ANALYSIS-Lending, not subprime, real worry for Japan banks

By David Dolan

TOKYO, Dec 3 (Reuters) - The U.S. subprime credit crisis has slashed Japanese banks' earnings and pushed their already lacklustre share prices even lower, but lenders aren't likely to see relief without an improvement in loan demand.

On top of subprime-related losses, large banks such as Mitsubishi UFJ Financial Group Inc (8306.T: Quote, Profile, Research, Stock Buzz), and Sumitomo Mitsui Financial Group Inc (8316.T: Quote, Profile, Research, Stock Buzz) are bruised by slower lending, weak fee income and ties to the troubled consumer finance sector.

The banks have also been unable to pass on interest rate hikes to customers due to cut-throat competition, putting pressure on interest margins.

"It's hopeless," said Kristine Li, bank analyst at KBC Securities, when asked about the outlook for Japan's lenders.

"Their main banking businesses are not growing ... Before we hoped they could grow their earnings after the (Bank of Japan) brought interest rates to a normalised level."

Investors seem to agree, sending Tokyo's bank index to a three-year low last month, although it has since recouped some losses. For the year, banks are down about 21 percent, against a 9 percent drop in the TOPIX index .

Analysts said growth of the banks' net interest income, a measure of earnings from lending, has been razor thin.