LONDON (Reuters) - Banks in the European Union face limits on taking market bets with their own money under a draft EU proposal that represents a central plank of attempts to prevent a repeat of the financial crisis of 2007 to 2009.
Policymakers want to rein in excessive trading risks in the EU banking sector, whose assets total some 43 trillion euros (35.94 trillion pounds), that could threaten depositors if trades go wrong and potentially put taxpayers on the hook in a rescue.
Yet the EU proposal, seen by Reuters on Monday, has already been described as a watered-down measure designed to ensure approval across the bloc and which is less rigorous than equivalent "Volker Rule" regulations being introduced in the United States.
Despite its language banning proprietary trading - where banks trade on their own account and not on behalf of a customer - one financial industry lobbyists called the proposal a "cop-out compromise".
The lobbyist said it gives countries like France and Germany leeway to avoid splitting up their big universal banks into separate deposit-taking and more risky investment banking operations.
Brussels had already signalled it would stop short of too radical measures given political unease over breaking up big banks and giving a competitive advantage to non-EU rivals.
The proposal is being finalised by EU financial services chief Michel Barnier, who will formally publish it as a draft law within weeks, with further changes possible before then.
"Barnier does not want to make any waves during the remainder of his term," one financial industry official said. Barnier's term ends when the current commission is replaced on October 31.
The proposal would apply to all the bloc's banks, but proprietary trading would only be banned at about 30 top lenders, defined as having total assets of more than 30 billion euros, or who are already deemed to be "globally systemic" such as Barclays (BARC.L), BNP Paribas (BNPP.PA) and Deutsche Bank (DBKGn.DE).
Proprietary trading is defined narrowly, so a bank can continue to trade on behalf of customers and make markets, or quote buy and sell prices in securities.
"Accordingly, desks, units, divisions or individual traders specifically dedicated to taking positions for making a profit for (their) own account, without any connection to customer activity or hedging the entity's risk, would be prohibited," the proposal says.
Some trading activities, like lending to private equity funds, deals involving derivatives and complex securitisations, and typically carried out for customers, may also have to be carved out into separate entities.
The United States has gone further and has just approved its Volcker Rule, which imposes a mandatory ban on leading banks from making bets on securities or other assets on their own account. The rule will take effect in July 2015, but is being challenged by U.S. banks in the courts.
With the European Parliament going to the polls in May and a new European Commission appointed by October, approval of what will be highly contested legislation is unlikely before 2015 and won't take effect until about 2017.
Barnier's proposal seeks a pan-EU approach that would allow national initiatives in the pipeline to continue, and draws on a report from Finnish central bank governor Erkki Liikanen.
Liikanen recommended a mandatory separation of a bank's deposit-taking activities from significant proprietary trading, but France, Britain and Germany, representing a large chunk of EU banking assets, have already taken unilateral steps to tackle risks from trading.
Britain, for example, is introducing its "Vickers" reform which requires deposit-taking arms of banks to be ring-fenced, or protected with an extra cushion of capital.
The EU proposal sets out "derogations" or exemptions from an automatic proprietary trading ban, so Germany, for example, won't have to necessarily physically split up Deutsche Bank.
Exemptions would be allowed if a national supervisor introduces special measures to ensure the effective separation of certain activities to prevent financial instability, a wording financial experts say gives countries leeway.
Alexandria Carr, a regulatory lawyer at Mayer Brown in London, said Barnier was seeking a compromise with everyone.
"It (the measure) seeks to compromise between Volcker and Vickers, to compromise between the lobbying of the consumer associations and the financial sector, and to compromise between the positions of the UK on one hand and France and Germany on the other," said Carr.
"It remains to be seen whether the proposal that the Commission publishes will take a more defined position but, on the present draft, the concern must be that in seeking to please everyone, the Commission will please no-one," Carr said.
Some financial experts have also interpreted the proposal as exempting huge banks like HSBC (HSBA.L) because of its global structure based on country-focused subsidiaries.
The proposal also seeks to stop banks from circumventing any ban by preventing them from holding stakes in hedge funds that could take trading bets on their behalf. ($1 = 0.7330 euros)
Editing by David Holmes