The European Commission favours loosening onerous capital rules to make it easier for banks to lend to small businesses, one of its top officials said, reflecting a gradual push to tailor the new regime so that it does not choke a fragile economy.

The EU is starting negotiations between countries to adopt the international Basel III accord that instructs banks how much capital, such as cash and bonds, they must hold in order to cover risks such as a loan not being repaid.

The new rules are already the source of division within Europe, where Britain has demanded leeway to impose higher thresholds, which would make banks safer but also more reluctant to lend, and France, which wants to cap levels in the region.

The European Commission favours pushing to loosen rules, cutting the capital burden on banks that want to lend to small businesses, Antonio Tajani, the EU commissioner for enterprise and industry, told reporters.

His remarks will strike a chord in many capitals, especially of countries such as Ireland, where many businesses have struggled to persuade nervous banks to make loans.

Banks would be more likely to lend to businesses if the capital requirements for backing such loans were lower, making it cheaper for them to give credit.

Tajani would like such loans to require a third less capital than now planned.

Such a change is already viewed favourably in the European Parliament, which has an equal say in writing the EU-wide law.

But by altering the rules, the European Union would risk a clash with the Basel Committee of central bankers and supervisors.

This is just political expediency and they forget that lending to SMEs (small and medium-sized businesses) gets riskier when times get tough, a banking official said.

The EU's commissioner in charge of financial services, Michel Barnier, has defended the need for changes, saying the bloc will apply the rules to all of its 8,200 lenders which vary in size and business models, while the United States will impose them on only 20 or so top banks.

It will be up to the European Parliament and diplomats from EU member countries, with help from Denmark, which currently holds the bloc's rotating presidency, to thrash out this and other issues.

Last month, Danish diplomats suggested altering the definition of capital for the buffers banks must hold to withstand a credit crunch.

Basel III states that 60 percent of this buffer must be held in government bonds or cash that can be quickly tapped, with a maximum of 40 percent in corporate bonds or other instruments. The Danes have suggested doing away with this distinction.

Banks want more flexibility in what other types of instruments could be included, such as securitised debt. Such debt was at the heart of the banking crisis.

(Writing By John O'Donnell, Editing by Mark Potter)