* Commission proposes watered-down measures on savers' protection
* States would remain vastly responsible to cover losses in crisis
* Revised plan aimed at winning over reluctant Germany
* Planned measures to reduce bad loans could clash with ECB plan (adds quotes, details, reactions)
BRUSSELS, Oct 11 (Reuters) - The European Commission proposed on Wednesday softer measures to strengthen the EU banking sector against future crises, after two years of fruitless talks among the 28 EU states on more ambitious plans.
The watered-down proposals are designed to win over Germany, the largest economy of the bloc and the staunchest opponent of sharing banking risks among EU states. But they could create frictions with the European Central Bank over the pace of reduction of banks' exposure to bad loans.
Germany's outgoing Finance Minister Wolfgang Schaeuble has repeatedly raised concerns that sharing risks would mean richer German banks propping up weaker rivals in other EU countries, such as Italy, Portugal or Greece.
To convince Germany, whose new finance minister may be equally resistant, the Commission has put forward a plan that reduces the sharing of banking risks and eyes stricter conditions that states must meet before their banking sectors can access safety nets funded at EU level.
The plan, revealed by Reuters last week, discards earlier proposals for full EU-sharing of savers' protection in cases of bank failure and leaves the financial burden largely with individual member states.
EU rules guarantee all deposits up to 100,000 euros ($118,000), a provision meant to strengthen confidence in the banking sector after a decade-long crisis that has seen the bailout of several top banks in the bloc.
But existing national schemes to insure depositors are considered insufficient in the event of a major banking crisis. An EU backstop, funded by all banks in the bloc, is seen as the best guarantee to protect savers and increase market confidence.
UMBRELLA WITH HOLES?
Under the new proposals that the commission wants agreed by next year, a European Deposit Insurance Scheme (EDIS) would intervene only after national insurance schemes have fully used their resources to rescue depositors.
In the initial phase, EDIS would only provide loans to national insurers amounting to a fraction of the losses, which would grow from 30 percent up to 90 percent in 2021.
In a second phase, EDIS would directly cover depositors' losses, but only partially, while national insurance schemes would continue to bear the brunt of a banking crisis.
The beginning of the second phase would not be automatic but would depend on banks' ability to clean their balance sheets and dispose of bad loans.
So-called non-performing loans (NPLs) are slowly decreasing, but still account for nearly 1 trillion euros ($1.18 trillion), saddling mostly lenders in southern European countries.
The Commission said it would make new legislative proposals by spring to address the NPLs problem, including measures to revamp a secondary market for bad loans and to favour banks' recovery of soured credit, such as mortgages.
It will also consider possible legislative measures on "minimum levels of provisioning which banks must make for future NPLs arising from newly originated loans."
CLASH WITH ECB?
This possible proposal on higher capital buffers could clash with ECB plans to impose similar requirements already from next year.
While the aims coincide with the ECB plan, the Commission's parallel process could slow things down. EU legislative proposals require the backing of EU states and parliamentarians, a process that usually takes months or years before rules enter into force.
Commission Vice President Valdis Dombrovskis told a news conference he expected the ECB to take into account opinions of other institutions and market participants before adopting any measure.
He also said that legislators and supervisors have different powers and the ECB could intervene to address risks on specific banks.
The president of the European Parliament, Antonio Tajani, urged the ECB to involve the parliament in any decision on bad loans.
Italy has criticised the ECB move, urging a more gradual reduction of bad loans to avoid creating large holes in banks' balance sheets. Germany has supported the ECB move.
But an EU legislator close to German Chancellor Angela Merkel, Markus Ferber, attacked the ECB on Wednesday, saying it lacked "modesty" with its NPLs plans.
"I do not want to see the ECB creating a parallel regime of capital requirements that bypasses the legislator," he said. ($1 = 0.8449 euros) (Reporting by Francesco Guarascio zfraguarascio; Editing by Robin Pomeroy; editing by Philip Blenkinsop)