The wine merchant and retailer, who supplies the majority of Scotland's Michelin-starred restaurants and launched the company when he was just 22 – has struggled through two previous economic downturns to create a firm with a £2 million turnover.

But now his financial backer, Royal Bank of Scotland, has increased the interest rate on his business loan from 6 per cent to 8.5 per cent – a move which the entrepreneur says may force him to axe staff for the first time in the 26-year history of his business.

And business leaders have warned that Vannon's Villeneuve Wines is just one of thousands of companies across Scotland that are being crippled by increased bank charges – at a time when firms are already struggling to survive the credit crunch.

Mr Vannon's troubles come as Lord Mandelson, the Business Secretary, warned banks that co-operating with small businesses was a condition of the government's £37 billion bail-out, with a new forum set up to ensure such firms are not denied crucial funds from lenders. The emergency cash will see the government essentially take control of chunks of Britain's major banks – including an expected 60 per cent share in RBS.

And increased fears of recession make financial support even more crucial for small businesses.

Those fears were fuelled by data released yesterday that showed the UK economy shrank for the first time in 16 years between June and September, by a worse than expected 0.5 per cent.

Small businesses, which make up 99 per cent of the 280,000 firms in Scotland, have been hard hit by the credit crunch, facing delays in payments from customers and a drop in trade as consumer confidence deteriorates.

The sector, which employs 1.9 million people north of the Border, is a critical part of Scotland's economy.

In the Highlands yesterday, the financial crisis was blamed for the scrapping of plans to build a £1 billion paper, pulp and energy plant on the site of the former Invergordon aluminium smelter.

The development was announced four years ago by Forscot, a Scots-Scandinavian consortium, which hoped to have it running within five years, creating 3,000 jobs during construction, with a further 500 full-time posts once built.

But the company said yesterday it had decided not to proceed further with its plans due to lack of funding and the unlikely possibility of attracting investment in the current economic climate.

Banks have claimed that the loan rate hikes are necessary to pass on increases in the cost of borrowing to their customers – but business groups hit back, saying it is now more important than ever for companies to feel the support of their financial backers.

Mr Vannon said he was stunned to be told last week that he would be charged 4 per cent above base rate on his £135,000 business loan – up from the 1.5 per cent agreed in the original terms of the loan.

His firm, which operates three retail outlets in Edinburgh, Peebles and Haddington, previously banked with HBOS, but agreed a new 15-year loan with RBS four years ago.

The businessman yesterday told The Scotsman:

"The government is supposed to be encouraging the banks to help businesses, but this is the worst treatment I have had from a financial institution in the past 26 years. I've got 15 staff here who have mortgages and bills to pay and there's a chance I might have to make cuts eventually if I can't get this situation rectified."

He said his loan was secured against property worth more than three times the value of the debt. "Nothing has changed in the business – our retail turnover is down slightly, but the supply arm, to hotels and restaurants, is up because we had expected things to slow down and made a real push to get new contracts," he said.

"When I phoned the bank, they said it was nothing to do with the credit crunch. They just considered us a higher risk business than before.

"But we're no higher risk than any other business at the moment. We have never defaulted on a payment in the whole time we've been in business."

He first felt the impact of changes to RBS charges when the bank told him last year it was to raise his overdraft fees.

"We just couldn't do it – we had to make the decision to operate without an overdraft and we have done since September," said Mr Vannon.

"They wanted to raise our rates from 1.75 per cent above base rate to 5.5 per cent, plus charge us £500 for the privilege. It was a joke but at least they did discuss it with us; this time there was no discussion."

He added: "We have a strong trading history which the bank can clearly see. If we were a high-risk start-up company with no security, then fair enough. But it is difficult enough for small businesses just now without our banks making it worse."

Colin Borland, public affairs manager at the Federation of Small Businesses Scotland, said banks were increasingly upping charges and rates in a bid to claw back money in the crunch.

He said: "This is happening more and more and the businesses are powerless. There is a big disparity between what power a small businessman has and that of a bank. It needs to be made clear to the banks that the rules of the game have changed."

He said one FSB member had been told by a Scottish bank that his overdraft – currently charged at 2.5 per cent above base rate – would increase to 6.95 per cent above base rate.

"This 'renegotiation' as it is so inaccurately called is going on an awful lot. It is about as close to bank robbery as you can get."

SNP MSP Alex Neil said: "This kind of thing will have a very damaging impact on Scotland's economy. Given that the banks are now living off the back of the taxpayer, both in terms of investment and liquidity, they should show some support in return."

A spokesman for RBS, which holds around 25 per cent of accounts belonging to Scotland's small businesses, said last night: "On a general point of principle, we price debt in a manner that is reflective of the risk involved in each transaction and, as such, we judge each case on its individual merits."

'The day the recession became real' – economy shrinks for first time in 16 years

UK SHARES went into a tailspin and sterling plunged yesterday as figures revealed the UK's economy had shrunk for the first time since just before Black Wednesday 16 years ago.

The FTSE 100 index plummeted 9 per cent at one stage, as it emerged that the economy had contracted by 0.5 per cent between July and September, which was worse than the 0.2 per cent that had been expected,

figures from the Office for National Statistics (ONS) showed.

The news triggered calls for interest rate cuts, with the Bank of England's Monetary Policy Committee (MPC) being urged to slash the base rate by half a point at its meeting next week.

Howard Archer, an economist with analysis group Global Insight, said he expected the MPC to cut rates to 4 per cent next month and to 2.5 per cent or lower in 2009.

Following the announcement of the figures, David Cameron, the Conservative Party leader, said: "This is the day the recession became real. We have had ten years of a government saying no more boom and bust.

"We have had ten years of a government not putting aside money for a rainy day. Well, that rainy day has now come."

Nick Clegg, the Liberal Democrat leader, warned that the country could be on the verge of a new "winter of discontent".

Speaking from his home in Fife yesterday, Gordon Brown, the Prime Minister,

said: "This is a global financial recession and we're fighting it every way we know how, working with other countries, trying to get the banks moving here in Britain, trying to help people with mortgages, at the same time increasing the winter allowance for pensioners, the tax cut of £120 going to basic-rate taxpayers.

"We're fighting this recession but we need other countries to work with us." Alistair Darling, the Chancellor, admitted the public faced "difficult months ahead".

Andrew Sentance, an MPC member, said the risk of a "deep and severe recession" had increased.

The ONS data confirmed the UK's biggest decline since the fourth quarter of 1990.

The UK economy is not technically in recession until it shows two quarters of negative growth – but this is a highly likely scenario for the final three months of this year, with output in manufacturing and the retail sector plunging.

As the gloomy data was released, the pound dipped to a six-year low against the US dollar and oil and other commodities tumbled on fears of plummeting demand that will accompany a global economic slowdown.

Across the world, markets were sent into turmoil. Japan's Nikkei index slid almost 10 per cent overnight. The FTSE recovered from its earlier losses but still closed down 5 per cent at 3,883.40.

In New York, the Dow Jones Industrial Average plummeted almost 500 points in the first few minutes of trading and remained negative, ending the day down 312.30 points – or 3.59 per cent – at 8,378.95.

The crisis also prompted further US government intervention with officials preparing to announce that 20 more banks will receive capital injections.

Gerri Peev

Q&A

The British economy is today expected to have shrunk for the first time in 16 years. Here are the answers to some common questions about what this means:

What is meant by the economy shrinking?

This means there has been a reduction in Britain's gross domestic product (GDP) during the quarter between July and August. The last time this happened was in 1992. GDP is a measure of the total flow of goods and services produced over a specified time period.

Does this mean Britain is in recession?

Not yet, but it looks likely that it is heading that way. Britain will be classed as being in a recession if the next round of quarterly figures, which will be released in January, show further contraction of the economy.

Two successive quarters of negative growth are required for the economy to be in recession.

Why has this happened?

Economic growth has been slowing for much of this year because the credit crunch has made everyone tighten their belts. The second quarter ground to a halt for the first time in 16 years, and subsequent data has pointed to a further slowdown.

Why was nothing done to stop this?

There is no simple solution.

The Government's £50 billion rescue package for the banks should make it easier to borrow money as confidence returns, but it will take time for people to save the larger deposits now being demanded for mortgages.

The Bank of England trimmed interest rates to 4.5% earlier this month to try to help growth but has to balance that with its desire to manage inflation.

The last time we faced the prospect of a slump…

PRETTY Woman was queen, Vanilla Ice was king and Thatcher was dethroned – such was Britain at the start of the last recession.

Those hardest hit by the recession in the early 1990s will remember the pain the downturn caused, at a time culturally defined by films such as Edward Scissorhands and Home Alone.

Sinead O'Connor, the Happy Mondays and Primal Scream were in the charts with Twin Peaks and Baywatch on TV.

Mr Bean, One Foot In The Grave and The Simpsons debuted on television in 1990 and a few months later the world first heard from the Three Tenors at the World Cup.

In 1990 the first Gulf war started after Iraq invaded Kuwait, which was liberated by UK and US forces. Elsewhere in the world, East and West Germany reunited and Nelson Mandela was released from prison.

The poll tax was introduced in England and Wales, prompting demonstrations. In late 1990, signs of a bursting housing bubble began to show, with property prices having previously peaked at 4.5 times people's salaries.

Interest rates were even higher as the UK's GDP dipped into negative growth by the third quarter.

The then Chancellor, Norman Lamont, told Parliament on 5 December, 1990 that the UK was entering a recession, just a week after Margaret Thatcher left 10 Downing Street for the last time.

Vanilla Ice's Ice, Ice, Baby lasted at the top of the charts for three weeks. The economic freeze took longer to melt away.