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* EBA sticks to capital buffer target
* Dividends, bonuses at risk if banks fall short
By Huw Jones and Steve Slater
LONDON, Oct 3 (Reuters) - The European Union's banking watchdog is sticking to a capital target for banks to help shield them from the euro zone debt crisis, saying lenders that fall short won't be able to pay dividends or big bonuses.
Dousing banks' hopes that the European Banking Authority (EBA) would lessen its demands, the London-based regulator said on Wednesday banks had to maintain a capital buffer equivalent to 9 percent of their risk-weighted assets indefinitely.
Some banks have complained the capital requirement, combined with other regulatory restrictions imposed since the credit crisis, is preventing them from lending to companies and households, forcing them instead to pull back their loans.
The so-called core Tier I capital ratio is seen by markets as a key indicator of a bank's strength. Most banks saw this sapped by the credit crunch that started in 2007 and was closely followed by the euro zone debt crisis.
New global Basel III bank capital rules will be phased in from January and the 9 percent is well above the 3.5 percent banks should have at the start, meaning they had hoped to run down their ratios initially.
However, Basel's much tighter definition of what can be included in the capital buffers means some banks meeting the EBA's 9 percent target may still need to find more capital to meet these stricter rules being phased in over the next 6 years.
The EBA said that following its "stress test" of the industry in 2011, banks in the EU have collectively raised 205 billion euros in new capital and that had not significantly reduced their lending.
EU banks had to meet the EBA's 9 percent target by June, but the regulator said four lenders failed: Italy's Monte dei Paschi ; Cyprus' Marfin Popular Bank and Bank of Cyprus; and Slovenia's NKBM.
"It's an important step forward but there's still some way to go. The capital raised needs to stay in the system," EBA Chairman Andrea Enria told Reuters.
"After the efforts made to get here we don't want to see the capital being released so that there's a mountain to climb to get to the final target of Basel III," Enria said.
Early in 2013 each bank will be formally told the value of capital in euros that will effectively be put under supervisory lock and key so that dipping into it would trigger a clampdown on dividends, share buybacks or staff compensation.
The EBA also refused to relax how much banks must set aside to cover their exposures to euro zone government debt, some of which has been downgraded sharply, saying stability has yet to return to bond markets. The EBA has been criticised for not spotting problems at banks in Ireland and Greece in the past, and in Spain in its latest capital exercise.
"One is left with the impression that there is still a great deal to be done in order to bring the EU banking sector as a whole into line with internationally agreed capital standards," said Michael Wainwright, partner at law firm Eversheds.
Enria said the EBA and national supervisors will require each bank to spell out their "glide path" to meeting the Basel III requirement by 2019.
"If they derail from the path ... there are supervisory actions bringing you back on track," Enria said.
Turning to day-to-day funding for banks, he said the long-term liquidity provided by the European Central Bank (ECB) - which is set to replace the EBA as supervisor for euro zone lenders from 2013 - was providing the sector enough breathing space.
"Funding remains a delicate issue. We are very much focused on funding," Enria said, adding banks must start weaning themselves off ECB money and also improve the quality of their assets such as recognising losses promptly.
There will be another stress test in 2013.
Enria hoped that EU leaders would decide soon on a proposal to make the ECB the euro zone banking supervisor.
Twenty-seven European banks, which fell short of the minimum 9 percent capital level in last year's stress test, raised 116 billion euros, the EBA said. The capital raised also included cash injected into troubled Greek banks and regional lender Bankia in Spain.
Banks which were not told they must find cash still strengthened their capital by 47 billion euros, the EBA said.
Basel III will be implemented in the EU under a revised capital requirements law that has yet to be finalised.
The draft version was slammed this week by the Basel Committee of global regulators who authored the accord, because of attempts by member states to water down the quality of assets that should be included in core buffers.
"I would have liked to have seen the Basel Committee recognise our efforts to enforce a stricter definition of capital. We intend to maintain this going forward," Enria said.
He called on member states and the European Parliament to review the draft and bring its definition of capital back in line with Basel III, saying "we really need to be very strict on this".