John Redwood warned against nationalising more banks
Conservative MP John Redwood has called for interest rates to be slashed to stave off a long-lasting recession.
If the Bank of England and other central banks did not act, the credit crisis would worsen, warned Mr Redwood.
He told a Tory fringe meeting it would start to have an impact on jobs as banks stopped lending to businesses.
It comes as Tory leader David Cameron pledged to back efforts to deal with the banking crisis saying it was not a time for "political wrangling".
Mr Redwood, a former banker and influential voice on Tory economic policy, made the case for a dramatic cut in interest rates at a Selsdon Group/Freedom Association fringe meeting.
He said: "In the middle part of this decade, they kept interest rates too low, they encouraged the bankers to lend foolishly. Today they are keeping interest rates far too high and they are discouraging anybody from lending anything.
"Please, please, government understand that we are not fighting inflation. That will be nailed next year, there will be no inflation. We are fighting recession. When will our authorities, our central banks realise, that now is the time to do everything in their power to try and limit the downside damage."
He urged European central banks to follow the US Federal Reserve's lead and cut interest rates to 2% or lower to avoid the credit crunch spreading to the wider economy.
"What is going to happen next, the banks in Britain and the banks in Europe are going to have to withdraw lending facilities from small and big businesses alike, they are going to have to cut the amount they are lending to them and they are going to have to put the price up."
Mr Redwood said he had predicted a banking crisis in the Tory policy document he co-authored last year, but he did not think it would be as bad as it has become.
In the report, he criticised the government's decision to hand banking regulation to Financial Services Authority and said it should be handed back to the Bank of England - a call subsequently adopted as party policy.
He urged governments to pull together to tackle the current crisis and "stop playing silly politics" - but he also warned against further nationalisation of banks and said private capital had to be pumped into the system.
"I don't know if there is a perfect solution from here. The central banks got it hopelessly wrong for 10 years. They were too lax in the easy years, too tough in the difficult years. The regulators got it wrong for 10 years. Yes, the bankers and the private sector got it massively wrong for 10 years as well. We are all in this together. It was a huge set of errors that compounded.
There is a massive amount of problematic debt out there and unless they get a grip soon, it's not just going to be a mortgage crisis, it's going to be a corporate lending crisis, it's going to be a general lending crisis, which is going to go right through."