Just months after a banking collapse forced an 85 billion euro ($120 billion) rescue package for the country, the Irish central bank is expected to announce on Thursday that the latest round of stress testing shows that the nation’s banks may need 13 billion euros to cover bad real estate debt. On top of the 10 billion euros already granted by Europe and the International Monetary Fund for the banks, that would bring the total bill for Ireland’s banking bust to about 70 billion euros, or more than $98 billion.

Some specialists say the final tally could be closer to $140 billion, an extraordinary amount for a country whose annual output is $241 billion. Trading in shares of Irish Life and Permanent, the only domestic bank to have avoided a state bailout, was suspended Wednesday after reports that it might have to seek government aid as well.

Dermot O’Leary, chief economist for Goodbody Stockbrokers in Dublin, says that Ireland can no longer afford to shoulder the still-growing burden of its banks. The nation’s interest payments are set to rise to 13 percent of government revenue by 2012 — a figure that trails only Greece’s 18 percent, Mr. O’Leary wrote in perhaps the most definitive report to date on Ireland’s financial ills.

“The Irish stress tests will be an important call to arms that shows that it cannot keep putting up the cost for recapitalizing its banks,” he said. “You need burden-sharing with the bondholders. Without that, the debt becomes unsustainable.”

Many proposals have been put forward to deal with the issue, including requiring bondholders to share in losses, as Mr. O’Leary and the new Irish government suggest, and a United States-style stress test with teeth, which would name and shame front-line banks and require them to raise capital.

But European governments have stuck to their position that such measures would further fuel investor fears, rather than calm them.

The second stress test of European banks now under way is beginning to be regarded as too weak, much as the first one was. In the meantime, the condition of the banks is worsening.

In Spain, which is having a brutal housing bust like Ireland’s, fresh data shows that problem loans are growing at their fastest level in a year.

And Portuguese and Greek banks, with their Irish counterparts, have become dependent on short-term financing from the European Central Bank for their survival as their economies deteriorate and doubts increase about their ability to repay their debts.

“Europe hesitates to deal with the banking problem for two reasons,” said Daniel Gros, the director for the Center for European Policy Studies in Brussels.

“Our policy makers saw Lehman and want to avoid a repeat of the experience at any cost,” he said, referring to the collapse of Lehman Brothers in September 2008. “And the weak banks in Germany and elsewhere are too politically connected to fail.”

Irish taxpayers have been left responsible since the government guaranteed all the liabilities of its banks two years ago.

The European Central Bank and the International Monetary Fund have refused to accept the notion that investors who bought the bonds of Irish banks, in effect financing their reckless lending, should share the pain with some loss on their holdings.

But a newly elected government has become more vocal in arguing that $29 billion in unsecured senior debt — which is not tied to an asset and as a result is deemed riskier from the start — is ripe for restructuring because the banks that issued it, like Anglo Irish, have essentially failed and been taken over by the government.

So the government should not be obligated to keep paying interest.

It is not clear who owns the senior Irish debt; analysts guess it is a mix of European banks and bargain-hunting hedge funds.

What is clear is Europe’s opposition to imposing reductions in the value of these bonds, often called haircuts. That view was reaffirmed this week when a central bank board member, Jürgen Stark of Germany, described such a move as populist and one that could feed a wider investor panic.

Should investors respond by driving down the value of government bonds from the weaker euro zone economies, the pain would most likely be felt by all. The Continent’s big banks in particular would suffer because many have large piles of sovereign debt, which has yet to be marked down to its market value.

According to Goldman Sachs, European banks hold $270 billion in Greek, Irish and Portuguese bonds.

Greek banks are the most exposed, with $87 billion, mostly in Greek debt, but German banks hold $62 billion in total and French banks $26 billion. Hypo Real Estate, a commercial lender now wholly owned by the German government, is the largest holder of Irish sovereign debt, with $14.5 billion.

With bank lending growth negligible and capital levels thin, especially in the weaker euro zone economies, a fresh round of write-offs is the last thing governments want.

The problem is compounded because banks account for a much larger share of national economies in Europe than they do in the United States.

In Ireland, bank assets are 2.5 times the size of its economy. A recent review of the European banking sector by Morgan Stanley shows that the rest of Europe is also heavily reliant on the health of its banks.

The five largest banks in Britain are 3.5 times the size of the country’s economy, 4.4 times in the Netherlands, 3.25 times in France and two times in Spain. In Germany, the figure is 1.5 times gross domestic product, but that excludes the biggest, Deutsche Bank, which is mainly an investment bank. (The comparable figure for the United States is 60 percent of economic output.)

Spain has managed to separate itself from the malaise surrounding Portugal and others this year by undertaking some aggressive deficit cuts.

But, according to a report this week by Marcello Zanardo, an analyst in London for Sanford C. Bernstein Company, Spain’s problem loans rose 3.3 percent in January from December, the biggest increase in a year. That brought its bad loans to a 17-year high of 6.06 percent of its portfolio. Nonperforming loans jumped 48 percent in 2009 and 15 percent last year, Mr. Zanardo’s data show, driven by the continuing weakness in Spanish home prices.

While Spanish banks are not in as bad shape as their Irish peers, the government has not yet convinced investors that it has addressed the problem despite steps to force local savings banks to raise capital.

Veterans of the three-and-a-half-year bank crisis in Ireland say that the hardest part is accepting how bad things really are, then taking definitive action.

“We need to accept once and for all that Ireland has 100 billion euros in irrecoverable bank loans,” said Peter Matthews, a financial consultant and recently elected member of Parliament who has long argued that Ireland and Europe are underestimating the scope of the country’s debt problem. “People do not relish a write-down but it is the right way to deal with this.”

Article source: http://www.nytimes.com/2011/03/31/business/global/31bank.html?partner=rss&emc=rss