Banks dragged the FTSE 100 lower on in extremely light trade on Monday after the British government estimated the cost to banks of reforming the UK banking system could be as much as 8 billion pounds.

London's blue chip index <.FTSE> was down 22.35 points, or 0.4 percent, at 5,364.99, with volumes at just 67 percent of their already weak 90-day average.

Most active market participants seem to have had enough of 2011 and are prepared to sit tight and wait and see what 2012 brings, Oliver Wallin, investment director at Octopus Investments, said.

It seems that the likelihood of another seasonal 'Santa rally' is diminishing.

UK-listed banks <.FTNMX8350> were under pressure as the British government backed proposals to force lenders to form barriers between their retail and riskier investment arms to protect ordinary customers better in case of a crisis.

The cost of reforms could put a further squeeze on bank lending, potentially heaping more misery on cash-strapped consumers and in turn retailers.

British online grocer Ocado slipped 16.9 percent after issuing a profit warning.

Entertainment retailer HMV fell 27.7 percent after it warned it could go out of business as a downturn in consumer spending accelerates the long-term decline of its core CDs and DVDs markets.

They followed recent disappointing updates from Tesco and Kesa in the lead-up to the important Christmas trading period.

Blacks Leisure dropped another 37.5 percent as hopes of a formal takeover bid for the struggling outdoor goods retailer faded as rivals and buy-out firms see a pre-pack administration as the only viable solution for the indebted group, the Financial Times said.

DEFENSIVE POSITIONING

Octopus's Wallin said his firm was content to maintain its current positioning, with increased cash levels and portfolios which have a broadly neutral outlook for equities, and with a preference for more defensive funds and fund managers.

Reuters polls showed that investors raised their cash balances to the highest in a year in December as they prepared for a jittery 2012 with growing concerns over the euro zone debt crisis, although some dipped back into cheap equities.

Sentiment among those investors that did trade waned after Fitch ratings agency warned late on Friday that a comprehensive solution to the euro zone's debt crisis was beyond reach, and put six euro zone economies on watch for potential near-term downgrades.

And Moody's cut Belgium's rating by two notches with a negative outlook, as European finance ministers met to discuss plans to enhance the IMF's arsenal and press on with a drive for tighter fiscal rules.

There were macro political worries too, as stability in Korea was brought into question after the death of North Korean leader Kim Jong-il, who will be succeeded by his youngest son, Kim Jong-un, according to North Korea's official KCNA news agency.

The approach that youngest son Kim Jong-un takes on foreign policy is the most immediate concern because the truth is, we know nothing about this character and how he will respond to his newfound power, Caxton FX's analyst, Richard Driver, said.

With so much gloom surrounding the global economy, riskier assets such as mining <.FTNMX1770>, integrated oil <.FTNMX0530> and financial stocks were weaker.

Sandy Jadeja, chief technical analyst at City Index, said the current level of the FTSE does not look good for the bulls, who will need to lift the index above 5445-5600 in order to tackle the 5,820 level again.

The current position may be setting up a bearish Head and Shoulder pattern that could turn nasty for a 2012 start, he said.

Defensive stocks, those perceived as being safer havens in uncertain economic times, such as Imperial Tobacco , drugmaker Shire and Unilever , featured prominently among the risers, gaining as much as 1.9 percent.

Having been in positive territory for much of the session, Carnival closed 0.7 percent lower ahead of the release of the cruise operator's fourth-quarter results due out on Tuesday.

(Editing by David Cowell)