-- Paul Taylor is a Reuters columnist. The opinions expressed are his own --
By Paul Taylor
LONDON, June 30 (Reuters) - German lawmakers are cooking up a bad deal on bad banks for the country's troubled Landesbanks, which may allow the public banks controlled by federal states to wriggle out of a promise to consolidate.
Finance Minister Peer Steinbrueck fought for months to wring a pledge from state premiers this month to restructure and merge the Landesbanks by the end of next year as the price for federal guarantees of a special bad bank into which they would dump tens of billions of euros in toxic assets.
Germany's seven Landesbanks are generally felt to be too small to compete with private-sector commercial banks and have a history of poor underlying profitability and excessive risk-taking.
As the clock ticks for parliament in Berlin to approve the legislation on Friday before the summer recess, coalition lawmakers are set to amend the bill to allow each German state to set up its own special purpose vehicle. That would allow states that so wish to find their own solution to the bad debts of their own bank without federal money, hence removing the legal compulsion to consolidate.
In the words of one negotiator, it would make the state premiers' promise to accept consolidation "not worth the paper it was printed on".
The Landesbanks, partly owned by local and regional savings banks, are discredited in many eyes because they strayed so far from their mandate to finance regional economic development. Some dabbled recklessly in U.S. mortgage-backed securities and other "Schrottpapiere" (scrap paper).
But wealthy conservative-governed southern states Bavaria and Baden-Wuerttemberg are determined not to cede control over their Landesbanks, which may have racked up huge losses but are a major source of patronage and a local economic policy lever. They have support from Hesse, Schleswig-Holstein and Hamburg. Another concern may be valuing these assets at a time when bank valuations are generally low and asset prices remain uncertain.
At stake is also the balance of power between the federal government and the states, fighting to preserve their autonomy.
This does not mean the Landesbanks are off the hook just yet. The European Commission has already forced WestLB, the largest and most troubled of the state banks, to agree to merge or be sold off by 2011 as a condition for state rescue aid. It gave only temporary approval on Tuesday for a 5 billion euro bailout of Landesbank Baden-Wuerttenberg, pending a six-month in-depth investigation into its compliance with EU rules.
Brussels may yet set similar conditions for LBBW and prove more effective than Berlin in forcing consolidation and, eventually, privatisation of the Landesbanks. It would be doing the German economy a favour if it does so. (editing by David Evans)