GORDON BROWN dramatically resigned as Labour’s leader yesterday, in an audacious bid to strike a deal with the Liberal Democrats – and keep the Tories out of office.

The Prime Minister announced he would remain in No.10 to try to lead the formation of a “progressive coalition” with Nick Clegg’s party, but make way by September.

The startling move came as official talks began to secure a Lib-Lab deal, after negotiations between the Conservatives and Lib-Dems hit serious trouble on their third day.

Many of Mr Clegg’s MPs reacted with horror when told the details of the proposed Con-Lib deal, raising objections over tax, education funding and – above all – the failure to offer a referendum on voting reform.

In falling on his sword, Mr Brown removed the biggest obstacle to an agreement with the Lib-Dems, a deal that would offer Cabinet places to Mr Clegg, Vince Cable and others.

Mr Brown said Lib-Dem leader Nick Clegg had formally asked to open negotiations with Labour yesterday on a possible deal on the formation of a new government.

It raises the extraordinary prospect of a second successive Prime Minister who did not lead his party to victory at a general election – and one who did not feature in the TV election debates.

The favourites are Foreign Secretary David Miliband, Children’s Secretary Ed Balls and – if he is willing to go head-to-head with his brother – Energy Secretary Ed Miliband.

Merseyside-born Health Secretary Andy Burnham has been mentioned in some quarters as a possible “compromise” candidate but remains an outsider at this stage.

Last night, possibly significantly, Mr Clegg’s reaction to Mr Brown’s announcement was positive.

He described his resignation as a “very difficult” decision, adding: “I think he has taken it in the national interest.

“I think his announcement could be an important element in a smooth transition towards a stable government that people deserve.”

However, Mr Clegg stressed that talks would continue with the Conservatives, suggesting a new government – of whatever colour – is unlikely to be formed for several days.

Meanwhile, in a screeching U-turn, the Conservatives finally offered the Lib- Dems a referendum on the “alternative vote” (AV) system, matching Labour’s manifesto pledge.

The move, announced to a meeting of Conservative MPs, was immediately seen as a panic measure to try to get the Con-Lib talks back on track.

Emerging from the meeting, Shadow Foreign Secretary William Hague urged the Lib-Dems to recognise that a deal with Labour would be “unacceptable to the people of this country”.

He said: “The choice now before the Liberal Democrats is whether to go in with the Labour party in a government that would not be stable or secure, because it would rely on minor parties for any majority at all.”

AV allows voters to rank candidates, with the second choices of defeated candidates redistributed until one candidate has 50%, but is not a proportional system. But early reports from the Lib-Dem camp suggested the offer would not be enough to break the deadlock, because of the party’s concerns about tax and education.

Yesterday’s drama makes it possible that Mr Cameron will seek to lead a minority government – although his party is 20 seats short of a Commons majority.