Irish banks and building societies will come under increasing pressure to cut costs as more foreign competitors begin selling products in the Irish market. The international credit ratings agency, Moody's, says Bank of Scotland's aggressive entry into the Irish mortgage market is the first in a series of similar ventures by overseas institutions, which will eat into the profits of Irish banks and create pressures to cut costs.

In a report on the banking sector, Moody's says the biggest threat to profit margins is from foreign banks, which are already used to working with lower margins and are willing to aggressively under-price local players.

"We do not think this pressure on margins will be a temporary phenomenon. Irish margins still have some way to go before they converge fully with those seen in other European states. Furthermore, margin pressure will continue to arise in the mortgage and savings market as new players with low-cost delivery channels challenge the established players."

Moody's points to the trend in the British financial services sector where low-cost entrants such as Standard Life entered the mortgage market while Egg offered highly competitive rates on the savings side. The fact that these new entrants may have been "loss-leading" their products is little comfort for existing players, since they still have to compete against the new entrants' rates, whether or not they are profitable or loss making, it suggests. Even when new entrants finally begin to adjust their margins upwards, other new players will be prepared to take their place, according to Moody's.

First Active and the EBS building society are highlighted in the report as being the most vulnerable in a mortgage price war. Moody's and other international rating agencies will be focusing on what plans Irish banks are putting in place to contain costs. In particular, it will be looking for initiatives which will decrease the need for customers to transact business at branches. Moody's states it will be analysing the development of non-branch based delivery channels for new products and services.

"Going forward, a low and flexible expense base will be an increasingly important factor determining Irish bank's credit quality," it states. The banks are nonetheless well positioned to cope with any downturn in the Irish economy. Moody's states that the strategies being pursued by senior management are "sound" and the long-term prospects for credit quality are generally good.