The Spanish government’s plan for the so-called ‘bad bank’ to attract a majority of its capital from private investors seems to be running into trouble already. 

The creation of a ‘bad bank,’ an instrument that will serve to clean up the accounts of banks and financial entities from toxic real estate assets, was part of the financial reform presented by Finance Minister Luis de Guindos last Friday.

The idea is that, despite the fact that the ‘bad bank’ is a state instrument, it will not be under government control. The FROB, the state-backed bank bailout fund, will only have a share of up to 50 percent, while private investors who join will be in majority.

The government, however, has approached the strongest entities in the sector to discuss their possible investments in this mechanism, and the response has been fairly cold, according to sources close to the process.

Private investment needed

It is necessary that private investments exceed 50 percent in order to avoid that the debt of the ‘bad bank’ counts as public debt.

The major banks and savings banks have never been in favor of the ‘bad bank’ as a solution to the problems in the financial sector. They have primarily been concerned that it would be obligatory for all to participate and that they would be forced to transfer their toxic assets at prices determined by the Bank of Spain.

They are not convinced either, however, by the fact that it will be limited to the entities that receive public help, because of the lack of details. In any case, they are not prepared to lend a hand to push it forward.

According to the consulted sources, the reason is that they consider participating in the ‘bad bank’ would be to help their competitors.

“Why should we help and buy assets from these entities that are unviable? And if it goes well, their accounts will be cleaned and they could turn into rivals to the major banks, which they aren’t today, so that these would end up losing,” one of the sources said.

Helping competitors

This perspective is more important than the possible profit they would obtain with the subsequent sale of real estate from the rescued banks, a profit that the government promises will be very high precisely in order to attract investors.

The largest and medium-sized entities that are ‘clean’ would prefer that these unviable entities would be ‘dropped’ and then sold with guarantees against losses, as was done with the two banks CAM and Unnim, either the full entities or parts of it when they are too large, as in the case with Bankia.

This possibility, however, was ruled out after the request for a rescue for the banking sector in May. The Memorandum of Understanding includes the creation of a ‘bad bank’ as one of the conditions.

The unviable entities will be sold after the transfer of their toxic assets. That means that it is only the ‘clean’ assets that will be sold through the so-called ‘bridge bank.’

Other sources, however, don’t turn down completely that the major banks will finally participate.

“It could be that, similar to what happened when Bankia was listed on the market, they put pressure on the banks to ‘make a gesture’ and then, between all of them, they will make an effort so that the ‘bad bank’ receives public funds,” one of the sources said. “But none of them are actually in favor of it.”

The importance of 50 percent

After being turned down by the major financial entities, the government will have to solve how to achieve that private investors hold more than 50 percent of the capital of the ‘bad bank.’

The reason is that this way the emitted debt will not count as public debt, which is essential in the setup of the ‘bad bank.’

“The vehicle can not increase public debt, that is a premise that cannot be waived,” in the current situation of public finances in Spain, according to the sources.

For this to happen, the state – or a state-backed instrument, such as the FROB – can not be in control of the asset management company because it would be considered as state aid and that would count as public debt, according to the rules ESA-95.

For this reason, the government must promise a very attractive profitability, which can only be achieved if the assets are transferred at very low prices.

This is contradictory to the statement by the Ministry of Economy that says the price will not be much below the book value, discounting the provisions for each asset.

The question now is who will invest in the ‘bad bank’ if it will finally not be obligatory for the ‘clean’ entities to do it. The international real estate funds remain, but they want to enter into the Spanish market at extremely low prices, which is not what the government is looking for.