(Adds details throughout)
By Adam Tanner
BELGRADE, Feb 21 (Reuters) - Montenegro's central bank has relaxed restrictions on the country's largest domestic bank Prva Banka to allow limited lending, the regulator said on Monday.
The central bank's previous governor Ljubisa Krgovic -- since dismissed -- halted Prva Banka's lending activity in early 2009 because of its high percentage of non-performing loans.
The bank's largest shareholder is the family of ex-Prime Minister Milo Djukanovic and some rival banks and outside analysts had alleged government favouritism, including in placing deposits with the bank.
A central bank official who did not want to be named said the bank, the largest locally owned institution in a market dominated by European banks, would now be able to resume loans under limited circumstances.
Krgovic was replaced as governor in October after parliament passed legislation ending his mandate, a move that some banking officials and analysts saw as undermining the central bank's independence.
His successor, Radoje Zugic, held various board titles with Prva Banka between 2008 through August 2010 when he was appointed to his new job.
In a statement, the central bank said the overall banking sector still faced some weaknesses, but was experiencing a better outlook in terms of stability, liquidity and solvency.
"The council has considered the consolidation measures of Prva Banka and stated that they are fully in accordance with the law, and gave the central bank's full support in taking further measures to consolidate the bank," the central bank said.
Montenegro's banking sector enjoyed a boom in the mid 2000s as investors, including many from Russia, bought real estate along the country's scenic Adriatic coastline and made other investments. The 2008 financial crisis led to a sharp economic downturn and a surge in non performing loans.
"The banking sector has proved one of the Achilles heels of the economy," Jan-Peter Olters, head of the World Bank in Montenegro, said in a recent interview. "It is probably the single biggest obstacle to growth."
A subsidiary of Hungary's OTP Bank (OTPB.BU) is the largest in Montenegro. Other major local players include NLB [LJUBB.UL] and Hypo Group.
Editing by Ruth Pitchford