a financial stability perspective on irish banks%e2%80%99 foreign business by allan kearns

8/9/2019 A Financial Stability Perspective on Irish Banks%E2%80%99 Foreign Business by Allan Kearns

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of banks macroeconomic risks between the Irish and

UK markets.

2 Aggregate Statistics

Aggregate statistics from various sources confirm that

the larger Irish credit institutions have significant levels

of foreign business and that this business is mostly

located in the United Kingdom. The focus in this paper

is on the activities of Irish retail banks only and this

excludes the activities of other banks, typically located

in the International Financial Services Centre, whose

focus is predominantly international. There are two

complementary sources of data.

-5

0

5

10

15

20

25

30

35

Non-Irish residents

Irish residents

07Q206050403022001

per cent

Source: CBFSAI

Chart 1: Growth of Irish and Non-Irish Assets

2.1 CBFSAI Prudential Data

The CBFSAIs prudential consolidated3 data indicate that

retail banks, and specifically the larger banks, have

significant shares of their assets and liabilities outstanding

vis-a-vis non-residents. While there has been much

commentary on the robust growth in banks assets (i.e.,

lending) to Irish residents in recent years, a lesser-

appreciated fact has been the equally robust growth in

assets to non-residents (e.g., to the private sector and

banks located abroad). Indeed, the annual rate of

increase in non-residents assets has exceeded slightly

the corresponding rate for residents in recent years

(Chart 1). The simple average share of total assets

outstanding with respect to non-residents for all banks,

making no distinction for size, is approximately 30 per

3 Consolidated data are the total value of business conducted from Irish offices as well as business conducted from offices located overseas.

104 Financial Stability Report 2007

cent (Chart 2). However, it is only the larger institutions

that appear to have significant operations, such that

when the individual shares of all banks are weighted by

size to give greater weight to the larger banks, the

average share of non-resident assets is higher (i.e.,

approximately 46 per cent). The significant level of

business with foreign residents appears to be spread

across the balance sheet (Chart 3). For instance,

approximately half of these banks outstanding private-

sector loans, as well as the subset of residential

mortgages, are to non-residents. These shares are equally

significant on the liabilities side of the balance sheet with

approximately half of private-sector deposits, and almost

90 per cent of borrowing from other credit institutions,

owed to depositors outside Ireland. In general, the

current shares of assets and liabilities outstanding to

foreign residents are somewhat lower by comparison

with the period 2000-2001. For instance, almost 70 per

cent of residential mortgages issued by the larger retail

credit institutions were borrowed by non-residents in

2000.

0

10

20

30

40

50

60

Weighted

Simple

06050403022001

per cent

Source: CBFSAINote: Average of sample of eleven banks. The weight used istotal assets.

Chart 2: Average Share of Banks Assets

vis--vis Non-Irish Residents


3/11

Table 1: Foreign Assets of Irish Banks by Country and by Type

Country % share of foreign

exposures of which vis-a-vis:

Banks Public sector Private sector

UK 49.6 57.4 1.3 41.2

USA 10.2 16.2 10.5 73.2

Germany 6.2 31.9 53.1 15.0

France 5.7 80.6 3.5 15.9

Spain 5.0 68.5 2.8 28.7

Austria 2.5 67.8 0.0 32.2

Netherlands 2.4 63.6 5.1 31.3

Note: The share of assets vis-a-vis non-residents does not total to 100 as a selection of other countries with smaller shares has been omitted from the

table. Type refers to whether the counterparty is another credit institution, the public or private sector.

0

10

20

30

40

50

60

70

80

90

100

Non-Irish residents

Irish residents

Deposits

(other banks)

Residential

mortgages

PS depositsLoansAssets

per cent

Source: CBFSAINote: Sub-sample of larger retail banks with significantbalance sheets vis--vis non-residents. Data are an average

Chart 3: Large Banks Balance Sheets vis--visIrish and Non-Residents

The aggregate prudential data indicate that non-resident

business is relatively concentrated in a handful of

countries and, within those countries, is heavily

concentrated in the United Kingdom. This can be

measured by the share of assets according to the

geographical location of the counterparty. The recent

data suggest that the larger retail banks have some assetsoutstanding vis-a-vis counterparties in a large number of

countries but the typical exposure is tiny. The distribution

of the value of foreign business suggests that

counterparties are located in a small number of countries

with the UK accounting for the single largest

concentration (Table 1). The UK accounts for

approximately half of all assets outstanding vis-a-vis non-

residents. The remaining assets are spread across a

number of different countries with the USA accounting

Financial Stability Report 2007 105

for the next largest single share (10 per cent). The banks

activities in the UK are split almost between other banks

and the private sector, with almost 57 per cent of assets

held vis-a-vis banks.

0

10

20

30

40

50

60

70

80

90

100

MFI loansPrivate-sector deposits

Residential mortgagesPrivate-sector loans

07Q20605040302012000

percentage share of total

Source: CBFSAINote: Sub-sample of larger retail banks with significantbalance sheets vis--vis non-residents.

Chart 4: Time Series of Larger Banks' BalanceSheets vis--vis Non-Residents


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2.2 Retail Banks Annual Accounts

Typically, the banks published annual accounts segment

the accounts by geographical location. One limitation of

these accounts is that they may provide an approximate

estimate only of the geographical location of their

foreign business because their general approach is to

attribute business to the overseas office that has either

recorded the transaction or sourced the business. For

example, a UK office could be recording profits that

were earned in France in addition to profits earned in

the UK. Accordingly, the figures should be interpreted as

a rough proxy of both the importance and geographical

location of foreign business. The advantage of thissource of data is the availability of profits and income

data (whereas the CBFSAI data, outlined earlier, relate to

assets only).

0

10

20

30

40

50

60

IncomeProfits

2002-20061997-20011993-1996

per cent

Source: Banks Annual ReportsNote: Data are proportion of groups profits/income earnedabroad.

Chart 5: Share of Income / Profits EarnedAbroad Time Series

The banks accounts suggest that approximately 40 per

cent of profits and 50 per cent of income have been

earned abroad recently (i.e., 2002-2006).4 The current

shares appear reasonably close to their long-run average

levels, with some slight increase in the share of income

earned overseas evident between the most recent

period and the early-1990s (Chart 5). The majority of

foreign earnings arise now in the UK with approximately

70 per cent of profits and 80 per cent of income

overseas earned through the groups UK offices (Chart

6). The UK has not always been this significant. The

corresponding chart for the early-1990s would have

highlighted the USA as providing a similar share of

4 The annual data have been averaged over a five-year period to smooth out any volatility in the accounting data.


earnings to the UK. For instance, the US offices provided

50 per cent of profits and 40 per cent of the groups

foreign earnings in the mid-1990s (Chart 7). However,

the trend since then has been for the share of foreign

earnings accounted for by the US offices to fall very

significantly following retrenchment by the major banks

in their US activities.

0

10

20

30

40

50

60

70

80

90

100

IncomeProfits

ROWPLUSUK

per cent

Chart 6: Share of Income / Profits EarnedAbroad by Country (2002-2006)

Source: Banks Annual ReportsNote: Data are shares of the groups foreign earnings bycountry over the period 2002-2006.

0

10

20

30

40

50

60

70

80

90

100

IncomeProfits

ROWPLUSUK

per cent

Source: Banks Annual ReportsNote: Data are shares of the groups foreign earnings bycountry over the period 1994-1998.

Chart 7: Share of Income / Profits Earned Abroad

by Country (1994-1998)


5/11

3 Correlation between the UK and IrishEconomic Cycles

At first glance, the larger Irish credit institutions look to

have diversified their macroeconomic risk across

geographical locations because they rely significantly on

foreign business for income and profits. However, the

majority of these foreign earnings are made in one other

e conomy , namel y, the Unite d King dom. I f

macroeconomic conditions in the UK and Ireland were

to be highly correlated, there might be few diversification

benefits for the Irish banks, as they could be faced

with a downturn in their two key markets at the same

time.

3.1 The Theory behind Synchronised Business Cycles

There is a strand of research in the economics literature

that investigates the co-movement or synchronisation of

business cycles (Massmann and Mitchell, 2002; Artis,

2003; Darvas, Rose and Szapary, 2005; Stock and

Watson, 2005; Baxter and Kouparitsas, 2005). Baxter

and Kouparitsas (2005) suggest that while there are

many potential candidate explanations for business cycle

co-movement, there is no consensus on the important

determinants. These authors suggest there are two parts

to understanding why business cycles could be

synchronised. First, a business cycle exists in the first

instance because a shock disturbs the evolution of the

economy along its long run path. Examples of these

shocks are fiscal, monetary, technological, sectoral,

domestic or international. Second, the degree of

synchronisation between two business cycles will

depend on whether the shocks are common to both

countries and/or whether there is a sufficiently large

degree of interconnectedness between both economies,

such that a shock to one economy could be transmitted

to the other. Accordingly, the general approach in the

literature seems to suggest candidate explanations for

co-movement that are either related to the nature of

shocks that can hit two economies contemporaneously,

or are related to the degree of interconnectedness

between two countries.

Most of the key candidate explanations for co-

movement highlighted by previous authors, with one key

exception, would support an expectation that the Irish

and UK business cycles would tend to move in a

synchronised fashion.

5 Baxter and Kouparitsas (2005) note that some authors have argued that bilateral trade need not actually increase co-movement between business

cycles. It is argued that trade leads to greater specialisation in each economy such that if the shocks are primarily sectoral, then trade will lead to

less synchronisation.6 See IDA (2006).


The first explanation is the level of bilateral trade

between the UK and Ireland. Bilateral trade is part of the

transmission mechanism through which shocks from one

country are transmitted to another. The UK still accounts

for a significant, albeit relatively smaller share by

historical comparison, of Irish exports (18 per cent) and

imports (32 per cent) (Chart 8).5 There is also a foreign

direct investment link between the UK and Ireland with

UK companies accounting for approximately 11 per cent

of all firms and almost 6 per cent of all employment in

foreign-owned companies.6

0

10

20

30

40

50

60

70

Exports

Imports

060095908580751972

per cent share

Source: CSO and Author's calculationsNote: Data are per cent shares of imports from and exportsto the UK of all domestic imports or exports.

Chart 8: Irish Bilateral Trade with UK

The second explanatory factor is the openness of both

economies to international shocks such that both

economic cycles could be affected by a common

regional economic shock. Openness is typically

measured as the total combined value of imports and

exports to GDP although there is no commonly

accepted benchmark to grade the degree of openness.

On this measure, the Irish economy is a relatively open

economy with the aggregate value of imports and

exports amounting to almost 150 per cent of GDP (Chart

9). The corresponding value for the UK is 64 per cent.

The comparable estimate for the EU15 countries is 81

per cent and 30 per cent for the USA.


6/11

Table 2: Distribution of Employment across Sectors (2006)

Share of employment by broad sectors Germany Ireland UK

Agriculture, hunting, forestry (A) 2.3 5.6 1.2

Fishing (B) 0.0 0.1 0.1

Mining and quarrying (C) 0.3 0.5 0.4

Manufacturing (D) 22.0 13.3 13.0

Electricity, gas, water (E) 0.9 0.5 0.6

Construction (F) 6.6 13.1 8.0

Whole and retail trade (G) 14.3 14.1 14.7

Hotels and restaurants (H) 3.7 5.8 4.4

Transport, storage and communication (I) 5.6 6.0 6.7

Finance and intermediation (J) 3.5 4.3 4.3

Real estate, renting and business activities (K) 10.1 9.0 11.5

Public administration and defence (L) 7.1 4.9 6.7

Education (M) 5.9 6.7 9.4

Health and social work (N) 11.4 10.0 12.5

Other community activities (O) 5.7 5.0 5.7

Private household with employed persons (P) 0.5 0.4 0.4

Extra territorial organisations (Q) 0.1 0.1 0.0

NEC 0.0 0.6 0.3

All Sectors 100.0 100.0 100.0

Correlation with Ireland 0.87 0.92

Source: OECD structure of industry statistics and authors calculations.

Notes: Sectors are ISIC Rev 3 and letters relate to broad sectors. Both correlations are significant at 1 per cent.

0

20

40

60

80

100

120

140

160

180

200

USEU15

IEUK

0600959085807570651960

per cent of GDP

Source: Eurostat Ameco DatabaseNote: Data are per cent of GDP of the combined value ofimports and exports.

Chart 9: Openness to Global Shocks

The third explanatory factor suggests that similarities in

industrial structure will increase the likelihood of co-

movement in business cycles. It is argued that, in the

event that the main shocks to the economy are sector

specific, then countries with more similar sectoral


structures would tend to have more correlated business

cycles. A similar argument is made with respect to the

type of goods exported and imported by countries. If

countries are trading in similar baskets of goods, thesecountries could expect to be affected similarly by shocks

to the international prices of their import and export

goods. A simple comparison of the distribution of

employment across broad sectors, a proxy for industrial

structure, suggests that the distributions are similar

between Ireland and the UK (Table 2).

A fourth explanatory factor is the state of the public

finances (Darvas et al., 2005). It is suggested that

countries with similar budgetary positions will tend to

have business cycles that fluctuate more closely because

a good fiscal situation reduces the scope for

idiosyncratic fiscal shocks. The data in Charts 10 and 11

suggest that the UKs current public-sector balance and

indebtedness are average by historical comparison. The

public-sector balance is somewhat large by European

standards (about 1.6 per cent) but the UKs level of

indebtedness is below the European average

(approximately 60 per cent). The corresponding data for

Ireland are not only much improved by historical

comparison but appear extremely favourable by

European standards.


7/11

-16

-14

-12

-10

-8

-6

-4

-2

0

2

4

6

Ireland

UK

060095908580751997

per cent of GDP

Source: OECDNote: Difference between the revenue and expenditure ofthe general government sector.

Chart 10: Public-Sector Balance

0

10

20

30

40

50

60

70

80

90

100

Ireland

UK

0600951990

per cent of GDP

Source: OECDNote: Measure as per Maastricht Criterion.

Chart 11: General Government Debt

The final key explanation refers to currency unions. It is

argued that a currency union has the same monetary

policy in the participating countries, and the common

currency can reduce intra-union barriers to trade, as

noted earlier, can increase the co-movement between

member countries. An important factor in current times

in reducing co-movement could be the different

7 The rules applied in this case were similar to those used by the National Bureau of Economic Research (NBER) to date economic cycles, namely,

that phases last at least two quarters and complete cycles (peak to peak or trough to trough) last at least five quarters. The term trough does not

necessarily imply a significant downturn. Under this approach, the level of economic growth could still be reasonably healthy in a trough.


monetary policy regimes in both the UK and Ireland. The

UK authorities set interest rates with respect to local

economic conditions whereas Ireland experiences

interest rates geared to euro-area conditions.

3.2 The Methodology and Results

There are many approaches to estimating the level of

synchronisation between two economic cycles. First,

there is a choice between analysing the turning points in

the cycles, using simple correlation analysis or

multivariate econometric techniques across large panels

of countries. Second, there is a choice between

correlating macroeconomic outcomes (e.g., GDP growth

or growth in industrial production) or correlating shocks

across countries where shocks, for example, are

measured as unexplained movements in GDP. Third, the

indicators are typically filtered to remove the trend

component and obtain the cyclical element and there

are a wide variety of filters. This paper presents the

results of turning-point analysis and correlation analysis

using a variety of macroeconomic indicators that are

important for the health of the banking sector. The data

are filtered using a Hodrick-Prescott filter.

An economic cycle can be characterised by the timing

of its troughs, peaks and length of the intervals in

between. The troughs and peaks in the Irish and UK

cycles were identified using a quarterly series of real

annual GDP growth rates and applying the Bry-Boschan

methodology which identifies turning points in a data

series using a set of rules.7 The dates in Tables 3 and 4

correspond to the troughs and peaks respectively in

each country. The data suggest that the economic cycles

are closely related because it appears that the majority

of troughs and peaks occurred within one to two years

of each other. There are a limited number of exceptions.

For example, one significant exception is the mid- to late-

1980s where there was a trough in the cycle in Ireland

but the UK did not experience a trough until 1991. A

limitation of this turning point methodology is that it

does not distinguish between the depth of the troughs

(or peaks) between both countries. For instance, the rate

of economic growth in the trough of the cycle in 1973

was significantly more severe in the UK; economic

activity declined by 3 .1 per cent in the UK by

comparison with growth of 3.9 per cent in Ireland.


8/11

Table 3: Timing of Troughs in Economic Cycles

Date Location of Trough Real rate of annual GDP growth

Ireland United Kingdom

1973 Both countries 3.9 3.1

1976-1977 Both countries 0.5 1.8



1986-1988 Ireland only 1.1, 5.0

1991-1993 Both countries 1.1, 2.4 2.1





Note: Single year is reported only when the trough was recorded in both countries within that year. A range of two years is reported when the trough

occurred in different years but still relatively close together in both countries. The rate of growth refers to the rate in the particular quarter

identified as the trough. Two growth rates are reported where there were two troughs recorded in a single date band. The Bry-Boschan

methodology has been applied. The data are sourced from the OECD and are quarterly GDP data in constant prices and adjusted for purchasing

power parity.

Table 4: Timing of Peaks in Economic Cycles

Date Location of Peak Real rate of annual GDP growth

Ireland United Kingdom




1981 Ireland only 3.4 1983-1984 Both countries 5.0 4.6


1990-1992 Ireland only 9.5, 3.7

1994-1995 Both countries 10.1 4.9

1997-1998 Both countries 13.5 3.5

1999-2000 Both countries 14.4 4.3


Note: Single year is reported only when the peak was recorded in both countries within that year. A range of two years is reported when the peak

occurred in different years but still relatively close together in both countries. The rate of growth refers to the rate in the particular quarter

identified as the peak. Two growth rates are reported where there were two peaks recorded in a single date band.

An alternative approach that focuses on the difference

in growth rates suggests that the respective economic

cycles have not been so correlated. Massmann and

Mitchell (2002) suggest that the absolute size of the

cyclical disparity between two economies is one

possible measure of compatibility between their cycles.

This involves de-trending both series of real GDP growth

to identify the cyclical component and to estimate the

absolute difference between the rates.8 This measure

8 The Hodrick-Prescott filter is used to de-trend the series. The root mean square difference is used to estimate the absolute difference because it

adjusts for negative observations in some quarters. The data are a nine-quarter moving average with the results centred on the mid-point of each

window. The root mean squared difference is calculated as the absolute difference in (de-trended) rates of growth, with the difference in each nine-

quarter window squared, then summed, then averaged over nine observations with the square root then taken to get the answer. It is one way to

track the magnitude of a varying quantity when you have positive or negative values.


suggests that the cycles are currently closer than in the

middle-to-late 1990s but are not as close as during the

early-1980s (Chart 12). The latest difference between

both cycles is lower than the mid-1990s but higher than

the early-1980s. In summary, the current distance

between the cycles is at its historical average.


9/11

Table 5: Correlation Coefficients UK and Irish Economic Variables

Variable Time period Correlation

coefficient

Economic Growth

Real GDP growth 1970Q4-2006Q4 0.32***

Industrial production 1957Q4-2007Q1 0.03

Labour Market

Unemployment rates 1969Q4-2006Q4 0.86***

Cost of Credit

Real retail interest rates 1979Q3-2007Q1 0.91***

Property Prices

Commercial property price increases 1980-2006 0.17

Residential house price increases 1970Q1-2006Q2 0.19**

Source: OECD (GDP, house prices, unemployment rates), IMF Financial Statistics (industrial production, nominal interest rates and CPI inflation rates),

Investment Property Databank and Jones Lang LaSalle and authors correlation calculations.

Note: *** and ** denotes significant correlation coefficients at 1 and 5 per cent levels respectively. The series have been de-trended in the first

instance using the Hodrick-Prescott filter.

0.0

0.5

1.0

1.5

2.0

2.5

060095908580751971

root mean squared difference

Source: OECD and Authors CalculationsNote: Data are shares of the groups foreign earnings bycountry over the period 1994-1998.

Chart 12: Absolute Cyclical Disparity between

the UK and Irish Cycles

A third alternative approach is to measure the correlation

between economic growth rates over the period 1970-

2006 and this analysis suggests that there has been little

correlation between both cycles.9 In summary, the

correlation analysis suggests that the economic cycles

9 The classification of a high or low correlation coefficient is necessarily subjective. Kearns and Woods (2006) defined a high level of correlation as

any coefficient greater than or equal to 0.65.


have not tended to move up and down in a broadly

similar fashion over the last 35 years (Table 5). Other

authors have reported also the absence of a significant

correlation of real GDP growth rates or of the rate of

change in industrial production between the Irish and

UK economies. Massmann and Mitchell (2002) used

industrial production data and found little correlation(0.159) between the UK and Irish economies over the

period 1962-2001. The UKs correlation coefficient with

Ireland was among the lowest of 17 economies and the

result was robust across several different filtering

techniques. Artis (2003) published similar results over the

period 1970-1999 and reported the correlation between

Ireland and the UK to be low (0.15) both absolutely and

relative to a comparison of 17 other economies. In

comparison, the author reported the correlation

coefficient between the UK and the EU15 (minus UK)

was 0.5.

There are at least three important qualifications when

assessing the results of the correlation analysis using

GDP growth rates. First, the strength of the correlation

may vary according to the stage of the cycle. Canova et

al. (2004) argue that economies could be more

synchronised in contractions than expansions. They

interpret their findings to suggest that expansions tend to

have large idiosyncratic components across countries

while declines in economic activity have common


10/11

timing and similar dynamics across countries. The

correlation coefficients for two subperiods were

estimated distinguishing between quarters in which UK

real annual GDP growth (filtered) was below 1.7 per

cent and above 3 per cent.10 The results tend to support

the observation that the Irish and UK economies are

more likely to move together during periods of relatively

lower economic growth. Indeed, the GDP growth rates

appear to have been inversely correlated during periods

when the UK economy was growing relatively quickly.

The corresponding correlations carried out for those

quarters in which the Irish economy is growing more

slowly are not as well behaved. The correlations

between the Irish and UK economies are relatively lower

when the Irish economy is growing more slowly.

Second, the literature on co-movement of business

cycles tends to use a narrow range of macroeconomic

variables such as GDP or industrial production.

However, the evolution of several other macroeconomic

indicators have been typically included in the assessment

of the health of a countrys banking sector, and a

correlation of these additional indicators for both

economies yields more mixed results. For instance, the

level of unemployment is an important determinant of

the level of household arrears and defaults; the level of

retail interest rates is an important determinant of

borrowers repayment burdens, and the rate of change

in property prices can affect the value of collateral

underlying property borrowings. There appears to be

little correlation in economic growth rates or property

prices but unemployment and retail interest rates have

been more highly correlated in the past (Table 5).

A final qualification is the unknown extent to which the

growth performance of the Irish economy over the past

decade, when Irish living standards converged broadly

on those of advanced countries, should influence our

interpretation of the results. The Irish economy has

undergone significant structural transformation (e.g., a

much more high technology industrial sector) in recent

years that may undermine the usefulness of the historical

analysis as a guide to the future. A rolling correlation

analysis using windows of ten years confirms that thestrength of the correlation can vary across time with the

estimated coefficients varying considerably over the

period 1970 to 2005.

The answers to a number of additional questions are

required to understand fully the extent of diversification

of banks macroeconomic risks between the Irish and

10 The choice of both thresholds 1.7 and 3.0 per cent were chosen arbitrarily to obtain an equal sample of quarters. There are 146 quarters in the

whole sample and there are 41 quarters in each of the subperiods. The size of the correlation coefficients are sensitive to the choice of threshold.


UK markets. First, the approach in this paper has been

to correlate indicators of the business cycle. An

additional issue, not addressed by this approach, is an

estimate of the correlation of shocks to the Irish and UK

economies. For example, Artis (2003) explored the

correlation of demand-side and supply-side shocks in the

UK economy with a large sample of other countries

including Ireland. There were three measures each of

demand-side and supply-side shocks and the estimated

correlation coefficients varied with each measure. The

correlation of demand-side shocks between Ireland and

the UK was significant for one measure (0.54) but was

low at 0.10 and -0.01 for the alternative measures. The

coefficients for the three indicators of supply-side shocks

were low (i.e., 0.17, 0.11, 0.34). Second, the approach

in this paper is primarily macroeconomic and has not

taken account of the specific business areas of Irish

banks foreign business. A related and complicated

question may be the extent to which banks foreign

business is in different business areas to their domestic

business and, furthermore, the extent to which the

profitability of these business areas may be affected

differently by slower economic growth.

4 Summary and Conclusions

The scale of Irish banks foreign business suggests that

the macroeconomic risks to the sectors health might be

diversified away from the Irish economy but theconcentration of much of this business in one other

economy, the United Kingdom, could be an important

qualification. The concern is that, if economic growth in

the UK and Ireland were to be highly correlated, there

might be few diversification benefits for the Irish banks,

as they could be faced with similar economic conditions

in their two key markets at the same time.

The broad finding is that it is difficult to be definitive

about the level of synchronisation between the two

economies. In theory, many of the circumstances such

as trade and structural similarities between both

economies, which are believed to give rise to co-

movement between economic cycles, are present

between Ireland and the UK. On the other hand, the

quantitative evidence on the historical co-movement of

both cycles is more mixed.

The answers to some additional questions are required

to fully understand the implications for financial stability

and the banking sector of these findings: namely, are

shocks to the Irish and UK economies likely to be

correlated, the importance of the specific business lines


11/11

of banks foreign business in estimating the level of

diversification with their domestic business, the

importance that should be attached to the fact that the

two countries have different exchange-rate regimes, and

the capacity of the banking sector to withstand a

recession in their key markets at the same time.

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