* Top court asked watchdog's opinion on fx loan lawsuits vs banks
* Watchdog warns any blanket ruling could undermine banking system
* Court to rule on foreign-currency loan case on June 25
By Sandor Peto
BUDAPEST, June 18 (Reuters) - Hungary's financial watchdog PSZAF has warned the country's top judicial authority against passing a blanket ruling on lawsuits launched by foreign-currency debtors against their banks, saying it could undermine the entire financial system.
Given the huge amount of such loans in Hungary, a ruling declaring all contracts void or changing them markedly could hammer the financial system, the watchdog said in a May 31 letter to the Kuria, which is now effectively the country's supreme court.
The Kuria is due to try on June 25 one lawsuit launched against banks by foreign-currency loan holders, whose debt costs have surged due to a plunge in the forint after the 2008 global crisis.
The Kuria, the judicial body that ensures the uniform application of law by Hungarian courts, sent questions about foreign-currency lending to the watchdog. The letter by PSZAF chairman Karoly Szasz is the watchdog's response, and was posted on its own website.
A spokeswoman for the Kuria confirmed receipt of the letter and also confirmed that it would discuss a case on June 25.
Some borrowers have won and some have lost in similar lawsuits brought to lower courts.
The watchdog said lending in foreign currencies was not illegal when the deals were struck. Some contracts may be legally challenged but the courts should decide on them one by one, it said, adding that radical, en masse interference could put such a huge burden on banks that they could be unable to repay deposits under the worst case scenario.
"This is not about helping foreign-currency loan holders or about the profits of banks. It's rather about the possibility of a potential bank run (which in an extreme case could even lead to a default on state debt)," Szasz said in his letter.
"In other words, the current problem of one or two hundred thousand foreign-currency loan holders could escalate into the future problem of millions of depositors, and that can't be the goal," it added.
If all foreign-currency mortgages were to be annulled, with debtors having to repay them in forints at the original exchange rate, the banking system could in theory immediately lose 70 percent of its capital, the watchdog said.
It added that most households would not be able to repay their loans.
Many households in the country of 10 million are reeling from increased repayments of Swiss franc and euro loans despite government programmes that have forced banks to accept repayments at exchange rates well below the market.
Hungary's mostly foreign-owned bank sector has suffered heavy losses due to these measures, which have nevertheless not halted a rise in loan defaults. (Reporting by Sandor Peto; Editing by Hugh Lawson)