sparkassen were to escape unscathed from the dire global economic situation, but German banks have maintained lending and made steady profits while UK lending has continued to decline. The UK simply does not have institutions like these and we suffer for it.

The government owns great swaths of our financial system. Instead of going cap in hand to the big banks for credit, why not use our 83% stake in RBS to develop a local banking system? Separating the retail and investment arms, the former could be broken up to provide a local bank for every city and county, backed up by a central wholesale bank and pooled provision of specialist financial products.

Small businesses, banks and a range of banking experts will meet tomorrow to discuss whether there is a missing tier in British banking and how we can create it. We will be joined by representatives from the sparkassen, as well as other countries with local banking systems. It's time the government came to the table too.