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EU Questions French Plan for Municipal Lending Amid Dexia Probe

European Union regulators questioned French plans for a takeover of the Dexia SA unit that finances public-sector loans as last year’s collapse of the banking group threatens to affect municipal lending in the country.

Dexia’s resolution plan, which requires regulatory approval under EU state-aid rules, includes a takeover of the French covered-bond unit Dexia Municipal Agency by a new lender that will be controlled by the French state, government-owned Caisse des Depots & Consignations and La Banque Postale SA.

“The aid received should not be used to allow the perpetuation of the failed business model at the level of DMA,” the European Commission, the EU’s Brussels-based antitrust agency, said in a statement yesterday. “Any other alternative” would be “less distortive of competition and less costly” for the governments.

Dexia was forced to seek a second government rescue in three years after losing access to unsecured funding in September. Its collapse also threatens to undermine investor appetite for its covered bonds backed by a pool of mostly public-sector loans, which provided as much as 64.4 billion euros ($79.6 billion) of funding for Dexia’s municipal-lending business at the end of last year.

Moody’s Investors Service stripped Dexia Municipal Agency’s covered bonds of their Aaa rating on Dec. 16 and downgraded the securities once more to Aa2 from Aa1 on April 18. Standard & Poor’s has put its AAA rating on the covered bonds on “negative watch,” or review for a downgrade.

Joint Venture

Dexia Municipal Agency would provide the funds for a joint venture of Banque Postale and Caisse des Depots that would replace Dexia Credit Local SA as France’s municipal lender.

Under the terms of the deal now questioned by the EU regulators, Dexia has to provide some loss guarantees on 10 billion euros of structured loans to French municipalities. In return, the French government agreed to guarantee 70 percent of the potential losses exceeding 500 million euros on those loans.

The transaction would free 12.5 billion euros of funding to be replaced by loans from France’s Caisse des Depots & Consignations, Dexia said on Feb. 23.

Dexia also received a four-month extension of temporary funding guarantees from Belgium, France and Luxembourg as the European Commission extended its state-aid probe.

The 45 billion euros of government backstops that were due to expire yesterday have been extended until Sept. 30. Dexia has tapped as much as 44.8 billion euros of the temporary guarantees and still has 21.6 billion euros of additional government-backed debt outstanding from an earlier 2008 agreement, Belgian central bank data show.

Guaranteed Bonds

Dexia has used most of the proceeds from selling guaranteed debt to redeem unsecured loans provided by its former Belgian banking unit and to reimburse part of emergency central-bank loans, which still amounted to about 12 billion euros in early May, according to Chief Executive Officer Pierre Mariani. The lender is seeking additional government backstops as it needs to put up more collateral to shield its counterparties in interest-rate swap contracts from losses following a decline in long-term interest rates.

Benoit Gausseron, a spokesman for Dexia in Paris, declined to comment, as did Rik Otten, a spokesman for Belgian Finance Minister Steven Vanackere. The French Finance Ministry didn’t respond to a telephone call seeking comment.

EU regulators also said they are seeking more information from the governments about Arcofin CVBA’s share in the 6 billion-euro rescue of the bank in October 2008. Arcofin, which spent 350 million euros to help shore up Dexia, may have enjoyed state aid, the commission said.

The Arco cooperatives, which took loans from Dexia Bank Belgium SA to help finance the stock purchase, are now being liquidated and have been given access to Belgium’s deposit guarantee fund following the collapse of Dexia last year to shield their private cooperative holders from losses.

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