ANALYSIS: The Government still hopes it will be able to recapitalise AIB and Bank of Ireland, writes Arthur Beesley

IN THE face of unrestrained pressure on the Irish banking system in the aftermath of the decision to nationalise of Anglo Irish Bank, the Government is clinging to the possibility that it might still be able to recapitalise AIB and Bank of Ireland without taking them into public ownership.

With Ireland Inc badly out of favour internationally, the clear message from the markets is that this position is fast becoming unsustainable.

Even as Bank of Ireland chief Brian Goggin belatedly called it a day and most of Anglo’s remaining directors resigned en masse, the collapse of shares in AIB, Bank of Ireland and Irish Life Permanent (ILP) raises questions about the viability of the Government recapitalisation plan.

As time runs short, attention will immediately turn to the banks’ share performance when markets reopen this morning.

Unknown at this point is the reaction to the latest outburst of turmoil here from US markets, which were closed yesterday for a public holiday.

Although a confluence of severely negative forces at home and abroad lies behind the current volatility, the drastic loss of investor confidence in the Irish banks has considerably narrowed the options available to Taoiseach Brian Cowen and Minister for Finance Brian Lenihan.

Legislation to nationalise Anglo will be rushed through the Oireachtas today as concern intensifies that other institutions might follow.

AIB and Bank of Ireland were to raise €1 billion each from private investors under the Government plan and receive €2 billion each directly from the State in the form of preference shares.

However the abrupt Anglo nationalisation five days ago has prompted fear that the same fate will ultimately befall the other banks, diminishing their prospects of raising new private investment and sending a warning to existing shareholders that they could be wiped out altogether.

There is more. The British government’s new bailout plan for the UK banking system involves the cancellation of plans to take preference shares in Royal Bank of Scotland (RBS), owner of Ulster Bank and First Active.

This decision raised questions among investors in Irish banks as to whether the Government here might follow suit by abandoning its preference share plan, further fuelling fear of a radical dilution in their shareholdings or outright elimination.

Although Government insists it will proceed, a dire trading update yesterday from RBS made reference to further deterioration in the credit environment within its Irish retail and commercial portfolio. This raises questions as to the extent of the slippage in credit quality within the Irish-listed banks, increasing doubt over the valuation of their assets as the economy contracts and the property market collapses.

Yet more pressure on the Irish banks arose from the Government’s inclusion of a clause in the Anglo nationalisation legislation that would have prevented depositors with more than €20 million in the bank if their debts exceeded that sum. The clause has now been dropped.

However, its appearance in the original heads of the Anglo nationalisation Bill prompted concern in the business world that big corporate deposits in other banks would be trapped in the event of their nationalisation. With the loss of significant deposits a factor in the Anglo nationalisation, the Government guarantee over deposit loss in the Irish banking system did not avert the slippage.

While senior banking sources said there was no deposit loss yesterday from the Irish institutions, the Government’s misstep in the Anglo Bill fuelled doubt about its overall approach to the crisis.

The removal of the British ban on the short-selling of financial stocks last Thursday may well have increased pressure on the Irish financials yesterday.

But the scandal over undeclared directors’ loans at Anglo and the failure of the financial regulator to act on information in its possession early last year has badly undermined confidence in the Irish banking system at large, in its weakest moment for many decades.

New European Commission figures indicating that Ireland will have the second-worst performing economy in Europe this year and its forecast that recovery here will be delayed until 2010 serves to underline the pressure on credit quality in the Irish banks and pressure on the public finances.

With the decision of Standard Poor’s to cut Spain’s triple-A credit rating adding to the market’s woes, ratings agencies have warned that Irelands exposure to the banking sector’s bad debts and the shrinking economy could affect its own triple-A rating.

While it is a given that the Opposition parties will seize on all these difficulties when the Anglo legislation is debated today in Leinster House, the Government faces wrenching decisions as to extent of its ultimate involvement in the Irish banking system whenever the current uncertainty finally comes to an end. With the lack of credit now exerting serious pressure on small and medium-sized businesses, its next moves will be indeed be fateful.