LONDON, July 31 Agreeing to recapitalise Spanish banks without first determining precise losses may be a waste of EU bailout money, an advisory committee to the European Central Bank's risk watchdog says.
Euro zone finance ministers have approved a loan of up to 100 billion euros to put several Spanish banks back on an even keel but the result of in-depth audits into the sector has yet to be completed.
The Advisory Scientific Committee said in a report to the European Systemic Risk Board (ESRB), that if losses at the Spanish banks were not determined and balance sheets not cleaned up then EU funds may well be insufficient for recapitalisation.
"Adding capital without knowing what the assets are actually worth and how much capital is really needed entails a serious risk that the funds may simply be lost as the necessary resolution of the banks is delayed further," the committee said in a report to the ESRB published on Tuesday.
The first loans are not expected to be handed out until October and Spain will have to restructure its banks in return for the money.
The committee also backed the controversial principle that all debtholders of a bank, including unsecured senior bondholders, should be forced to take a hit to shore up an ailing bank.
So far in the financial crisis, senior bondholders have been largely shielded, with shareholders and junior bondholders bearing the brunt of a bank failure.
"The examples of Ireland and Spain suggest, already at the national level, that the full protection of all senior creditors may exceed the government's fiscal capacity," the committee said.
"The buyers of such debt should know what they are letting themselves in for, and should have the strongest possible incentives to assess the creditworthiness of, and exercise discipline over, their debtors," the report said.
In equally blunt terms, it criticised the "vagueness" of plans by EU leaders to turn the ECB into the supervisor for euro zone lenders, saying they fell short of giving Frankfurt the power to close down ailing lenders.
"Unless the power to close a bank is effectively transferred from national to supranational institutions, the 'single supervisory mechanism in the euro area' will not be effective," the committee of academics and finance industry officials said.
In such a case, the use of the bloc's bailout funds could very expensive without actually solving the problems, the committee added.
The European Commission has proposed a draft EU law to coordinate winding down of cross-border banks but the committee said it does not go far enough in centralising the resolution and restructuring of failing lenders.
The ESRB uses reports from its advisory committee to help flesh out recommendations to improve financial stability. (Reporting by Huw Jones; Editing by Louise Heavens)