IRISH banks would be all but wiped out if the Government was to default or restructure the State's borrowings because of their vast holdings of Irish bonds and sovereign debt.
Bank of Ireland and Allied Irish Bank could face loses of as much as €11.4bn if a major haircut was part of any deal, according to a new report from Goldman Sachs, which has been obtained by the Sunday Independent.
A 60 per cent haircut on Ireland's debt -- including the €21.8bn held by Irish banks -- would leave the major banks here facing up to €11.4bn in losses, according to Goldman estimates.
Even a 40 per cent haircut on the debt would leave Irish banks splattered by losses of almost €7.6bn.
This would force the Government to pour even more taxpayers' money or bailout money into the banks in yet another attempt to restore their balance sheets and meet regulatory requirements.
The machine-gunning of the banks' balance sheets by any restructuring or haircuts on state debt is seen as a key reason that the Government is so keen to avoid default.
Last week, Taoiseach Enda Kenny said: "We are not in the position of heading for an Irish Government default, we are not in a position here of not paying back our loans."
Revelations of the losses faced by Irish banks -- and potentially by taxpayers -- may indicate why the Government did not aggressively push for a default during December's IMF bailout negotiations.
The new Goldman Sachs figures also show that German banks are facing massive losses in Ireland, should we restructure or default.
German banks own more than €13bn worth of Irish debt, says Goldman research. Hypo Real Estate and Landesbank BW have the biggest gross exposure to Ireland.
French banks had a much smaller gross exposure to Irish debt, with just €1bn on the line, split between BNP, Credit Agricole and Banque Populaire Caisse D'Espargne.
However, over the past year European banks have raised €122bn in an attempt to insulate themselves from such nasty surprises as sovereign default or restructuring of Greek, Irish or Portuguese bonds. Upcoming European stress testing will examine whether these buffers will be enough to absorb losses from any defaults.
"Restructuring is not a solution, it's a horror story," ECB council member Christian Noyer said last week. His Spanish ECB colleague Jose Manuel Gonzalez-Paramo recently warned that such a move would "very probably" have systemic consequences "quite likely more devastating than" the collapse of Lehman Brothers.
Separately, it has emerged that China was one of the biggest buyers of Ireland's bailout bonds, which were sold by the European Financial Stability Fund (EFSF) last January. The bonds were issued to investors to fund Ireland's bailout.
China is expected to represent a "strong proportion" of the buyers of next month's Portuguese bailout bonds, according to the EFSF.
There will be no further auctions of Irish bailout bonds until after summer, said EFSF boss Klaus Regling. This is due to ongoing negotiations over bailout interest rates, as well as delays in the recapitalisation of the Irish banks.