New global financial rules could boost Japanese banks' competitive standing against Western rivals, as they will curb high-risk trading by Wall Street powerhouses, the new head of Japan's banking lobby said in an interview.

Those who have been freely engaged in high-risk, high-return operations will be shifting toward our business model as a result of the regulations, said Katsunori Nagayasu, who became chairman of the Japanese Bankers Association this month.

Regulators worldwide scrambled to set new rules in the wake of the global financial crisis sparked by the Lehman collapse three years ago, urging banks to hold more capital against future shocks and curb high-risk operations.

The new rules, including Basel III, could be a great equalizer for Japanese banks, which have lagged behind major global counterparts in profitability due to their focus on traditional commercial banking, Nagayasu said.

The biggest profit driver (for Western players) has been trading operations, which will be harder to do under the new regulations. This means they will have to cut back their most profitable operations, said Nagayasu, who is also president of Mitsubishi UFJ Financial Group, Japan's biggest bank by assets.

Nagayasu welcomed an agreement by regulators on a capital surcharge on too big to fail banks, saying it is fair and reflects the views of Japanese banks.

Banks are required to hold a minimum capital ratio of 7 percent under the Basel III rules, which take effect in 2013, and a capital surcharge of 1-2.5 percent will be imposed on banks deemed the most systemically important.

First of all, they did not make it an across-the-board 3 percent surcharge. They divided it into different levels. This is very fair, he said.

Those like us who are not doing high-risk operations will not be in the 2.5 percent group, he said.

Japanese banks emerged relatively unscathed from the global financial meltdown that followed the Lehman collapse, and the top three say they are on track to meet new global bank capital rules without needing more fundraising.

MUFG and its fellow Japanese banks are gearing up for overseas expansion to transform themselves from traditional commercial banks focused on their home market, where they have long faced weak loan demand.

Japanese bank lending fell in June from a year earlier for the 19th straight month, the Bank of Japan said on Friday.

MUFG agreed to buy project-finance assets worth 3.3 billion pounds ($5.3 billion)from RBS in Europe, the Middle East and Africa last year.

MUFG was also in talks to buy RBS's Australia-based infrastructure advisory unit and its portfolio of public-private project-finance assets, though the talks were at an early stage, sources familiar with the matter said last week.

Nagayasu said he expects more asset sales by Western rivals in the future and his bank is ready to make acquisitions if assets are a fit strategically.

FISCAL CLOCK TICKING

Japanese banks have been awash with deposits as client businesses and households hoard cash amid sluggish economic growth.

Struggling to find borrowers, the lenders have amassed Japanese government bonds (JGBs), serving as a stable funding source for the government and helping keep long-term yields low despite the country's worsening debt problem.

Japan's public debt is double the size of its $5 trillion economy, the worst in the developed world.

Nagayasu said time is running out for the Japanese government to enjoy cheap borrowing to finance deficit spending.

The growth in (private-sector) savings will not continue forever given ongoing demographic changes. At some point in the future it will peak, he said.

When that happens the Japanese government will no longer be able to rely on an army of domestic institutional investors, whose buying of sovereign debt has set Japan apart from other debt-ridden countries, he said.

There could be a surge in yields. And I am not expecting it to happen in a time frame of a decade or something. It could happen sooner than that. So the government has to hurry, he said.

Meanwhile, banks may start shifting money out of JGBs, Nagayasu said, as they are exploring other investment opportunities.

(Editing by Michael Watson)

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