Billions of pounds are expected to flood into the government-backed National Savings and Investments (NS&I) after it launched a deal for savers guaranteeing to beat inflation. But the move led to protests from banks and building societies about unfair competition.

The new five-year savings bonds will pay interest based on the retail prices index – currently 5.3% – plus an average of 0.5%. Interest paid will be tax-free, making the deal extremely attractive to higher-rate taxpayers and putting the deal at the top of the best buy tables.

Savers will be able to deposit up to 15,000, with children over the age of seven also allowed to open an account. The money is supposed to be held in the bond for five years but, if inflation falls, savers can withdraw their cash after one year and still pick up the RPI interest rate plus a small bonus.

NS&I, once a staid government departmentbest known for premium bonds, found itself facing huge inflows during the credit crunch as savers rushed to find safer homes for their money. Last July it shut the doors to its inflation-proof bonds due to excessive demands.

But in the budget George Osborne gave the go-ahead for NS&I to increase the net amount it could raise by 2bn.

Saga, the company that targets older consumers, welcomed the return of the bonds, saying inflation had eroded the incomes of many older people. Ros Altmann, director general of Saga, said: The latest inflation figures show retail prices rising at over 5% and we expect even worse numbers to come. Inflation is a nightmare for Britain’s older citizens, many of whom are living on fixed incomes.

Having bought level annuities, or having saved and expected to live on the income from their savings, they now find they are being hit by the rising costs of living.

But banks and building societies fear a flood of withdrawals as savers switch to NS&I. Adrian Coles, director general of the Building Societies Association, said: The impact on those private sector institutions seeking to raise funds to lend to first-time buyers and other mortgage borrowers should not be underestimated.

A spokesman for Nationwide Building Society added: As a government-backed organisation, NS&I has the advantage of being able to offer products tax-free, which obviously other providers cannot. This has the potential to distort the market and is a matter of concern.

NS&I is anticipating huge demand, not least because few other providers offer anything that will match or beat inflation. To match this product, higher-rate taxpayers – those earning more than 42,000 – would have to find a taxed savings account paying 7.5%, if RPI stayed at 4% over the next five years.

This week, the governor of the Bank of England, Mervyn King, warned that inflation is likely to rise even further in the next two years. Higher home energy bills and the continued VAT fallout would push inflation upwards, he said.

Jane Platt, NS&I’s chief executive, said: Our aim is to keep savings certificates on sale for a sustained period of time and to enable as many savers as possible who wish to invest to do so. With this in mind we will be offering a five-year term, only available direct from NS&I. We understand fully that we will see very high demand for index-linked savings certificates.

The deal

The new NS&I five-year, index-linked certificates guarantee your savings will rise in line with the cost of living. The rate payable rises and falls in line with inflation over the five-year term. Currently RPI is 5.3%, giving a payment of about 5.55% in the first year.

If RPI stays at 4% for the whole five-year period, basic rate taxpayers would earn the equivalent of 5.6% interest, compared with a taxed savings account. Higher-rate taxpayers would earn the equivalent of 7.5%. Those in the highest tax band (who pay 50% tax on earnings over 150,000) would earn the equivalent of 9% interest.

You can bail out before the five years are up. The certificates pay RPI+0.25% at the end of the first year and RPI+0.35% on the second anniversary, reaching RPI+0.86% at the end of the fifth year. You have to keep them for the first year, but could leave at the end of the third or fourth, if RPI fell fast. The best alternative is Birmingham Midshires’ five-year, fixed-rate bond paying 5.05%, but interest is taxable.