MADRID — Spain's new conservative government on Friday imposed sweeping new rules it hopes will flush out bad property loans and foreclosed property from the financial system, restore confidence in banks and set the ailing economy back on track toward recovery.
The regulations approved by the Cabinet require banks to set aside an estimated €50 billion ($65 billion) more in provisions to cover toxic real estate assets by the end of the year.
Those unable to do so can present merger plans by the end of May and get government assistance from an existing bailout fund that will be strengthened with an addition €6 billion.
To avoid being forced to raise so much money for the real estate provisions, banks will face enormous pressure to sell assets like land and foreclosed or unsold homes at lower market prices.
The aim is to keep them from hoarding the loans and property on their balance sheets, a practice which has already sapped strength from the banking system and the country's finances overall for years.
"With this set of measures, the fundamental idea is to boost confidence in our economy, strengthen the banking sector and its credibility in the national and international realm," Deputy Prime Minister Soraya Saenz de Santamaria told reporters after the Cabinet meeting.
Spain rode an unprecedented building boom from the 1990s until the financial crisis hit in 2008, but the real estate bubble that burst left it with an unemployment rate of 22.8 percent — the highest among the 17 nations using the euro — and increasingly tight credit for business and individuals.
Bailed-out Portugal is suffering from an even deeper credit crisis, and its leader appealed Friday for Portuguese banks to be given more leeway to meet capital requirements because the credit crunch is driving viable companies out of business
The country's bailout terms require Portugal's banks to improve their reserve cushion of high-quality capital to help them weather Europe's prolonged sovereign debt crisis. That debt-reduction process, called deleveraging, has compelled them to reduce the number of loans they grant.
If the deleveraging process is too intense, it can be counterproductive in the medium term. That's the fine-tuning we're looking for," Prime Minister Pedro Passos Coelho told weekly newspaper Sol in comments published Friday.
Spain's development ministry now estimates there are 687,000 unsold new homes on the national market, but other studies put the number as high as 1.6 million in the nation of 47 million. There is no government figure for used homes for sale, but estimates range into the millions.
The move to clean up the banking sector and force property sales "is a good plan but it should have been done before because credit has been frozen here for such a long time," said Carles Vergara, a Financial Management professor at Madrid's IESE business school.
While home prices have declined more than 20 percent over the last several years to levels not seen since 2005, Spanish banks still hold about €175 billion in real estate holdings that the Bank of Spain classifies as "problematic."
The government plan should spur banks to reduce prices by double digits and send down prices of homes not held by banks as well, said Fernando Encinar, head of research at the popular Idealisto.com real estate web site.
"Prices will go down more, and at a faster rate," he said.
The book value of property on Spanish banks' balance sheets is widely seen as inflated, and that has spooked foreign investors, making it hard for the banks to tap capital markets for money to lend.
Some economists warned that the bank reforms won't work overnight miracles in restructuring the banking sector or getting credit flowing again to the eurozone's fourth largest economy, which is expected to slip into recession this quarter.
The government, elected in November, is working desperately to chip away at a bloated deficit and keep Spain from having to request a bailout like those taken by Greece, Ireland and Portugal.
Its first big step was a €15 billion ($20 billion) deficit reduction package of spending cuts and tax hikes in January.
Coming up next week is a controversial package of reforms to shake up a labor market seen as one of Europe's most rigid and encourage business to hire. Prime Minister Mariano Rajoy was heard saying at an EU summit on Monday that the reform will "cost me a general strike."
Under the current system, people who are laid off or fired must be paid between 20 to 33 days of salary per year worked, and companies can't negotiate directly with their unionized workers because they must adopt wage deals set for entire sectors.
Unions are expected to rally against the changes, and investors are wary about the possibility of social unrest if union members are joined in protests by droves of discontented Spaniards — including young adults under 25 hit by a jobless rate of nearly 50 percent.
But Antonio Barroso, an London-based analysts at the Eurasia Group consulting firm, said Rajoy's government will almost certainly follow through with the labor reform.
"Unless the protests get out of control and get really nasty I don't think the government will backtrack," he said.
The bank reforms require institutions to increase provisions for troubled assets from 30 percent to 80 percent of book value, creating the incentive for them to sell them off.
Larger Spain banks should be able to set aside money to meet the new provisions, but experts say the rules will set off another round of mergers among 'cajas,' or savings bank chains more heavily exposed to real estate. The number of cajas dropped from 45 to 15 in a previous bout of mergers.
Spain could end up with as few as three to five cajas, said Oscar Moreno of Madrid brokerage Renta 4. Bank layoffs and branch closings are inevitable, added Rafael Pampillon, an economist at Madrid's IE Business School.
"Clearly, we are going to downsize," Pampillon said.
Ciaran Giles in Madrid contributed to this report.