UPDATE 1-European bank stocks drop on Cyprus contagion fear
* Cyprus plans to seize money from bank deposits
* Analysts say move could set worrying precedent
* European bank sector down 2.3 pct, hits lowest in 2 wks
(Adds analyst, executive comments, details)
LONDON/PARIS, March 18 (Reuters) - European bank shares fell more than 2 percent on Monday as a plan by Cyprus to seize money from bank deposits raised fears that savers elsewhere may not be safe and the euro zone may be plunged back into crisis.
Analysts said the move by Cyprus could set a worrying precedent, even though previous bailouts in Greece, Ireland, Spain and Portugal have not imposed losses on small depositors.
"It's no longer taboo to touch deposits," analysts at Morgan Stanley said, noting savers in other some other countries outside the core euro zone economies such as Germany and France could be spurred into withdrawing money from local banks.
"Although a bank run seems to be a tail (low) risk, it is possible that depositors may adjust their investment strategy, reducing their ... deposits and, potentially, transferring their funds to core Europe from the peripheral countries," the analysts said.
Peripheral euro zone countries were in a stronger position than when the bloc's crisis flared last year, due to ECB liquidity support and banks being more strongly capitalized. But the mood remains fragile and one analyst said policymakers were "playing with fire" with the latest move.
The danger is depositors in Portugal or Greece, for example, may fear a levy on savings is now possible if their countries need more help.
"The Cyprus proposal is really worrying. It creates a precedent that means other countries may potentially soak depositors in the future," said a French bank executive who asked not to be named.
"If you're a small depositor in Cyprus, you'll tell yourself that it would have been better to keep your money under the carpet than in a bank. And if you're a Greek, a Spaniard or an Italian, well, you'll tell yourself that you might be next.
"It's frankly irresponsible," the executive said.
By midday the STOXX Europe 600 banking index was down 2.3 percent at 170.4 points, its lowest for two weeks.
Banks in Spain and Italy were hard hit, with Unicredit down 5.2 percent and Intesa Sanpaolo, Santander and BBVA all down about 4 percent.
France's BNP Paribas and SocGen, as well as Britain's Barclays, lost more than 4 percent.
Cyprus said over the weekend it would force depositors to take a loss as part of a 10 billion euro ($13 billion) bailout. Ministers rushed on Monday to revise the plan, softening its impact on smaller savers, to ensure it would be approved.
The spillover from Cyprus could be limited due to special circumstances for the Mediterranean island, including the large size of its bank sector relative to its economy, analysts said.
Its bailout has also repeatedly been delayed amid concerns from other EU states that its close business relations with Russia, and a banking system flush with Russian cash, made it a conduit for money-laundering.
But the move still went against the concept of a European deposit guarantee scheme, analysts said.
Credit ratings agency Moody's said the Cyprus move was "credit negative" for depositors in other countries, "since this is a significant step toward limiting or removing systemic support for bank creditors across Europe."
Analysts said it also raised the threat that other taboos could be broken, such as the protection of senior bank debt.
The cost to insure the debt of Spanish, Italian and Portuguese banks increased, with Santander's five-year credit default swaps widening by 30 basis points and UniCredit widening by 23.5bp by 0930 GMT, according to Markit.
(Additional reporting by Laura Noonan and Natalie Harrison; Editing by Anthony Barker and David Holmes)