Cyprus is examining an overhaul of its banking sector to avoid financial meltdown.

It comes as Cyprus' second largest bank has stopped customers withdrawing more than 260 euro a day from cash machines, as MPs try to reach a deal to save the country's economy.

The announcement came as the central bank said it had proposed a restructuring of the heavily indebted banking sector, including measures to prevent the Popular Bank, or Laika, going bankrupt.

"This consolidation process will prevent the risk of bank failures and protect in their entirety all insured deposits up to the amount of 100,000 euros," central bank governor Panicos Demetriades said.

"It also creates conditions for the recovery of the banking system and guarantees jobs."

Earlier, as long queues formed as cash machines at Popular Bank branches across the island, the central bank was forced to deny rumours it was to be closed down.

Banks in Cyprus closed their doors last Friday and will remain shut until next Tuesday amid fears that the country's financial crisis could prompt a run on the banks.

However, many customers have begun to fear that the troubled Popular Bank will never re-open.

The European Central Bank has given the Cypriot Government until Monday to find a bailout solution to avoid bankruptcy.