The New Year is likely to bring renewal of financial problems in the European Union. In Greece, the crisis was fiscal in origin and spread to Greek banks and banks in other countries that had lent to Greek banks and the Greek government. In Ireland, the crisis began with problem real-estate loans at Irish banks. That spread to European banks, mainly British, that had lent to Irish banks.

In its year-end issue, the Economist reminds us of the 2008 banking crisis in Iceland. The Icelandic government responded much differently in that crisis than did the Irish government to its banking crisis. Iceland let its banks go under and to some extent stiffed their creditors. It did so out of necessity. Banking assets there were 10 times the country’s GDP, while they were “only” 2–3 times the Irish GDP. Iceland’s defiance did not cost its citizens more than did Ireland’s acquiescence.

Irish taxpayers are now burdened with their banks’ debt. The ultimate beneficiaries of the Irish bailout are British banks and, indirectly, British taxpayers. The political irony of that has not been lost on Irish voters, and in the upcoming elections in March the populist political left is likely to gain. Then, whether by necessity or choice, look for calls for renegotiating (i.e., defaulting on) the debt. Calls for that are already being heard in Ireland.

If the Irish domino falls, look for others to topple. Portugal, Italy, Greece and Spain are all candidates. (Together these 5 countries are called the PIIGS.) The Fed has backed EU banks through currency swaps and thus exposed US taxpayers to the EU crisis. In the words of former Fed Chairman Paul Volcker, the Fed continues to operate at “the very edge” of its legal authority. (Words spoken in April 2008 speech after the bailout of Bear Sterns.)

The New Year will be an interesting one.