The Central Bank found the terms of the trioka programme "unsatisfactory", the Governor Patrick Honohan has said.

Prof Honohan told the banking inquiry the deal had “high interest rates and a lack of an insurance mechanism against tail risks in the banks”.

He said the programme was necessary and said without it the cutbacks would have been more severe.

Prof Honohan said: “Nevertheless, having set out these concerns, I advised the Government in writing that it should proceed on the basis of the programme, given that the alternative of struggling forward without access to market finance would have been more economically damaging.

“If the programme proved unable to deliver a sustainable debt path as seemed possible, even likely then it could be renegotiated. The spending and tax adjustments that would have been needed if programme funding was not available would be much more severe.”

The Central Bank Governor said the question of whether the guarantee was the best decision is the least important and yet the most over analysed.

He said: “What if an alternative path had been tried, following prior consultation with EU partners during an interval covered by ELA [emergency liquidity assistance] involving a more limited guarantee, excluding some or all existing senior bonds and subordinated debt, and in conjunction with an attempt to get agreement that Anglo and INBS [Irish Nationwide] bondholders would be bailed-out only on the basis of cost-sharing with EU partners? How much in net national economic terms might have thereby been saved?

“This is not a question susceptible of any precise quantification: could a cost-sharing deal have been successfully negotiated?”

Prof Honohan said the institutions were “very resistant to the losses” the Central Bank were suggesting.

He said officials wrote letters to the “very top” but the bank held its ground.

The governor said: “Rather than knowing something and not wanting to tell they were living in a state of denial.”

Mr Honohan said banks were still living in denial about the state of the losses in the institutions in 2010.

Mr Honohan told the inquiry he received a call out of the blue from the International Monetary Fund in May 2010 offering a precautionary line of credit.

The Governor said Ashoka Mody phoned him and suggested this method but the Department of Finance rejected it.

He said: “I said ‘try it, it might be a good idea. They [the Government] might not like it but try it’. It did not go anywhere.”

Professor Honohan said the European Central Bank would never have withdrawn funding from Ireland.

Asked if the European Central Bank could have, Prof Honohan said it could but it would not have done that.

Fianna Fáil Senator Marc MacSharry asked if that was a big gamble for the then Government to take.

Mr Honohan said: “No.”

In his third appearance before the banking inquiry, Prof Honohan this morning said the focus on the night of the guarantee has been “excessive”.

He said nothing had changed his view that emergency liquidity would have bought the Government some time.

Prof Honohan said Anglo Irish Bank and Irish Nationwide should have been dealt by nationalisation.

He added: “It should not have included Subordinated debt nor existing senior term debt.”

The morning session focused on the period of Prof Honohan’s tenure from his appointment in September 2009 to October 2010. The afternoon session is focusing on developments in the period from November 2010 to December 2013.

He will be asked to give evidence on the appropriateness of the regulatory regime and other related matters.