* EU outlines blueprint to tackle stricken banks
* Agency's powers curtailed but Germany still says no
* Analysts warn scheme already too weak to work
By John O'Donnell and Annika Breidthardt
BRUSSELS/ BERLIN, July 10 The European Commission outlined plans to set up an agency to salvage or shut failing euro zone banks, a long-awaited scheme immediately some criticised as too weak to work and which Germany attacked as out of step with EU law.
Working in tandem with the European Central Bank as supervisor, the new authority is supposed to wind down or revamp banks in trouble. It is the second pillar of a 'banking union' meant to galvanise the euro zone's response to the crisis.
If agreed by European Union states, the agency will be set up in 2015 and will eventually have the means to impose losses on creditors of a stricken bank, according to the blueprint.
But within hours of the announcement, Germany took the unusual step of publicly criticising the plan, warning that more needed to be done to protect countries' sovereignty and demanding significant changes.
"The process should be European but we want the competence to take individual decisions to rest with member states," said a German government official, who asked not to be named, in remarks striking at the heart of a scheme to create an agency with the final say in bank closures.
The comments were in marked contrast to Italy's Prime Minister Enrico Letta, who called for swift agreement on the agency.
Berlin's slapdown is a setback for the European Commission, which had already watered down its plans in an attempt to win over Germany. As Europe's biggest country, its support is crucial for the proposal to become law.
For one, the agency will have to wait years before it has a fund to pay for the costs of any bank wind-up it orders. This will make it very difficult to demand a bank closure.
Officials foresees tapping banks to build a war chest of 55 billion to 70 billion euros ($70 billion to $90 billion) but that is expected to take a decade, leaving the agency largely dependent on national schemes in the meantime.
"In the first few years, of course, the funding will be more modest," said Michel Barnier, the commissioner in charge of financial regulation who unveiled the plan.
That had prompted a critical response from analysts. "The key problem is that without the ultimate access to fiscal resources, it will be very difficult to agree to shut down a bank," said Guntram Wolff of Bruegel, a Brussels think tank.
Furthermore, under the plan, the EU's executive will not call for an explicit backstop role for the euro zone's rescue fund, the European Stability Mechanism (ESM).
Any suggestion of putting such a safety net in place faced stiff resistance from Germany, which feared that it could be left on the hook for problems uncovered in banks elsewhere.
The lack of funds at the outset or recourse to the ESM undermines a central goal of banking union - to sever the 'doom loop' that forms as banks buy ever more government bonds from home states.
The 'resolution board' that decides on bank wind-downs will also be forbidden from imposing decisions on countries, such as demanding the closure of a bank, if that would result in a bill for that nation's taxpayer.
"If in a resolution plan, national public money is ... necessary, the government of the country has to give the go ahead," said Barnier. But Berlin fears there are get-outs in this pledge and wants a tougher safeguard.
Germany is particular sensitive as Chancellor Angela Merkel faces national elections in September.
Wolfgang Schaeuble, Germany's finance minister, had long argued that a change to the European Union's treaty was needed before the agency could get executive clout.
"That's only possible nationally and whoever wants more must join the German government in supporting an amendment to the treaty," he told journalists earlier this week.
The reform is presented as a pillar of 'banking union', a scheme designed to underpin confidence in the euro zone and end the previously chaotic handling of cross-border bank collapses such as Dexia.
The original commitment, made at the height of the currency bloc's crisis, was to prevent heavily indebted countries from having to contain problems at their banks alone, such as those that nearly bankrupted Ireland.
But last year's pledge by the European Central Bank to take whatever steps needed to back the single currency has calmed investor nerves, taking the pressure off countries to follow through. The proposal on Wednesday will likely dismay the ECB.
Speaking on Tuesday ahead of the announcement, Joerg Asmussen, a member of the six-member Executive Board that forms the nucleus of the ECB's policymaking, underscored the need for a "European backstop" for the resolution agency.
If Germany gets its way, the agency's freedom will be limited, forcing the European Commission to continue to use state-aid rules to enforce order when governments prop up weak banks. Those rules change from August, placing the burden on shareholders and junior debtholders in any such restructuring.
Some EU officials hope Berlin will soften its stance after elections, but Asmussen did not expect that, noting that countries such as the Netherlands, Finland, Slovakia and Estonia shared its doubts.
EU Commission officials were so concerned about their proposals becoming public that they printed them using a type of 'invisible ink' technology to blank out the text if scanned.
As it is proposed, if a euro zone bank were to run into trouble, the ECB would inform this executive board, which could then vote on whether to close or salvage the bank.
The board would have representatives from the European Central Bank, the European Commission, the home country of the bank under review and from states where it has branches. The final execution would rest with the European Commission, another bone of contention for Germany.
The Commission hopes that this group, which will vary according to the bank, will plan for any emergency, leaving little to decide at short notice should a lender face collapse.
"Behind all this is an unholy alliance between Germany, which is scared about talk of common liability (for banks) before elections, and France, scared of giving up sovereignty," said Sven Giegold, a German member of the European Parliament.