The Diet passed a bill Wednesday aimed at limiting banks' shareholdings and creating a stock-buying body designed to buy some of them.

The House of Councilors approved the bill at a plenary session and it is expected to take effect in January.

The legislation aims to improve the health of the paralyzed banking sector by departing from the decades-old practice of cross-shareholding between Japanese banks and their corporate borrowers.

The legislation, which is intended to make banks less vulnerable to stock market fluctuations, will require banks to limit the value of their shareholdings in other firms to an amount less than their primary capital, beginning in fiscal 2004.

Holdings beyond that amount may have to be sold to the government-backed stock-purchasing body or to the market.

The body, Banks' Shareholding Acquisition Corp., is due to start operations in January.

It will purchase stocks dumped by banks unloading their cross-shareholdings to prevent a stock market plunge that could result from massive amounts of surplus shares.

The body, which will be in existence for up to 10 years, will be funded by a combined 10 billion yen from banks who join it.

It will also have 2 trillion yen in funds guaranteed by the government to buy shares, which will later be sold.

Banks are required to book appraisal losses on their shareholdings if the value of the shares drops more than 50 percent, or more than 30 percent for certain stocks.

Banks are also required to deduct 60 percent of the appraisal losses on shareholdings from their capital, thus cutting into capital resources for dividend payments.