Spain's hurting banks at heart of eurozone chaos

Spain is under rising pressure to find a lifeline for its deeply troubled banks.

Politicians in Europe and investors around the world are worried that the recession-hit country can't come up with the money needed to save its banks without bankrupting the government. Expectations are rising that Spain's leaders will have to seek an international bailout for banks crumbling under the weight of bad real estate loans.

As Spain's leaders struggle for a solution to their banking crisis, the country's borrowing costs have soared close to the level that forced the governments of Greece, Portugal and Ireland to seek financial rescues.

As much as €100 billion ($126 billion) may be needed to bolster Spanish banks, the credit rating agency Fitch said Thursday. Fitch, which had previously said €30 billion was needed, downgraded the country's debt rating on Thursday to two notches above junk and warned that further downgrades were possible.

Spain sold €2 billion ($2.52 billion) in bonds earlier Thursday, but had to pay investors much higher rates than in previous bond sales. There is a growing sense that time is running out for Spain's government and banks to continue muddling through.

The sale came after Spain's economy minister traveled Wednesday to Brussels to huddle with key decision makers in the capital of the European Union.

And on Thursday, Spanish Prime Minister Mariano Rajoy hosted his counterpart from the Netherlands, one of the 17 eurozone countries that would have to approve outside help if Spain can't save its banks on its own.

Rajoy said this week that Europe "needs to support those that are in difficulty."

Here are some questions and answers about Spain's banking crisis:

WHY DO SPANISH BANKS NEED A BAILOUT?

Spain's financial problems are not due to Greek-style government overspending. The country's banks got caught up in the collapse of a real estate bubble.

Spain's banks, particularly its savings banks or "cajas," have enormous amounts of bad loans. And as the second recession in three years hits Spain, the number of bad loans is expected to surge. Spain's unemployment has risen to nearly 25 percent, making it increasingly difficult for many Spaniards to pay their mortgages.

The country's central bank, the Bank of Spain, says banks are still burdened with about €175 billion ($220 billion) in "problematic" real estate holdings, including loans and repossessed homes.

Spain's government debt stood at a relatively low 68.5 percent of its gross domestic product at the end of 2011. It is predicted to hit 78 percent by the end of the year. But even that higher figure would still be below the 2011 debt-to-GDP ratios of countries like Italy, Belgium, France and even Germany.

SO WHY IS SPAIN'S BANKING CRISIS SO WORRISOME TO EVERYONE ELSE?

Spain is the fourth-largest economy in the 17-country eurozone, behind Germany, France and Italy. Its economy is nearly five times bigger than Greece's, making its financial and economic problems much more worrisome for leaders in Europe.

The rising cost of rescuing failed banks risks bankrupting the Spanish government. And since banks own huge amounts of governments' bonds, it could result in a downward spiral requiring more financial aid for banks.

A widening recession and financial crisis in one of Europe's largest economies would drag down neighboring countries and hurt companies and investors around the world.

An international bailout of Spanish banks could relieve some of the pressure on the Spanish government, and decrease anxieties across Europe and the rest of the world.

HOW MUCH WILL IT COST TO BAIL OUT SPAIN'S BANKS?

Bankia S.A., the country's most stricken lender, announced last month that it needed €19 billion ($23.63 billion) in government aid. Spain only has €5 billion left in a fund that it established in 2009 to help banks. The government has promised to help Bankia but has not mapped out a plan.

At least four other Spanish banks also need help. That's true even though Spain reduced the number of its troubled banks through mergers over the past several years to try to strengthen them against failure.

The overall cost of bailing out Spain's troubled banks is somewhere between €40 billion and €100 billion. The International Monetary Fund is scheduled to weigh in with an evaluation of Spain's banking industry Monday. And the Spanish government has commissioned independent audits to determine the banks' recapitalization needs.

The Spanish government has pushed lenders to strengthen their finances by merging, and has told banks to set aside an additional €84 billion by the end of 2012 to cover soured real estate assets. Spain's two largest banks — Banco Santander SA and Banco Bilbao Vizcaya Argentaria SA — are expected to meet the stiffer requirements. However, investors are fearful about the ability of the capability of smaller banks and the true extent of their liabilities.

WHERE COULD THE BAILOUT MONEY COME FROM?

Spain has yet to map out how its banks — in particular Bankia — will be saved.

Spain could finance a bank bailout by selling bonds. But it's reluctant to take on a huge amount of debt when the interest rate investors would demand is perilously close to the 7 percent level that forced Greece, Ireland and Portugal to seek bailouts. That could turn Spain's banking crisis into a government-debt crisis, which so far it has been able to avoid.

Spain would like to get European aid for its banks but is reluctant to ask for it because under current rules the aid would have to be funneled through the government. That would also increase the country's public debt load and potentially send interest rates on its bonds higher.

Spain is trying to convince European leaders to let it have a "light" form of a bailout without directly asking for it. It hopes to find a little wiggle room in a measure approved by European Union leaders last July. That measure allows the EU to lend money for the purpose of recapitalizing banks in countries not already receiving bailouts.

The rules say the money would have to be funneled through the government. However, the conditions attached to the bailout would not have to be as over-arching as those attached to government bailouts, such as in Greece and Ireland.

"There is talk on the start of different solutions, but there's still nothing concrete," said Antonio Barroso, an analyst with the Eurasia Group political risk consulting group.

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Associated Press writers Daniel Woolls, Ciaran Giles, David McHugh and Shawn Pogatchnik contributed from Madrid, Berlin and Dublin.