The European Central Bank, after suffering a political backlash, is considering shelving planned rules that would have forced banks to set aside more money against their stock of unpaid loans.
The guidelines, which were expected by March, had been presented as a main plank of the ECB`s plan to bring down a 759 billion euro ($930 billion) pile of soured credit weighing on euro zone banks, particularly in Greece, Portugal and Italy.
The ECB was now considering whether further policies on legacy non-performing loans (NPLs) were necessary "depending on the progress made by individual banks", an ECB spokeswoman said.
No decision had been made yet and the next steps were still being evaluated, she said.
Central Bank sources told Reuters that if the rules were scrapped, supervisors would look to continue putting pressure on problem banks using existing powers.
An alternative would be to hold off until the results of pan-European stress tests are published in November but this would be close to the end of Daniele Nouy`s mandate as the head of the ECB`s Single Supervisory Mechanism at the end of the year.
The SSM board will discuss the matter at a meeting next month, with a final decision expected in June, one source said.
A clean-up of banks` balance sheets from toxic assets inherited from the financial crisis is a precondition for getting countries like Germany to agree on a common euro zone insurance on bank deposits.
And Andreas Dombret, the outgoing Bundesbank director in charge of banking supervision, said in an interview published on Monday that the ECB`s credibility was at stake.
"One cannot say that NPLs are one of the biggest risk for the European banking sector and a top priority and then fail to act," he told Boersen-Zeitung.
"It`s about the credibility of the SSM," he said, calling for a "timely proposal".
But the ECB has received push-back on a separate set of guidelines on loans that sour in the future from several members of the European Parliament, particularly from Italy, and lobbyists.
These give banks seven years to provide for new bad loans that are backed by collateral and two for those that are not.
The ECB`s original plan envisaged applying similar guidelines to the stock of existing bad loans but this looks increasingly unlikely, the central bank sources said.
Lawmakers had objected that the ECB was encroaching on their prerogatives by passing rules that apply to all banks, rather than working on individual cases.
Eventually, these rules on the so-called "flow" of loans that sour were announced in somewhat softened form last month.
But an impact-assessment study by staff in the ECB`s monetary policy arm, which simulated the application of the "flow" rules on the full stock of unpaid loans currently sitting at euro zone banks, highlighted risks to the financial system.
The SSM, which is formally separated from the rest of the ECB, had come up with a more benign outcome by assuming banks would continue reducing their stock of bad loans, as they have done for the past two years.
This has been the result of pressure from the ECB as well as a brisk economic upswing in the euro zone, which has helped borrowers as well as luring buyers for those loans.
($1 = 0.8176 euros)
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