In a set of guidelines for how EU countries should deal with bad assets, the European Commission said governments could set up a 'bad bank' to store the assets or provide an insurance programme - as Britain plans - to take on banks' potential losses as complex securities and derivatives slide in value.

It said that any programme should only cover assets entered on a bank's balance sheets after a certain cut-off date, to be agreed by EU governments.

The European Commission suggests a deadline of the end of 2008, which would not cover many banks' existing writedowns.

The programme aims to cover asset-backed securities, such as investments based on US subprime housing loans.

Start with a clean sheet

"Let us start again with a clean sheet," EU Competition Commis-sioner Neelie Kroes told reporters.

She said banks must "contribute adequately to the costs" and might have to be restructured in return for state help that could give them an advantage over more prudent banks that avoided problem assets. Paying the guarantee fee could involve a bank handing over shares to the state.

An insurance programme should require a bank to bear at least 10 per cent of initial losses and take on at least 10 per cent of additional losses, it said. Governments could also require banks to restrict executive bonuses or dividends in return for help.

Banks worldwide have written down some US$1.063 trillion in securitised mortgage, consumer and corporate debt since mid-2007, the EU said - US$293.7 billion by Europe-based banks, including US$68 billion by Swiss banks.

The International Monetary Fund says total losses could go higher, to US$2.2 trillion. Economist Nouriel Roubini, nicknamed 'Dr Doom', is even more pessimistic, predicting US$3.6 trillion in losses for the United States alone.

The European Commission could not give a figure for possible losses it sees in Europe.

Facing collapse

Banks that are overwhelmed by losses and would collapse without state help should be wound up or put into administration, the EU said.

It said banks and shareholders should, in general, bear losses, although governments could step in to take on assets temporarily, as banks seek rescue.

The EU guidelines allow each of the European Union's 27 nations to design their own rescue plan to deal with the assets if they want.

That would require banks to come clean about toxic assets and sets a standard for how they should be valued - based on current market rates, even if that is zero.

Banks would have six months to join an asset-purchase or guarantee programme.

A government can limit the costs by offering the plan only to a select number of banks - but the EU executive said it would be better to offer it to a country's entire banking sector.

It said this was preferable to nationalisation, where states take control of private banks and assume their risks. It says governments could also opt to create a 'good bank' to buy up healthy assets, leaving a troubled bank with the problem investments.

Rescue plans

The EU report says that uncertainty over how much these assets are worth has undermined confidence in the banking sector and weakened government rescue plans agreed last October.

"Much of the capital buffer provided (by governments) has been absorbed by banks in provisioning against future asset impairments," it said. Such companies, which take up money without lending back out, have already been tagged as 'zombie banks' in market jargon.

- AP