As 2009 draws to a close, the banking industry is reeling from one of its worst years ever. There were 133 bank failures in the U.S. as of mid-December, up from 25 the year before. The bank-failure problem is straining the resources of the Federal Deposit Insurance Corp., which has demanded a bailout of sorts for itself from larger, more stable lenders.

Even as the economy returns to slow growth mode, the troubled job market begins to stabilize and the systemic risk within the financial system appears to subside, the banking industry will continue to suffer. The aftershocks of the two-year-old financial crisis will continue to be felt in 2010. While most of the troubles in the residential real estate market have washed through bank balance sheets, problems in the commercial real estate market are still cresting. Those problems will linger, especially among small and medium-size lenders, which have great exposure to commercial real estate. “I think we are probably facing the worst downturn we will ever know in our lives,” says Allen Greer, managing partner at Greer Advisors LLC, a Los Angeles-based real estate advisory firm. “There are two drivers of commercial real estate: jobs and financing. And they are both broken.”

Foresight Analytics, an Oakland, California, real estate research firm, estimates that defaults on commercial real estate loans totaled more than $110 billion this year, about 6 percent of the outstanding loans. The firm expects another $50 billion to $60 billion in defaults by the end of 2010.

Matthew Anderson, a partner at Foresight, says only about 40 percent of defaults have been written off by the banks, meaning they still have a long way to go to put their houses in order before even calculating next year’s losses. Anderson says the default problem is particularly acute at the nation’s local lenders. “It’s mainly smaller banks,” he says. “Community banks and regional banks generally have much higher exposure to commercial real estate than the largest banks.”

According to Foresight, commercial real estate exposure at community banks is about 300 percent of Tier 1 capital, which consists mainly of shareholder equity; for regional banks it is about 150 percent of Tier 1 capital and about 100 percent for larger banks.

Retail properties such as shopping malls and hotels suffered the most last year, while the office sector is now weakening the fastest. Anderson reckons that 1 million office jobs were lost in 2008 and another 1.5 million this year, so vacancy rates are increasingly rapidly and rent levels are falling.

Constantine Kontokosta, an assistant professor at NYU’s Schack Institute of Real Estate, estimates that commercial real estate prices have fallen between 35 and 40 percent from their 2007 peak. He says $1.5 trillion in loans are coming due in the next three years.

One example of the financing difficulties is the retail industry. “It’s a huge problem,” says Malachy Kavanagh, vice president of the International Council of Shopping Centers. “The inability to finance new projects has brought construction to a standstill.” Another concern is that small operators are having trouble coming up with funding for existing projects. “They are just getting nowhere,” he says.