EU Gives Spanish Banks the Thumbs Up

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Spain's banking aid program is on track and its economy is stabilizing, despite the difficult macroeconomic conditions, the European Commission (EC) said on Wednesday.

In its third review of Spain's financial assistance package, designed to support the country's ailing banks, the EC said there was no need for further aid to recapitalize its State-aided banks. Spain requested financial assistance in June last year and a deal with the Eurogroup was formally agreed in July. The country has so far received €41.3 billion ($52.91 billion) to support its banking sector.

"On the basis of this review it can be concluded that the programme remains on track, despite significant macroeconomic challenges… There is at present no reason to foresee further programme disbursements," the report said.

But the EC did warn of the fragility of the progress."The positive trends in the stabilization of the Spanish financial sector need to be maintained and the close monitoring thereof should continue," it said.

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"The completion of the burden sharing measures and the continuous monitoring of the evolution of asset quality and of the solvency situation of Spanish banks are particularly important at this stage of the program."

The report highlighted that Spain's financial markets had stabilized since the EC's last review, with bond yields starting to fall. The liquidity situation of Spanish banks had also improved, its aid, given the recapitalization across parts of the banking sector and the transfer of assets to SAREB, Spain's so-called "bad bank" which takes assets off the books oft he country's four nationalized banks.

But the EC said that making a profit in the difficult economic environment was a "major challenge" facing the country's banks.

"The resilience of the banks in the current adverse economic situation depends essentially on their capacity to generate pre-provisioning profits that can off-set a further deterioration in asset quality and deal with the effects of regulatory changes," it said.

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The report should make welcome reading for Prime Minister Mariano Rajoy, who has been facing renewed political turmoil amid an ongoing corruption scandal.

Spain's El Mundo newspaper reported on Tuesday that it had presented the Spanish High Court with documents that showed payments were made from an illicit "slush fund" to leading members of the ruling People's Party, including Rajoy.

It led analysts to warn of the possibility of early elections due to the scandal,which could cause further market instability in Spain.

(Read More: Spain Scandal Returns, as Markets Brace for More Pain)

With regards to boosting economic growth in the country, the EC identified unemployment as a crucial issue.

"Very high unemployment remains one of the most pressing policy challenges," the EC said, adding that it had hit labor-intensive sectors like construction and the public sector especially hard.

Spain's unemployment hit 27.2 percent at the beginning of 2013, with over 55 percent of the country's young people out of work.