MADRID (Reuters) – Spain’s government will force its banks to recognize some 50 billion euros (41.3 billion pounds) in losses on bad loans to builders in a fresh financial sector reform on Friday, but doubts will still linger over the worthless property on the banks’ books.
The aim is to trigger a fresh wave of mergers to create stronger new banks four years after a property boom went bust and restore confidence to Spain, which has yet to shake off the euro zone debt crisis.
The new centre-right government has pledged to straighten out the banks once and for all, but officials are worried the reform will put great strain on Bankia, Spain’s fourth-biggest bank by market value, which is particularly exposed to real estate.
The reform will give newly merged banks up to two years to write down toxic assets by setting aside provisions on their books, other banks will get one year, said several sources close to the negotiations on the new rules.
The government will also lend funds to banks that struggle to meet the steep new provisions, through 5-year preferential shares bearing an 8 percent coupon in exchange for curbs on bank executives’ pay and bonuses, the sources said.
Spanish banks underwent a round of mergers and recapitalization under the former Socialist government. At that time banks boosted provisions against problem loans and property losses to about 30 percent. That will rise to 50 percent or higher with another 50 billion euros in coverage.
With the deeper reform the new government hopes to revive international interbank lending, mostly closed to Spain’s banks since the first Greek bailout in 2010, so that they can restart lending at home.
Bank lending continues to be stagnant as Spain heads into a second recession in four years and unemployment soars to 23 percent. The bank reform, as well as labour market reform and austerity measures are all part of Prime Minister Mariano Rajoy’s efforts to prove to investors that Spain is solvent.
But the banks’ potential losses are so deep — total exposure is some 176 billion euros or 18 percent of Spain’s economic output — markets may still be wary.
“We’ve got to be aware that investors could still ask for more provisioning after this. You can’t say categorically that doubling provisions means the uncertainty is over,” said a source in the financial sector.
BOOKING LOSSES
The new measures to be decreed by the cabinet on Friday will break down what losses banks must recognize on assets linked to real estate — foreclosed property, unrecoverable loans and substandard loans.
“What is key is what assets are priced and how they are priced,” said Carmen Munoz, senior director at Fitch Ratings.
The system will need an additional 64 billion euros if foreclosed property assets are marked down by 65 percent, bad loans with housebuilders at 80 percent and substandard loans at 50 percent, says Bank of America Merrill Lynch.
Total potential additional capital needed is equivalent to 79 percent of the system’s two-year pre-provision profit, the bank says. However, this rises to 248 percent if profits from Spain’s two biggest banks Santander and BBVA are removed.
INDISCRIMINATE LENDING
Spanish lenders lent indiscriminately to developers over a decade-long property bubble. When developers went bust, many creditor banks took on their land and unfinished housing blocks, booking them on their balance sheets at unrealistic prices.
Land classified for building has practically no resale value in Spain since there are between 700,000 and a million unsold homes and no appetite to build more.
The government hopes the most highly exposed banks get folded into stronger ones.
Particularly in focus is Bankia, the result of a merger between seven regional banks. Bankia has more customers than any other bank in Spain and is defined as a systemic bank that could drag down other lenders if it had trouble.
“The real problem they have is Bankia. The rest is minor,” said one Madrid-based banker.
Nomura estimates Bankia will need 5 billion euros in extra provisions — 12 times its estimated 2011 pre-tax profit. This compares with 4 billion for Santander at 0.3 times 2011 pre-tax profit and 3.3 billion euros for BBVA at 0.5 times profit.
Bankia, which has already received 4.5 billion euros in public money, has 41 billion euros in developer loans and 11 billion euros in foreclosed property on its books.
Finding a partner to take it on could be difficult, seeing as a stronger bank would only take it on if given generous guarantees by the government.
“At the end of the day, it will cost the government more to pay a private bank to take over Bankia than bail it out themselves, because buyers are only going to step in if it comes with a whopping big cheque from the state,” said one banking analyst.
WHERE WILL THE MONEY COME FROM?
Spain’s government, unwilling to swell state debt as the euro zone crisis has forced up borrowing costs, will probably have to raise some 10 billion to 12 billion euros to loan to the most troubled banks.
One source close to the deal said that since the loans will be at a market rate they will not count towards the public deficit, which Spain must reduce this year under European Union rules.
European help looks unlikely, as it will come attached with conditions and will be politically negative for the government.
“I don’t think appealing to the European rescue fund will be an option for bank restructuring in Spain,” said Santander Chief Executive Alfredo Saenz on Tuesday.
(Additional reporting by Andres Gonzalez, Carlos Ruano and Jesus Aguado; Editing by Mike Nesbit)
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