* Facing election, PM wants to help struggling borrowers
* Minister says to meet banks for talks on Thursday
* Tycoon warns radical steps will damage investor trust
* Banks, markets bracing for impact of government measure
By Marton Dunai and Krisztina Than
BUDAPEST, July 24 (Reuters) - Hungary's government, which faces an election next year, wants to phase out foreign currency mortgages, a minister said on Wednesday, but the country's top businessman said drastic action on the loans would hurt banks and scare off investors.
Prime Minister Viktor Orban has promised to help the hundreds of thousands of borrowers who took out cheap loans in Swiss francs, euros and Japanese yen and then lost out after the exchange rate shifted.
But the government plan is likely to hurt banks' bottom line and test the patience of investors, whose appetite for emerging markets is already waning now that the tide of cheap money from the U.S. Federal Reserves looks set to recede.
Orban has clashed in the past with the European Union and the International Monetary Fund over policies his critics say are rash and populist. He chaired a cabinet meeting on Wednesday to discuss how to help borrowers.
Economy Minister Mihaly Varga said afterwards the government had delegated him to hold talks with the Banking Association, an industry lobby. A spokeswoman for the association said a meeting was scheduled for Thursday.
"The government has decided that if possible the talks should point in the direction that foreign currency mortgages are phased out in Hungary," Varga said in a video posted on the government's Internet site.
"As to how, in what form and on what timeframe, this will obviously depend on the talks."
The forint currency was largely unaffected.
Hungary's foreign currency loans total about 12 billion euros, or roughly 12 percent of the country's economic output, and many of them were issued by foreign banks.
A powerful critic of the government's plans for the mortgages emerged on Wednesday when Sandor Csanyi, chairman and chief executive of Hungary's biggest lender, OTP Bank, spoke out for the first time on the issue.
He said Budapest had already inflicted pain on the banks by imposing "crisis taxes" and a previous round of relief for mortgage borrowers, and was now preparing a new measure.
"Such a new step would increase distrust (towards Hungary) and reduce banks' ability to attract capital," Csanyi said.
While banks were willing to discuss ways of helping borrowers, he said, they should not carry all the burden.
"I understand that people have got into untenable situations, but making it out like banks alone are to blame belongs in the realm of political marketing," he said.
Foreign lenders are also exposed. Austria's Raiffeisen and Erste, Germany's Bayerische Landesbank and Italy's Intesa Sanpaolo are among the big banks with businesses in Hungary.
Austrian banking sources said they were sceptical Hungary's government would keep them in the picture about its plans.
"There have been informal talks over the last days between the government and the banking association - but nobody dares to say what comes next," one of the sources told Reuters.
"The banks are not pleased. If things are going to happen as signalled, it might cost them a lot of money," said another.
Csanyi's entry into the debate is significant because until now he has had a close relationship with Orban and kept any disagreements out of the public eye.
Csanyi last week sold a big chunk of shares in his bank, alarming investors already nervous about the government's mortgage scheme and volatility in emerging markets. OTP's share price plummeted.
He said he did not know what the government was planning on forex mortgages and that his decision to sell OTP shares was not linked to it.
However, the bank boss, who has in the past shared bottles of wine with Orban at private meetings and sat next to him in VIP boxes at soccer matches, was unusually forthright in criticising people around the prime minister.
He took aim at Orban's chief of staff, Janos Lazar, who has compared the OTP chief to an over-powerful octopus with tentacles that reach into every area of Hungarian life.
"Some people clearly consider it an achievement to be mouthing off about me because then they appear brave. I'm thinking about Mr. Lazar," Csanyi said.