A merger between AIB and Bank of Ireland may be necessary to ensure their survival as domestic banks against a backdrop of financial consolidation in the euro zone, the former chairman of the Competition Authority has said.

Writing in the latest edition of the Irish Banking Review, Dr Patrick McNutt says the time may now be right for consideration of such a link-up.

"If the management of the two main Irish banks were to aspire to become a force in Europe as the continent's financial markets consolidate in the merging euro zone, a merger may be the sine qua non of their banks' survival as domestic banks," according to Dr McNutt.

He believes that the presumption that such a merger would run into difficulties on the grounds of dominance is based on "an over reliance on the market shares-market power axis, which is passé in strategic anti-trust analysis".

Instead, he argues that the strategic issue for both bank management and a national competition agency like the Competition Authority is not whether the Republic is the geographic scope of the banks' activities, but whether the EU is now the market for their business. A merger between AIB and Bank of Ireland might have little impact on competition within the EU, he says.

He describes the Irish banking market as "over-banked", with consolidation likely to follow the entry of Bank of Scotland, Royal Bank of Scotland, Rabobank and National Australia Bank.

"It is only a matter of time before the major continental banks move into the Irish retail banking market," Dr McNutt says, drawn by economies of scale, increased market share and the prospect of international expansion.

He also notes that the landscape of retail banking has changed in the past 10 years as internet banking and advances in IT have lowered the barriers to entry.

The boundaries between financial and non-financial institutions are also likely to diminish, with competition from outside the sector likely to intensify.

"The large-scale restructuring of the European banking industry inevitably may require changes in the antitrust approach and in banking regulations," Dr McNutt said.

He called for "an enlightened merger policy", one based on less traditional measures of competitive harm and injury without diluting consumer welfare as a primary goal.

"A merger policy with a focus on innovative competition standards would be a key signal to Irish \ management who intend to respond to the competitiveness challenge by consolidating business activities at home," he said.