* Government announces bank recapitalisation fund
* Will launch 20 trillion-won ($15 bln) fund in January
* Government to supply liquidity to money markets (Adds comment)
By Kim Yeon-hee and Jonathan Thatcher
SEOUL, Dec 18 (Reuters) - South Korea said on Thursday it was launching a $15 billion fund to recapitalise banks, hoping that would encourage them to lend and help the economy steer clear of a recession.
The government also promised to keep pumping liquidity into the cash-starved money market that has been squeezed by the international credit crunch, making banks wary of lending to local firms and struggling themselves to raise funds from foreign lenders.
"(The authorities) have begun to heed international investors' warnings that the domestic economy and the financial system are not as healthy as they believe," said Kim Kyeong-won, senior vice president of leading private think-tank Samsung Economic Research Institute.
"They learned a lesson over the past two months that a series of incremental steps was not effective in this financial crisis. They are now trying to outpace the market to quell any lingering fears, as can be seen in the Bank of Korea's unprecedented rate cuts and the huge bank support plan," he added.
The recapitalisation fund, to be launched in January, is the latest of a raft of measures by authorities to counter the global credit crisis. They have included economic stimulus, rate cuts and debt guarantees.
Regulators have demanded that banks raise their tier-1 capital ratio -- the core measure of a bank's financial strength -- to 9 percent by January from 8.3 percent now.
VOLUNTARY
"If we pump in a total of 20 trillion won into the banking sector, we estimate their BIS (Bank for International Settlements) ratio would rise by 2.6 percentage points on average," the Financial Services Commission, a top regulator, said in a statement.
The Korea Federation of Banks said those banks unable on their own to reach 9 percent would be able to tap the 20 trillion-won ($15 billion) fund. In exchange for funds, banks would sell preferred shares and equity-type bonds.
However, Rhee Chang-yong, vice-chairman of the FSC, stressed use of the fund would be voluntary.
Direct injection of taxpayers' money into the banks would only worry foreign investors, who on average hold more than 50 percent of the country's private banks.
In any case, South Korean banks were not in such bad shape that they needed direct capital injection, unlike in many Western countries which have been forced to bail out troubled banks.
"This is not government intervention in bank management or a dilution of shares," he told reporters.
Still, Choi Jong-won, analyst at Tong Yang Securities, said the fund would weigh on foreign investor sentiment, even if banks had no other choice but to tap the fund.
"Potential issuance of additional shares for capital increases may make some foreign investors unhappy, particularly given the fact that dividends will come out poorly as well. But what else can banks do? They've got to survive, and they need this fund in order to stay afloat," Choi said.
The Bank of Korea plans to provide 10 trillion won for the fund. Public investors, such as pension funds, will inject an additional 8 trillion won by purchasing securities that the fund will issue. State-owned Korea Development Bank will put in the remaining 2 trillion won.
PREFERRED SHARES
Rhee added directly injecting capital into banks could prompt unsettling memories of the 1997-98 Asian financial crisis, which almost pushed South Korea into debt default and forced it to seek massive aid from the International Monetary Fund.
This week the Finance Ministry forecast economic growth would slow to 3 percent next year, although most economists say it will be lucky to reach even 2 percent. GDP growth in 2007 was 5.0 percent.
The finance ministry said to help ease the liquidity squeeze it would continue what it called aggressive open market operations such as repurchase agreements.
It said it expects local banks to be able to roll over all their external debts due in the first half of 2009, helped by government and central bank plans to supply a combined $55 billion in foreign currency liquidity to the money market.
A large chunk of that money will come from a U.S. Federal Reserve credit line of $30 billion dollars. The central bank has injected a combined $7 billion into banks via the facility so far and plans to lend another $4 billion next week.
South Korea last week also signed major currency swap deals with neighbouring Japan and China.
($1=1,324.0 Won)
(Additional reporting by Cheon Jong-woo, Seo Eun-kyung, Jungyoun Park and Yoo Choonsik, writing by Jonathan Thatcher; Editing by Neil Fullick)