White House economic adviser Paul Volcker, whose star is rising in the Obama administration, will urge Congress on Tuesday to rein in risky investing by big banks, according to testimony obtained by Reuters.

The former Federal Reserve chairman -- a sage of monetary policy and global crusader for tighter financial regulation -- will face questions at a U.S. Senate hearing at 2.30 pm EST seeking details on last month's proposed Volcker rule.

President Barack Obama stunned financial markets in late January by calling for new limits on banks' ability to do proprietary trading, or buying and selling of investments for their own accounts unrelated to customers.

Since then analysts have speculated widely about exactly what sort of activities would be off-limits if Congress adds the proposal, formulated by Volcker, to a sweeping package of financial regulatory changes still being debated.

Some see the boundary between proprietary trading and market-making that helps customers as blurred, but Volcker will tell the Senate Banking Committee that there is little reason for uncertainty about what he is proposing.

Every banker I speak with knows very well what 'proprietary trading' means and implies, Volcker will tell the committee, according to the written testimony.

My understanding is that only a handful of large commercial banks -- maybe four or five in the United States and perhaps a couple of dozen worldwide -- are now engaged in this activity in volume, he will say.

In the past, they have sometimes explicitly labeled a trading affiliate or division as 'proprietary,' with the connotation that the activity is, or should be, insulated from customer relations.

In a sign of how the proposed Volcker rule may already be having an impact, people familiar with the matter said on Monday that JPMorgan Chase may be rethinking its acquisition talks involving RBS Sempra, a joint venture of Sempra Energy and Royal Bank of Scotland .

The reason for the rethink? Possible limits on proprietary trading, said the people familiar with the matter.

HEDGE FUND TIES TARGETED

Volcker -- whose tight-money regime broke the back of stagflation when he was Fed chairman in the early 1980s under Presidents Carter and Reagan -- additionally wants banks to sever ties to hedge funds and private equity ventures.

Hedge funds, private equity funds, and trading activities unrelated to customer needs ... should stand on their own, without the subsidies implied by public support for depository institutions, he will say at the afternoon hearing.

Also scheduled to testify at the session is Deputy Treasury Secretary Neal Wolin. Another hearing is set for Thursday to hear from executives at JPMorgan and Goldman Sachs .

Members of the Senate Banking Committee are trying to negotiate a bipartisan regulatory reform bill meant to prevent a repeat of the financial crisis that jolted capital markets worldwide, ushering in the worst U.S. recession in decades.

Deep divisions remain among committee members over issues such as managing systemic risk, bank supervision and consumer protection. Obama's new proposals complicated the talks.

The House of Representatives approved a bill in December that called for the biggest regulatory changes since the Great Depression. The so-called Volcker rule was not part of it.

Left largely unaddressed in Volcker's testimony is a third proposal -- limiting the future growth of large financial institutions. Obama in January called for a new market share cap for banks that takes into account not only their deposits, as currently limited, but also non-deposit funding.

NO MENTION OF GLASS-STEAGALL

In addition, no explicit mention is made in the testimony of an idea associated with Volcker that he has lately been soft-pedaling -- re-imposing the 1930s-era Glass-Steagall laws that required separation of commercial and investment banking.

The laws were largely repealed in 1999, helping to usher in a powerful wave of consolidation in financial services that some critics blame in part for the 2008 financial crisis. Some lawmakers have called for re-imposing Glass-Steagall.

We expect Volcker and others at the hearing to concede that bringing back Glass-Steagall is not viable, said Jaret Seiberg, financial services policy analyst at investment advisory firm Concept Capital.

Volcker, who has become a global crusader for stronger financial oversight in recent years, will tell lawmakers that international consensus on appropriate actions to restrict commercial banks' activities is an attainable goal.

He will cite inherent conflicts of interest in banks' participation in proprietary or private investment activity.

Taken on board as an adviser early on by Obama, Volcker initially seemed not to be having much impact. But that has changed since the Democrats lost a special Senate election in Massachusetts and Obama moved to a more populist stance.

(Additional reporting by Luke Pachymuthu in Dubai and Steve Slater in London; Editing by Andrew Hay)

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