Bank of Ireland's latest move has pushed the pace of consolidation in the Irish banking sector up a gear.

The planned merger between the Republic's second-largest bank and the British former building society, Alliance & Leicester, has surprised analysts and signals sweeping changes in the ownership structure of Irish banks over the coming years.

Investors will watch closely AIB's response to its old rival's latest venture.

The merger with Alliance & Leicester is being seen as a partly defensive move by Bank of Ireland, guarding it against an unwelcome takeover bid from a British or European competitor in the medium term.

And while AIB is a larger - and thus more expensive - bank for any prospective buyer, in the long term it may also be forced to forge alliances in the increasingly global financial sector.

NCB Stockbrokers' financial analyst, Mr Shane Nolan, insists the Bank of Ireland deal does not put immediate pressure on AIB to make a move.

"It is a big bank with surplus capital and it has a more diversified earnings stream than Bank of Ireland."

AIB has substantial operations in the US market and is expanding in Eastern Europe, bringing a good mix of earnings from outside its core market.

The bank has indicated for some time that it would like to become a bigger player in the British market, but it has yet to achieve that.

It has small business banking operations there and has been considered a potential bidder for a group such as Woolwich.

Mr Oliver O'Shea, an analyst at Goodbody Stockbrokers, suggests AIB will find it difficult to enter that market without having to pay over the odds for the right acquisition. The deal which is being finalised between Bank of Ireland and A & L may, however, throw up new opportunities that might suit AIB.

Even before the merger talks were confirmed, Irish financial institutions have been firmly under the spotlight as potential long-term acquisition targets for banks within the euro zone.

First, banking would consolidate within the main EU markets - so the thinking has gone - and then the major players emerging would turn their attention to smaller markets such as the Republic. The newly-merged Irish Life & Permanent is seen as attractive for an institution seeking access to the Republic's mortgage and insurance market.

Its chief executive, Mr David Went, has stated that he is content to focus on the Irish market for the group's short-term growth. Together with Bank of Ireland, Irish Intercontinental Bank and Anglo Irish Bank, it is lining up as a potential bidder for the State-owned ICC Bank and each will be keen to absorb ICC's small business book within its operations.

Another major European force that is making its presence felt in the Irish market is the Belgian KBC Bank.

It owns Irish Intercontinental Bank and Irish Life Home Loans.

It is bigger than both Bank of Ireland and AIB and has huge resources to invest here.

Meanwhile, ACCBank and TSB will merge and float on the stock market next year.

ACCBank chief executive Mr John McCloskey has indicated that a European bank, such as Credit Agricole, may seek to take a minority stake in the new bank when its shares begin trading next May as a strategic move. But consolidation of the sector in Ireland could see the merged bank quickly swallowed by one of the larger operators.