Commission urges banking union, bank recapitalisation

The eurozone should move to a banking union and consider directly recapitalising banks from its permanent bailout fund, the European Commission said in annual economic recommendations that shone a critical light on Spain.

The call, in documents outlining the economic strategy for the eurozone, would appear directly to address market concerns about problems in the Spanish banking sector and the cost to the Spanish government of rescuing its banks — a factor that has driven Spain’s borrowing costs to near unsustainable levels.

European stock markets pared losses and the euro jumped on the back of the recommendations, even though they are not formal proposals, face serious opposition from some member states, and remain a long way from implementation.

Investors are worried that public finances in Spain, which is already struggling to cut a large budget deficit at a time of recession, will become unsustainable if it is forced to bail out is banks, after a property boom turned to collapse and left nearly all banks laden with bad loans.

The commission, the EU’s executive, said the vicious circle of weak banks and indebted sovereigns lending to each other needed be broken.

“A closer integration among the euro area countries in supervisory structures and practices, in cross-border crisis management and burden sharing, towards a ‘banking union’, would be an important complement to the current structure” of Europe’s economic and monetary union.

“In the same vein, to sever the link between banks and the sovereigns, direct recapitalisation by the ESM might be envisaged,” the document said.

The eurozone’s permanent bailout fund, the European Stability Mechanism (ESM), which comes into force in July, cannot as it stands lend directly to banks, only to sovereigns, even if only for the specific purpose of bank recapitalisation.

To change that, eurozone countries would have to change the treaty on which the ESM is based and which some eurozone countries have ratified.

Germany strongly opposes allowing the ESM to directly recapitalise banks, an option Spain wants.

In a separate assessment of Spanish fiscal and reform plans, the commission said that, while Madrid has done much to help its banks, it had to tackle the remaining financial sector weakness.

“Recent reforms have helped to speed up restructuring of the banking sector, which should continue. However, ensuring the stability of the financial sector is still a challenge. Given the risk of bank-funding stress, it is necessary to continue to strengthen the banks’ capital base.

“The reform measures adopted in Feb and May 2012 targeted the legacy stock of real-estate assets, but the vulnerabilities related to other exposures such as loans to SMEs and residential mortgages have not been addressed.”

Spain’s economy minister Luis De Guindos said yesterday that nationalised lender Bankia would be recapitalised through the FROB bank fund, which will issue bonds.

“It will be the usual mechanism, through the FROB issuances,” he told journalists after a parliamentary debate on Spain’s ongoing banking reform.

The FROB currently has more than €4bn available, while Bankia asked on Friday for a €19bn rescue from the state.



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