Ireland threatens to penalise banks unless mortgage rates cut

* Lenders under public and political pressure to cut rates

* Fin Min says banks have agreed to reduce costs by July (Adds details, quotes)

DUBLIN, May 22 (Reuters) - Ireland (Other OTC: IRLD - news) is considering penalising Irish banks if they don't cut mortage rates deemed too high by the government in coming weeks, Finance Minister Michael Noonan said on Friday.

Ireland's recovering banks are under political and public pressure to cut rates that are higher than the euro zone average and were summoned to meetings with Noonan this week as the government calls for action ahead of elections next year.

Noonan said on Friday that lenders had agreed to offer customers options to reduce their monthly mortgage payments by July, including home owners who are in negative equity. Follow-up meetings will be held in September.

"There are two options if we want to go further, one is to take control of fixing interest rates, the other is to introduce a severe penal levy on the banks in the budget," Noonan told reporters.

"But from the conversations I had, I'm assured that each bank will offer each mortgage holder a rate which is lower than the rate at present. Some of them will offer reductions in the variable rate and others will offer fixed rates."

Irish Central Bank governor Patrick Honohan has said he does not wish to be given the power to set interest rates. The Irish government introduced a three-year levy on its banks in 2014 that yields 150 million euros ($165.66 million) a year.

Noonan had meetings with the banks in late 2011 when, also under pressure from opposition parties, the government threatened to pass similar legislation which it did not go through with.

An Irish Central Bank report published on Friday warned that hasty policy measures to administratively determine interest rates would likely have damaging side-effects, including discouraging entry, innovation and competition.

However, it added: "Boards and management need to recognise that charging spreads that excessively exploit the current weak competitive environment risks being counterproductive if they bring down upon themselves Government policy reactions."

State-owned Allied Irish Banks (AIB) is so far the only bank to announce a rate cut. Rival Bank of Ireland has raised the prospect of cutting fixed rates.

Each 25 basis points reduction in mortgage rates, assuming no offsetting change to funding levels, will cost Bank of Ireland 22 million euros annually and AIB 47 million, resulting in a moderate impact on organic capital creation, Cantor Fitzgerald wrote in a note on Friday.

Noonan said he did not believe the threats would impact the government's plans to further sell down in stakes in state-owned banks. ($1 = 0.9055 euros) (Reporting by Padraic Halpin and Conor Humphries; Editing by Kevin Liffey and Susan Thomas)