Government is about to invest in a sector under siege from the credit crunch and recession, writes ARTHUR BEESLEY.

DANSKE BANK’S decision to write off the entirety of the goodwill outstanding from its takeover of National Irish Bank (NIB) four years ago underscores the scale of the threat to all Irish lenders from the collapsing property market and rapid economic contraction.

As Minister for Finance Brian Lenihan prepares to inject as much as €8 billion into Allied Irish Banks (AIB) and Bank of Ireland, the manoeuvre starkly illustrates the extent to which the Government will be investing deep in a sector under siege from the combined forces of recession and credit crunch.

Although the loss of tens of thousands of jobs since the start of the year shows that economic tremors are now extracting a terrible toll – with inevitable and far-reaching consequences for the quality of bank lending – NIB has been incurring pretax losses since the second quarter of last year.

This results from a ballooning of NIB’s loan impairment charges, increasing as they did to 1 billion Danish kroner (€134.22 million) in the fourth quarter of the year from DK509 million in the third and DK155 million in the second.

The prime factor here is the bank’s exposure to €3.5 billion in commercial property loans, the weakest lending sector in a badly damaged banking system.

NIB’s total impairment charge for the year represents 2.14 per cent of its total loan book. This is a “realistic but negative view” of likely bad debt losses, says NIB chief executive Andrew Healy.

While it is self-evident that AIB and Bank of Ireland have vastly greater scale in their businesses and greater diversity, the most recent advice to the market from both institutions suggests their impairments will be nowhere near as high as NIB’s.

Yet comparisons between NIB’s position and the big two have a certain validity. NIB’s commercial property loans represent about a third of its total book. As NCB Stockbrokers put it, the construction and property sector accounts for 37 per cent of AIB’s book and 26 per cent of Bank of Ireland’s.

Still, neither of the big two banks has wavered from guidance that their level of impairments will be significantly less than 1 per cent for 2008 (Bank of Ireland’s fiscal year finishes next month).

Yet with their shares on the floor – AIB and Bank of Ireland have each lost more than 90 per cent of their value in the last 12 months – such confidence hasn’t passed muster with the market.

Indeed, expectation that Mr Lenihan may have to double his original commitment to invest €2 billion in each bank flows directly from their failure to win support for a rights issue from private investors and rampant fear of nationalisation following the public rescue of Anglo Irish Bank.

The Government commitment to proceed with recapitalisation has calmed those fears, but it seems very unlikely that there would be any talk of “bad banks” or State insurance if impairments weren’t about to spiral. Mr Lenihan toyed with these ideas, but it seems now that he will tell the banks to fight on with new capital but without recourse to State protection for impairments.

AIB in particular is said to have adopted a very tough attitude in its negotiation with the Government, a stance that is clearly at odds with the explicit weakness of its own position.

Although Taoiseach Brian Cowen has clearly signalled that pay cuts for top managers will accompany recapitalisation, it still remains to be seen whether he and Mr Lenihan will force wider change within the top management and boards of both banks.

When Danske entered the Irish banking market in 2005, the sector was awash with money and making big profits on the back of a speculative property boom it helped to create. Deep in the red, Danske has now “tightened its credit policy for the Irish market considerably and reorganised local credit activities”. Only Mr Lenihan is writing cheques.