European bank shares fell sharply Thursday as renewed fears over the euro zone's debt problems combined with ongoing worries about the ability of some lenders to cope with fallout from the region's deepening economic problems.

Italian banks led the sector lower, with UniCredit SpA plummeting for a second day after it said its ?7.5 billion ($9.7 billion) rights issue would be discounted more than had been expected.

Thursday's 17% drop followed Wednesday's 14% slide.

Local rival Intesa Sanpaolo SpA fell 7.3%, while Italy's FTSE MIB index tumbled 3.7%.

Germany's Commerzbank AG slid 4.5% and Deutsche Bank AG tumbled 5.6%, after the UniCredit announcement reignited concerns that both banks might need similarly large capital increases.

French banks were lower despite the success of the country's first government-bond auction this year, pegged as a key litmus test for investor confidence. The government auction fetched ?7.963 billion, while bond yields remained little changed.

"The demand came in much higher than expected, especially for longer-term bonds," said Natixis analyst Cyril Regnat.

"Given the repeated warnings from credit agencies about imminent downgrades, this is a good comeback."

Markets have been braced for France to lose its triple-A rating after credit-rating firm Standard & Poor's warned in early December of downgrades across the euro zone due to concerns about the bloc's two-year-old debt crisis.

BNP Paribas SA, France's largest bank by market capitalization, dropped 5.4%, Société Générale SA slid 5.4%, and Crédit Agricole SA fell 5.2%.

Spanish banks came under pressure after the government said the sector will need to raise about ?50 billion in additional provisions to deal with rising bad property assets.

Finance Minister Luis de Guindos told the Financial Times that it is essential for banks to straighten out their balance sheets without burdening the nation's Treasury, an indication that the idea of creating a government-funded bad-bank structure is no longer on the table.

The finance ministry confirmed the comments made in the interview.

The country's banks are sitting on huge losses from the real-estate sector, which is reeling from the Spanish property crash.

Roughly half of the ?338 billion in total exposure to real-estate developers, some ?176 billion, is considered "problematic" by the Bank of Spain.

Caixabank SA fell 3.1%, Banco Santander SA declined 4.5%, and Banco Bilbao Vizcaya Argentaria SA lost 5%.

The smaller banks also fell, and Spain's benchmark index, the IBEX 35, dropped"The new provisions are higher than the amount that had been rumored in the press," said Javier Sanchez del Val, a trader at Banco Sabadell in Madrid.

Mr. De Guindos said in the FT interview, "In the great majority of cases, [the Spanish banks] can provide [provisions] themselves from their profits…and it could be done not in one year but over several years."

BPI bank analysts said the possibility for Spanish banks to book additional provisions over several years was positive for individual banks because it would spread the impact on earnings.

"Although it will dent banks' medium-term profitability, this would likely avoid a negative impact on core Tier 1 capital in the short-term in most banks," they said.

In a further sign of stress from Spain, the regional government of Valencia said Wednesday that it was a week late in repaying a ?123 million loan to Deutsche Bank.

The cost of insuring Spanish and Italian debt against default was higher. The annual cost of insuring $10 million of Spanish debt against a default in the next five years reached about $450,000.

The yield on Spain's 10-year government bond climbed to 5.663%, from 5469%.

The Italian 10-year yield clam,bered back above 7%, to 7.113%. Analysts say that funding rates above 7% aren't sustainable over the longer run.

Italy, the euro zone's third-largest economy, is a worry because it is considered too large to bail out.

In addition, the cost of insuring Hungarian debt against default rose to a new record high for the third consecutive day.

Market participants are increasingly nervous that Hungary's troubles could hurt some European banks that have large exposures in the country.