MADRID (Reuters) - Spanish banks should keep strengthening their solvency without further cutting credit, the International Monetary Fund said in a report on Monday, adding that capital and liquidity had improved since a European-backed rescue of the sector.

Spanish lenders took 41 billion euros (34.3 billion pounds) out of a possible 100 billion euros from the European Commission and the European Central Bank last year, to help the weakest banks gutted by a real estate crash five years ago.

The IMF, which is monitoring the financial assistance programme and visit, said implementation of reforms demanded as part that aid was on track, and that banks' efficiency had also improved.

But it warned that while economic output and unemployment were stabilising in Spain, in a positive sign for the country as a whole, the adjustment from a deep recession still posed risks for banks.

It said that improving banks' ability to lend was a priority, and that lenders should limit cash dividends and issue equity instead of cutting lending as they strengthen their solvency.

The IMF said that it was also key to keep improving supervision, as well as to promote sound governance.

It said the Spanish government should implement a planned reform of the savings bank sector in a timely manner and without watering it down.

(Reporting by Sarah White; Editing by Tracy Rucinski)

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