Spain sets up ‘bad bank’ to buy toxic real estate

Bad bank is part of ambitious new banking law Spain’s conservative government promises will save ailing finance sector

Spain’s conservative government passed an ambitious banking law on Friday which it promised would be the definitive shake-up of an ailing finance sector that needs up to €100bn of eurozone bailout money.

“This brings reform of the finance system to its crowning point,” the deputy prime minister, Soraya Saenz de Santamaría, said as the government presented its third reform in six months.

A so-called “bad bank” will swallow up large amounts of the toxic real estate that has brought down several Spanish banks and which threatens several more.

The property is left over from a residential construction bubble that burst in 2008, just as the credit crunch happened, and which lies at the root of Spain’s problems as it battles double-dip recession and 25% unemployment.

The bad bank will receive building land, half-finished developments and what may turn out to be tens of thousands of unsold residential properties built by developers who went bust or are having trouble repaying their loans.

It will be expected to sell off this stock at a profit over the next ten to fifteen years. “It will be viable and will not post losses,” the finance minister, Luis de Guindos, promised.

The creation of the bad bank – which the government hoped would be mostly privately financed – was one of the demands made by the eurozone countries providing the €100bn loan facility to Spain’s banks.

The law also puts into place a process for breaking up and winding down banks, as well as making sure that small savers who invested widely in risky preference shares in banks would bear some of the losses when these are bailed out.

De Guindos did not say what price the bad bank would pay for toxic assets, but promised a transparent system. This should be in place by December.

“The reform is a step in the right direction, but there is still much to do,” said Carlos Vergara, of the Iese business school, pointing to doubts about both the final price the bad bank will pay for toxic assets and the names of those banks that are not considered viable.

“The key is at what price these assets are bought,” agreed Jordi Fabregat of the Esade business school. “If it is too high, then the Spanish people will end up paying for it.”

Spain’s banks have an estimated €184bn in toxic real-estate loans and investments, though only part of this will go to the bad bank.

The law also raised core capital requirements – the level of high-quality assets banks must to hold to protect them against economic shocks – to 9%.

With unemployment at 25% and the economy shrinking at 1.3% annually, Spain is struggling to convince markets it can avoid a full government bailout.

Money continues to leave the country, with the Bank of Spain reporting a net capital outflow for the first six months of 2012 of €220bn, compared with a €22bn inflow for the same period last year.

Spanish bond yields crept up to 6.9% on Friday, just below the 7% level seen as unsustainable for sovereign borrowing costs. The crisis in Spain’s regional governments was also underlined when credit agency S&P cut debt-ridden Catalonia’s rating to junk.

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