Ireland had little choice but to accept European Union help to avoid a breakdown in the financial system. There was no other way to rescue the banks without placing the burden on Ireland's 4.5 million people.

At the peak of the financial crisis, the UK and US were able to provide guarantees worth trillions of dollars to support their banks, though the actual costs turned out to be much lower as confidence was quickly restored. The full extent of the guarantee was largely hypothetical. They succeeded because they could make a credible promise of support — Ireland could not.

The Irish banking meltdown, so soon after the euro-area stress tests this year, raises questions over the reliability of these assessments, which failed to put enough emphasis not just on bad debts but on the risk of relying on the wholesale market for funds. The tests, which covered some banks but not others, will cast doubt on the strength of the remaining European banks.

While the Greek crisis served to heat up the debate over enforcing Maastricht rules on limiting budget deficits, Ireland highlights the more complex and far-reaching policy issues that involve systemic risk. There is no rulebook for this, let alone policing mechanisms. But the Irish bailout may lead to demands for wide-ranging restrictions on economic policy and on the size of member states' banking industries and property markets. And such intrusion may extend beyond the euro area.

This implication has, to some extent, already surfaced in suggestions that Ireland should give up its 12.5 percent corporate-tax regime, even though this would be unlikely to improve the country's fiscal position much and may well hurt Irish growth prospects. Extended regulation would have damaging consequences for those economies with large banking centres: The UK and France may come under the spotlight, for example.

Risk control versus policy intrusion will become a thorny issue for the EU to grapple with as those countries that provide bailout funds demand ever-more-restrictive conditions and penalties of the debtors — and even seek to use the opportunity to change competitive advantages.

The Irish crisis is so important not because of its scale, but because of its origin. Unlike Greece, Ireland didn't contravene Maastricht rules — it was an exemplary member state rather than an offender.

From the late 1980s until 2007, Ireland ran budget surpluses, bringing government debt to less than 30 percent of gross domestic product by the mid-2000s.

Ireland's crisis stems from its oversized property and banking sectors, both burdened with bad debts. The Celtic Tiger enjoyed an average growth rate of about 6.5 percent from 1990 to 2007, which brought rapid prosperity, but also hubris and a housing-market bubble of massive proportions.

At its peak in 2006, one house was being built for every 50 citizens in the country — more than three times the figure for the US.

Since the peak in late 2006, average house prices have plummeted by more than 35 percent (according to the permanent TSB/ESRI house-price index). This has left many households facing negative equity and has led to a slump in construction. So-called ghost estates may encompass some 300,000 properties in various stages of completion, producing losses of as much as 50 billion euros ($68 billion), similar in scale to the bank bailout announced by the Irish government in September.

Now the banks require an even larger recapitalisation to avoid collapse. Not only have bad debts escalated but the lenders' short-term funding is in jeopardy. Ireland's ability to take on a large recapitalisation alone is doubtful since bank liabilities represent more than 10 times the nation's GDP.

Weak economic data and failing support from the European Central Bank have led to a slump in confidence in the Irish economy and the viability of its banking industry, making funding in the market increasingly costly or impossible to obtain. This is reminiscent of the UK's experience of Northern Rock Plc's failure.

If Ireland negotiates EU funding of almost 100 billion euros, this may seem to be an adequate provision — it should cover bad debts and recapitalise the banks.

But there are still doubts about whether Ireland can develop a growth strategy that will help repay the huge increase in its public-sector debt (the same question that hangs over Greece). If fiscal tightening pushes the country deep into recession, the loans will be hard to repay. Markets also need to be convinced that Ireland and its banks have a credible plan. Otherwise the funding that the banks depend on won't return.

If the banks need further financial support, ramping up Ireland's government debt is no longer a viable option — the EU would have to back the banks or let them fail. Never mind concerns about a bailout for Portugal, the inability to stem the outflow of funds from Irish banks may start a bonfire that spreads beyond Ireland. The bond vigilantes are less of a threat than the banking market turning on its own weaker lenders.

Vanessa Rossi is a senior research fellow in international economics at Chatham House in London. The opinions expressed are her own.