By Simon Johnson, John O'Donnell and Marie Mannes

STOCKHOLM/FRANKFURT Sweden's government is ready to step in to stem the fallout from a property rout if tumbling prices cause a wider crisis - a potential harbinger of trouble across Europe.

High debts, rising interest rates and a wilting economy has produced a toxic cocktail for Sweden's commercial property companies, with several cut to junk by rating agencies.

House prices are also down by around one-fifth since their March 2022 peak, according to the Organisation for Economic Cooperation and Development (OECD), reflecting soaring mortgage costs.

Swedish Financial Markets Minister Niklas Wykman told Reuters the state has the financial clout to prevent a property market plunge from engulfing the country, one of Europe's wealthiest, and its banks.

"There is a preparedness to act," he said.

"If ... more accidents happen ... or ... new risks are revealed ... or threats to the financial system arise, then the most important thing from a stability perspective is to have a broad tool box ... which the state can use."

Concerns about the property sector are already weighing on the currency, while investors are wondering if Sweden is only the first domino to fall in Europe.

Sweden and Germany are among the worst affected by a widening property slump on the continent, according to Eurostat.

Earlier this week, the OECD warned of 'financial stability risks' in Sweden, pointing to banks' heavy lending to property companies and homeowners, most of whom have floating-rate mortgages that move in lock-step with rising interest rates.

Although Wykman did not outline how his government could act and emphasised that banks were "profitable and stable", his comments underscore growing worry in Stockholm.

In the early 1990s, the collapse of a Swedish housing bubble triggered the nationalisation of two banks, the bailout of a third and a devaluation of the Swedish crown, plunging the country into a deep recession.

"It is clear that Sweden has low government debt and the ability to react if a crisis ... were to develop," said Wykman.

SCRAMBLE

Property is the lynchpin of the Swedish economy, making up 80% of household debt. Weighed down by home loans, Swedes are twice as heavily indebted as Germans or Italians.

Commercial real estate makes up 18% of bank loans, according to the OECD, more than three times the level in Spain or Ireland.

Swedish officials are worried that banks could compound property companies' troubled by cutting credit, triggering firesales that would further drag down the market.

One of Sweden's biggest landlords, SBB, is at the centre of the spiral. It is scrambling to salvage its finances after recently seeing its credit rating downgraded to junk.

The company was founded by a former social democrat politician, Ilija Batljan, who built up vast debts, buying public property including social housing, government offices, schools, hospitals, police stations and an army facility.

Hit by soaring interest rates that forced the company to cancel its dividend and scrap a share issue, SBB is now hunting for a buyer of all or parts of its business after Batljan was forced to step down.

SBB had 81 billion Swedish crowns ($7.6 billion) of debt as of March, with around 15% of it maturing within one year.

The company told Reuters it had taken steps to strengthen its liquidity position, including selling a stake in a construction firm.

But SBB's problems, which some analysts blame in part for Sweden's sinking currency, are causing alarm in Stockholm. Its ownership of swathes of public property, puts a question mark over the provision of government services.

Coupled with falling property prices and rising mortgage costs, the crisis also threatens a voter backlash against a government already under pressure over a rising tide of gang violence.

Financial markets minister Wykman said he had held discussions with banks, property companies and investors about the entire commercial property market.

This week, analysts at JP Morgan said big banks in Sweden, which had 1 trillion Swedish crowns of property exposure, were 'ill-prepared' for losses.

The four main banks in Sweden played down any threat. Swedbank told Reuters it had been careful in lending. Finland's Nordea said its loans were strong and well diversified.

SEB said it was "strong" and its credit quality "robust". Handelsbanken referred to a recent presentation, where it said that its property lending was conservative and diversified.

"When it comes to the commercial property side, clearly there are contagion risks," Wykman said, without singling out individual companies.

"It could be that one or more company sells assets. It leads to other companies having to revalue assets and that can, in turn, mean that more companies need to make changes."

($1 = 10.7316 Swedish crowns)

(Additional reporting by Chiara Elisei and Sinead Cruise in London; Writing By John O'Donnell; Editing by Toby Chopra)