Senior European officials have recently raised the prospect of an EU-wide “bad bank” as a comprehensive way to clear a financial system strangulated by bad loans.

Voices such as the head of the European Banking Authority, the vice president of the European Central Bank and the head of the eurozone’s bailout fund have all publicly raised the prospect of creating a bank that would help wipe lenders’ of their non-performing loans.

A bad bank would buy up billions of euros of toxic loans from national lenders, aiming to break a vicious circle of falling profits, squeezed lending and weak economic growth.

But rating agency Fitch has waded in on the debate over creating “asset management companies” as they are known, warning of a plethora of legal and political hurdles encountered by a potential EU-wide scheme.

One of the biggest problems will be navigating the EU’s legal framework on bailouts and state aid, which prohibit taxpayer money being used to offset losses at failing banks.

Analysts at Fitch admit that hiving off non-performing loans into a bad bad would be “positive for banking systems in countries with large volumes of non-performing loans (NPLs), helping banks to clean up balance sheets and reducing earnings volatility”.

Europe’s NPL problem is most acute in its low-growth economies. In Greece and Cyprus, around a half of all loans are non-performing, accounting for a third of all banking sector assets. Italy meanwhile accounts for a quarter of the bloc’s total bad loans at €276bn – the highest ratio of failing assets of any major economy in the single currency area.

Fitch also pointed to likely German opposition to pooling EU-wide taxpayer funds to help out banks across the eurozone. Berlin has also dismissed any suggestions of eurozone-wide deposit insurance until it has more robust safeguards that its taxpayers will not be footing the bill for weak European banks in the southern member states.

Looking forward, Alan Adkins, group credit officer at Fitch, said European governments were more likely to set up “blueprint” bad banks at a national, rather than EU wide level.

“Depending on its size and nature, state support could increase pressure on some sovereigns’ finances, especially if it causes official debt statistics to worsen”, said Mr Adkins.

Last month, Andrea Enria of the EBA kicked off a renewed debate over a European bad bank calling it for an “urgent and actionable” solution to Europe’s €1tn toxic loans problem.

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