Nov. 14 (Bloomberg) -- Spanish banks may be limited to euro- denominated debt if they apply to sell bonds guaranteed by the government this year.

Banks won't be able to issue bonds in dollars, yen and pounds before year-end under the government's 200 billion-euro ($254 billion) program, according to a provisional Finance Ministry plan seen by Bloomberg News. Potential issuers are pushing for this and other restrictions to be eased, three people involved in discussions with the government said.

``Banks may face higher borrowing costs if all the issues have to be denominated in euros, considering the competition,'' said Luis Maglanoc, head of credit research at Unicredit SpA in Munich.

European leaders agreed to guarantee bank debt at a summit on Oct. 12 to ease pressure on financial companies as money- market rates hit record highs. Spain is also spending as much as 50 billion euros buying bank assets to encourage lending after the economy contracted in the third quarter.

Spain will guarantee as much as 100 billion euros of bank bonds by Dec. 31, and another 100 billion euros in 2009, according to the government's proposals. The program should be up and running before the end of the month, and banks will have 45 days after the guarantee is approved to sell their bonds, according to the draft.

Case of Default

Should a bank default on its commitments, the government will only pay interest after the debt's maturity, the draft says. Bankers are asking the government to stand behind coupon payments as soon as an issuer defaults, according to the people familiar with the talks. Banks with a higher proportion of the lending market will be able to borrow more, the draft rules state.

Currencies other than the euro account for 10 percent of bonds sold by Spanish banks since January 2004, according to data compiled by Bloomberg.

A Finance Ministry spokeswoman in Madrid declined to comment on the draft proposals. A spokeswoman at the Spanish Banking Association also declined to comment.

Under Spain's plan, banks will be able to borrow for as long as three years under normal circumstances, and five years in exceptional cases. Banks that use the facility may be charged a fee of 50 basis points plus the cost of five-year credit-default swaps, contracts conceived to protect bondholders against default, or an equivalent measure, Finance Minister Pedro Solbes said Nov. 8. A basis point is 0.01 percentage point.

To contact the reporter on this story: Esteban Duarte in Madrid at eduarterubia@bloomberg.net

Last Updated: November 14, 2008 09:53 EST