Spain's medium-term borrowing costs spiralled to a Euro-era record on Thursday and independent auditors said Spanish banks may need up to 62 billion Euros in extra capital, to be filled mostly by a Euro zone bailout.
Euro zone finance ministers met in Luxembourg to discuss how to channel up to 100 billion Euros in aid to Spanish lenders weighed down by bad debts from a burst property bubble. The bailout was first agreed two weeks ago, but details of exactly how much is needed and how it will be distributed is still being hammered out.
Many in the markets see the package as a mere prelude to a full program for the Spanish state, which Madrid vehemently denies it will need.
We have already started working on the design of the aid with the Commission, the European Central Bank and the International Monetary Fund, Spanish Economy Minister Luis de Guindos told reporters as he arrived for the talks. We will present the request in the next few days.
Spain's financial plight took centre stage a week before a European Union summit tackles long-term plans for closer fiscal and banking union in a bid to strengthen the Euro foundations, after bailouts for Greece, Ireland and Portugal failed to end a 2-1/2-year old debt crisis.
To pave the way, the leaders of Germany, Italy, France and Spain will meet in Rome on Friday.
Two independent audits by consultants Roland Berger and Oliver Wyman found that Spanish banks would need between 51 and 62 billion Euros in extra capital to weather a serious downturn in the economy and new losses on their books.
The Bank of Spain said the 100 billion Euros offered to Madrid gave a wide margin to correct these capital needs. Spain's three biggest banks would not need extra capital even in a stressed scenario, it said.
The government said it did not expect to shut down any banks and preferred to restructure those in difficulty. European Competition Commissioner Joaquin Almunia has said at least one bank may have to be wound down.
In Luxembourg, officials said the finance ministers decided Spain could initially apply to the Euro zone's temporary rescue fund, the European Financial Stability Facility, for the money, with the loan taken over by the permanent bailout fund the European Stability Mechanism (ESM) once it is up and running after July 9.
This was decided informally, because there is no formal request from Spain yet, one Euro zone official said.
Such a solution avoids a problem which had scared investors. Debt issued by the ESM must be paid back first in case of a Spanish default, relegating private creditors down the pecking order. Because the new bailout debt will originate from the EFSF it will be issued without the ESM seniority requirement.
Earlier on Thursday, Madrid sold 2.2 billion Euros in medium-term bonds, drawing strong demand almost entirely from domestic banks. Yields on 5-year paper rose to a 15-year high of 6.07%, a level regarded by analysts as unaffordable for any prolonged period.
The Spanish yields contrasted with a French auction at which the yield on 5-year benchmark paper hit an all-time low of 1.43%.