Irish Eyes Aren't Smiling

Once described as the "Celtic Tiger" for its remarkable record of economic growth during the 1990s, Ireland today has entered an era of financial fear that, in the words of an editorial in the Irish Times, has descended with the "suddenness of a Titanic-style shipwreck".

Irish Economy Set To Make A Hard Landing
After experiencing a boom that transformed it from one of Europe's poorest to one of its wealthiest countries, Ireland must now brace for a hard economic landing in 2009, with GDP expected to contract by 4%. Some have suggested that the only difference between Ireland and Europe's economic basket case, Iceland, is a single letter in the name. However, by being part of the euro currency block, Ireland has managed to avoid the disastrous currency run that did so much to bring Iceland down.

Banking Crisis Forces Government's Hand
Still, there are enough problems on the Emerald Isle to keep Irish Eyes from smiling for quite some time. Top of the list is the precarious state of the Irish banking system. Last September, the Irish government took the unprecedented step of extending a government-backed guarantee to all deposits held in Irish banks. The move was intended to restore depositor confidence, thus avoiding a possible run on the banks. Now the Irish government has had to step in and fully nationalize Anglo Irish-Bank, which it regards as being of "systemic" importance to Ireland. It remains unclear whether Ireland's other struggling banks, Allied Irish (NYSE:AIB) and Bank of Ireland (NYSE:IRE), would also be up for nationalization. (To learn more about other banks that governments have had to save, be sure to read The 2007-08 Financial Crisis In Review.)

Roots Of Problem In Housing
As is the case on this side of the "Pond", the roots of the Irish banking problem stem from the dramatic collapse of housing prices. Only in Ireland, the problem seems to be dramatically worse. Since peaking in 2006, average prices have dropped about 25%, with some hard-hit parts of Dublin reporting values off as much as 40-50%. During the last months of 2008, the rate of decline in the national average price accelerated further with prices dropping another 5.8%. All this has prompted one leading Irish economist to predict that from peak to trough, Irish home prices could decline by as much as 80%.

The Bottom Line
Ireland's move to nationalize one of its largest banks could well be the precedent that the U.S. government may eventually be forced to follow. Despite billions of dollars of TARP money and various other guarantees and support schemes, there seems to be no end to the ongoing struggle for survival for big banks like Citigroup (NYSE:C) and Bank of America (NYSE:BAC).

TARP is the government's attempt to forestall a deep and extended recession. Will it work? To learn more, read Liquidity And Toxicity: Will TARP Fix The Financial System?