* Bank resolution scheme would almost complete bank union
* Euro zone bank resolution first step to fiscal union
* Resolution initially supported by euro zone bailout fund
By Jan Strupczewski
BRUSSELS, Jan 15 The European Commission will propose a euro zone mechanism for winding up failed banks by the middle of this year, Commission President Jose Manuel Barroso said on Tuesday, a move EU officials see as the first step towards a fiscal union.
The so-called resolution mechanism will take the euro zone close to completing the banking union needed to address some of the causes of its sovereign debt crisis and help improve lending by banks to the real economy to support growth.
The euro zone took the first step to banking union in December when, after a fierce debate, ministers agreed to create a Single Supervision Mechanism (SSM) for euro zone banks, under which national supervisors cede some powers to the European Central Bank (ECB).
The negotiations on a bank resolution mechanism will be even more difficult, officials said.
"Following the adoption of the SSM the Commission will make a formal legislative proposal for a single resolution mechanism in the banking sector before the summer," Barroso told the European Parliament in the French city of Strasbourg.
"I consider this a matter of utmost political priority. This proposal will be by no means less important than the SSM, and neither will it be less complex to frame in legal, technical and political terms," Barroso said.
The single bank resolution mechanism is sensitive because it will entail sharing among euro zone governments the financial responsibility for winding down banks that are no longer viable, taking the euro zone a step closer to a fiscal union.
European Union leaders agreed on Dec. 14 that the single resolution mechanism should be agreed between EU governments, the executive Commission and the European Parliament by early 2014, before the parliament ends its term.
"The decision to have the single resolution mechanism was the most important outcome of the December summit. It will force other aspects of integration, like fiscal union," one senior euro zone policymaker said.
While money to pay for winding down banks in the euro zone will come from fees paid by banks themselves, it could take more than a decade to accumulate sufficient funds.
EU leaders decided in December the resolution mechanism should therefore have "appropriate and effective backstop arrangements", which officials said meant a credit line from the 500 billion euro bailout fund, the European Stability Mechanism (ESM).
All euro zone countries are shareholders in the ESM, which has a paid-in capital of 80 billion euros, so paying the cost of winding down a bank in one country would initially affect all, even if that cost were later to be recouped from the banking industry to make the operation cost-neutral for taxpayers.
"Once governments become fiscally responsible, (through) the ESM, for a failing bank in another country, they will have the right to say - I want to know more about how you plan your budget and spend your money," the senior policymaker said.
The resolution fund could also be backed by a separate euro zone budget, the idea of which was floated last year, although setting up such a "fiscal capacity" as it is called in EU jargon, will not happen soon.
To get to the single euro zone bank resolution mechanism, euro zone governments first have to agree on a European Commission proposal on coordinating operations or setting up of national resolution schemes.
The Commission proposal, made in June 2012, envisages mandatory lending between the national resolution authorities in case a country does not have sufficient funds to deal with a large failing financial institution.
Because some governments oppose the mandatory lending idea, officials have suggested the process could be made voluntary, to ease the passage of the directive.
The final stage of the banking union could be a common euro zone deposit guarantee scheme, but officials said that depending on how the single resolution mechanism was set up, a common deposit scheme might simply not be necessary.
"Not everybody is convinced that we need a separate deposit guarantee scheme. If the resolution mechanism would protect the depositors sufficiently, there would be no need. Some people say both would be a belt and suspenders approach," a second policymaker said. (Reporting by Jan Strupczewski; Editing by Rex Merrifield and Mark Potter)