The Bank of England set out the powers it needs to smooth out booms and busts in the banking sector, under a major shake-up of British financial supervision that could make the country's banks among Europe's most tightly regulated.

The measures to keep the lenders in check include the ability to force banks to beef up capital cushions over and above international levels or curtail high-risk home loans, a Bank discussion paper said on Tuesday.

The Bank's Financial Policy Committee is one of a new breed of watchdogs springing up across the world to plug a gap highlighted by the financial crisis, and is responsible for spotting risks that go beyond a single bank.

Without the right instruments at its disposal, the committee will not be able to take prompt, effective action to tackle emerging risks, Bank Governor Mervyn King said in a foreword to the paper.

Many of the options in Tuesday's paper build on new global and European Union rules such as the Basel III capital regime, aimed at forcing banks to hold more capital and liquidity to withstand shocks without taxpayer aid.

Among those that potentially could mark the biggest shift in Britain's regulatory landscape are variable risk weights for different types of lending -- something championed by Bank official Andrew Haldane in a Reuters interview earlier this month.

Other options include:

* caps on how much Britons can borrow to buy a home

* curbs on banks' bonuses and dividends

* liquidity and capital buffers that vary according to the economic cycle

* circuit breakers on markets to curb volatility

* maximum leverage ratios for banks

* margining requirements in wholesale markets

* disclosure requirements

* use of clearing houses


The BoE will become the main regulator for banks and insurers under a drastic post-crisis redrawing of Britain's regulatory landscape, while the current Financial Services Authority (FSA) will be scrapped.

Britain is already taking radical action to reduce the risk that its banking sector poses to the economy, and on Monday chancellor George Osborne said that the state-controlled Royal Bank of Scotland would have to heavily reduce its investment banking activities.

The retail arms of Britain's top domestic banks - HSBC , Lloyds , Barclays and RBS - will also have to be insulated with a ring of extra capital from 2019.

The FPC can already recommend that the FSA requires banks to take specific measures, but it also wants the power to be able to compel recalcitrant banks to behave as it wishes.

These direct powers would make it much stronger than a similar body, the European Systemic Risk Board, the new European Union risk spotter which meets on Thursday but only has powers to make recommendations.

The FPC's new powers could clash with a regulatory drive from the EU which wants a common approach across the 27-nation bloc to avoid inconsistencies.

Prime Minister David Cameron blocked an EU treaty last week when he was unable to secure guarantees that Britain could pursue a bespoke approach to regulating its financial sector -- which makes up a far larger share of the economy than in most other EU countries.

All the tools come under the macroprudential banner, a policy area still in its infancy.

Several of the tools were devised to cool markets but FPC members like Donald Kohn and FSA Chairman Adair Turner say the challenge in the near term is whether they will be equally effective in stimulating the flagging growth Britain faces.

(Editing by Douwe Miedema)