By Bondsquawk:

The ECB stated in its Financial Stability Review that banks may run into more loan losses through 2011 according to a Reuters article.

The European Central Bank warned on Monday that euro zone banks face up to 195 billion euros in a “second wave” of potential loan losses over the next 18 months due to the financial crisis, and disclosed it had increased purchases of euro zone government bonds.

As the euro recouped losses but remained on the back foot after a cut in Spain’s credit rating and China warned that the global economy remained vulnerable to sovereign debt risks, Spain assured investors it would reform its rigid labour market even if employers and trade unions cannot agree.

The ECB said euro zone banks would need to make provisions for further losses this year of 90 billion euros, and 105 billion in 2011, on top of some 238 billion euros in bad debts written off by the end of 2009. That was the first time it has given an estimate for next year.

Although total write-downs from bad loans and securities between 2007 and the end of 2010 were likely to be lower than previously expected, the ECB said in its latest Financial Stability Report, write-downs this year and next year would be still larger if heightened sovereign debt risk and the impact of government belt-tightening dragged down economic growth.

Higher loan losses basically puts banks back on the defensive where balance sheet repair becomes the ongoing focus as opposed to lending and money creation that is necessary to stimulate activity. Given increases in austerity measures which can cripple local demand coupled with slowdowns in other parts of the world, it is difficult to find sources that would spur economic growth for the Euro zone.