EU COMMISSIONER Charlie McCreevy has warned that governments risk prolonging the economic crisis unless they tackle “zombie banks” incapable of lending to companies.

He made the comments at the publication yesterday of new European guidelines on how EU states should deal with the billions of euro in “toxic assets” on bank balance sheets.

“These guidelines will help member states deal with impaired assets on banks balance sheets. If we don’t face up to this issue, then we risk prolonging the crisis with zombie banks that are incapable of performing a useful role in our economies,” said Mr McCreevy.

He added that member states needed to take a co-ordinated approach to the problem to prevent competitive distortions in the EU’s internal market.

The guidelines published by the European Commission leave up to governments how they choose to deal with such assets – for example, by setting up “bad banks” or asset insurance schemes or a combination of both. But they aim to ensure that such schemes do not result in unfair competition by outlining common principles in providing state aid.

Toxic assets are typically securitised financial products that are linked to the US subprime mortgage market that have become untradeable as homeowners default on the underlying loans.

In Ireland, the problem is principally linked to loans issued to developers, which are now turning bad as a result of the collapse of the property market.

Banks have so far been forced to write down billions of euro in losses on these types of assets. But economists estimate there could be several trillion euro worth of toxic assets held on global banks’ balance sheets, which has undermined confidence in the entire system and is preventing banks from lending money to firms and each other.

Economic and monetary affairs commissioner Joaquin Almunia said EU states in a weak financial situation would have to consider the likely impact on their government debt of tackling toxic assets. EU sources said this may limit Ireland’s ability to cleanse its banks of toxic assets through a so-called “bad bank”, which may force the State to issue debt to cover losses. An asset insurance scheme – similar to the one proposed by Britain – may be better, because losses would not be crystallised immediately, the source added.

The commission guidelines provide common methodology to states on how to value toxic assets, ensure adequate levels of remuneration for the state when aid is granted and cover the different ways governments can intervene to rid banks of their bad debts.

The commission said approval for asset-relief measures would be granted for a period of six months, and conditional on the commitment to present details of the valuation of the assets.