• First agreement unraveled
• $1 trillion worth of bad loans

TOKYO (CNN) -- Japan's ruling party and key opposition groups reached agreement in principle on Saturday to nationalize an ailing major bank.

The agreement was reached by the ruling Liberal Democratic Party and opposition Democratic Party and the Heiwa Kaikaku group. It is expected to clear the way for the passage of key financial sector bills in an effort to clean up millions of dollars of bad debt in Japan's banking system.

In particular, the agreement-in-principle focused on the future of the ailing Long-Term Credit Bank of Japan.

RELATED VIDEO
CNN's Marina Kamimura reports agreement designed to help strengthen Japan's struggling economy
Windows Media	28K	56K

It was decided that the government would acquire all common shares of LTCB -- one of the country's biggest lenders -- and thus effectively place it under state control, according to the Nihon Keizai financial daily.

A week ago, the parties had appeared to reach a similar agreement to nationalize the troubled bank, strip the Finance Ministry of its financial policy-making powers and replace a $97 billion fund set up to recapitalize banks with another scheme.

First agreement unraveled

The original fund was criticized for being a handout for the banks that would not require them to slim down and restructure.

However, last week's agreement unraveled when it became clear that the government still wanted to inject public funds into LTCB and go ahead with a planned merger with Sumitomo Trust & Banking Co. Ltd.

The opposition had tried hard to block any injection of public funds to those banks suspected of being insolvent, but the leader of the opposition Democrats, Naoto Kan, told Nihon Keizai that "it was agreed that it was acceptable in principle to debate ways to restructure banks without declaring them insolvent," including using taxpayers money.

The troubled LTCB is one of Japan's largest lenders

The proposed merger between LTCB and Sumitomo Trust & Banking Co. Ltd. could still go through if Sumitomo purchased the shares from the government and made LTCB a subsidiary, according to Nihon Keizai.

However, despite Saturday's agreement, the two sides still disagreed on when the Finance Ministry would be stripped of powers to regulate the financial sector. Opposition parties want the powers transferred to an independent body by the end of June next year.

$1 trillion worth of bad loans

Japan is under mounting pressure both at home and abroad to pass legislation that would help clean up about $1 trillion worth of bad loans at Japanese banks and restore the health of the financial system.

Hailing the latest agreement, Prime Minister Keizo Obuchi vowed to take steps to pull Japan out of its worst recession since World War II.

"The economy will never recover without a stable financial system. Therefore, we will first stabilize the financial system and then steadily deal with other issues," Obuchi told reporters Saturday.

"I would really like to see the bills (on financial reforms) passing through parliament as soon as possible," he said.

The LDP needs to make a deal with at least part of the opposition since it lacks a majority in the upper house, which essentially can block most legislation.

Tokyo bureau chief Marina Kamimura, The Associated Press and Reuters contributed to this report.