WASHINGTON — Just as the housing sector appears to be recovering, gathering problems in the commercial real estate market threaten to become a new drag on the economy.

The collapse in home prices sunk many big banks last year, but this year smaller lenders and community banks are going bust at an alarming rate because of their exposure to souring commercial real estate loans.

At least 115 banks have failed this year, many because of their exposure to deteriorating commercial loans for retail space, office buildings and industrial parks. As of June 30, another 416 institutions the Federal Deposit Insurance Corp. was monitoring as "problem" lenders.

How dire is it? Unable to find enough sound banks to acquire failing banks, the FDIC relaxed its rules earlier this year to allow private-equity funds to bid for troubled lenders.

Banks hold about 50 percent of all outstanding commercial real estate loans, many of them smaller regional players. Another 20 percent of commercial real estate loans have been pooled together by investment banks and sold as commercial mortgage bonds, which also are experiencing high default rates.

The rising rate of delinquency and default in commercial real estate jeopardizes efforts by the Treasury Department and the Federal Reserve to get much-needed lending flowing again.

"When you ask people at the Fed what the biggest worries are, this (commercial real estate) is at the top of their list," said Laurence Meyer, a Fed governor from 1996 to 2002. "The danger here is not the direct macroeconomic impact but the potential impact on the safety and soundness of the banking system."

After the political uproar over last year's $700 billion taxpayer bailout of banks, however, there's little appetite in Congress for additional taxpayer rescues of financial firms of any size. So regulators late last week attacked the problem another way: They encouraged banks to modify the terms of their commercial real estate, or CRE loans.

"While CRE borrowers may experience deterioration in their financial condition, many continue to be creditworthy customers who have the willingness and capacity to repay their debts," the joint guidance from bank regulators said.

Regulators also relaxed reporting requirements so that small and mid-sized banks don't have to value these loans at today's deflated real estate prices.

"One of the problems was that even performing commercial real estate loans, where the borrower is still making payments, were being forced to be partially written down," said Paul Merski, the chief economist and senior vice president for the trade group Independent Community Bankers of America.

That group would like to see some of last year's bailout money given to smaller banks, under less onerous terms, since community banks are suffering from the broad economic downturn, not their own reckless behavior.

"The government has been picking winners and losers, and in many cases the losers have been too small to save," Merski said. "We've been asking for some fairness in that whole process."

Smaller banks' problems create problems for small businesses. Small firms depend on local and community banks for loans, so the deteriorating commercial loan environment hurts employment, since small businesses do most of the hiring nationwide.

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