By Eva Kuehnen and Alexander Hübner
FRANKFURT (Reuters) - The vice president of Germany's Bundesbank has proposed setting limits for how much banks can lend to governments and backing such exposures with adequate capital to make them less reliant on taxpayers' help in crisis times.
Sabine Lautenschlaeger, who is also a member of the Basel Committee on Banking Supervision which wrote the new global banking standards known as Basel III, told Reuters current regulation was setting the wrong incentives.
During the debt crisis, banks especially in troubled euro zone countries like Spain and Italy increasingly bought government debt and under Basel III they don't have to set capital aside to counter possible default risks.
"In the medium term for sovereign debt, there should be limits for overall exposure and capital should be required, which adequately reflects the risk," Lautenschlaeger said. "Regulation so far is setting the wrong incentives."
"But it has to be done with caution, for example with transition periods, because credit institutions and states need time to adjust," she added. "In the end, such a step would strengthen banks' resilience and thereby markets' confidence."
Another step that would boost confidence would be a swift implementation of Basel III, which world leaders approved in late 2010 and that now needs to be put into domestic law.
"It is very important that Basel III is implemented as soon as possible, I would like it to be next year. Whether it will be summer or winter is not that important," she urged lawmakers.
Europe and the United States, the world's two largest banking markets, will miss the globally-agreed January deadline.
Lautenschlaeger said her U.S. colleagues in the Basel Committee had stressed that they wanted to implement Basel III, but they hadn't been able to give a date when they would do so.
Lautenschlaeger's calls for a cap on banks' exposure to government debt echoes earlier comments by Bundesbank President Jens Weidmann, who had raised the issue back in November as a means to break the negative feedback loop between indebted states and troubled banks.
The planned banking union also aims to address the close tie by putting a new European banking supervision regime under the roof of the ECB, as well as with a scheme to wind down banks and a combined means of deposit protection to prevent bank runs.
Lautenschlaeger praised the agreement struck earlier this month to put the ECB in charge to directly police at least 150 of the euro zone's biggest banks from 2014 and intervene in smaller banks at the first sign of trouble.
But she questioned whether the new supervisory body's proposed operating structure was in line with EU law.
"To my understanding, the ECB Governing Council should only be able to approve or reject proposals made by the supervisory board; it should not be able to include own ideas. Beyond that an arbitration committee was introduced," she explained, adding that this was done to separate supervisory and monetary policy.
"It is questionable whether this is possible under EU law, and whether it is justified that the ECB Council will be responsible for administrative decisions without direct scope for influencing them," Lautenschlaeger said.
German magazine der Spiegel reported earlier this month that the Bundesbank had serious reservations about the legal framework.
(Reporting by Eva Kuehnen and Alexander Huebner; editing by Patrick Graham)