Under the new legislation, the troubled Long Term Credit Bank of Japan would be taken into public ownership, and some of the responsibilities for managing the banking sector would be taken away from the Ministry of Finance.

The dispute centres on whether public money should be used to boost the capital of other banks saddled with bad debts.

The opposition parties are against the government putting taxpayers money into struggling banks to prevent them failing, saying that management must bear its responsibility. But the government says it has no choice but to use public funds to prevent a catastrophic loss of confidence.

Chief Cabinet Secretary Hiromu Nonaka said,

"We are going to relentlessly pursue management responsibility, but if we create tighter conditions it could trigger a further credit crunch, inviting instability in the financial sector."

Banks in trouble

The bad debts of Japanese banks amount to at least ¥87.5 trillion ($650bn). They are acting as a drag on the economy and preventing further lending even to sound companies.

But now the government has admitted that the situation is even worse.

According to press reports, the governor of the Bank of Japan told top US officials that, the top 19 banks are so under-capitalised that they might be banned from operating internationally "if the rules were vigorously pursued."

Under the so-called Basle rules, banks need capital amounting to 8% of their loan books.

But many Japanese banks have used the shares of other companies as capital - and with the Tokyo stock market at a 13-year low, their capital base has been seriously eroded.

The government is so worried that most of its big banks are under-capitalised, it has proposed buying up bank shares to boost their asset values.

But the opposition wants full disclosure of the extent of the banks' losses on their stock portfolios.

At present the government allows them to value the stocks at the price they bought them, not at the current market price.

James Fiorillo of ING Barings estimates that the banks are sitting on ¥7.1 trillion ($52bn) in stock losses so far this year.