"It is difficult to see a quick economic recovery," said Masaru Hayami, at the start of the Bank of Japan's quarterly branch managers meeting.

His comments came after Japan's chief cabinet secretary warned the government may punish banks which hold back from lending to smaller firms.

"There is a major decline in capital spending due to the cautious lending associated with the bad loan crisis and a credit crunch from financial institutions," Hayami said.

"Given the depressed domestic demand, wage and employment conditions are deteriorating further.

Japan's government has enacted a string of banking reforms to clear out the industry's colossal bad loans, officially estimated at 87.5 trillion yen ($735 billion).

Tokyo's share prices, which have hovered around 13-year low in recent months, "lacked a sense of recovery," Hayami said.

Overcomingthe banking crisis and restoring confidence in the financial sector were "urgent matters".

"The Bank of Japan strongly hopes that respective financial institutions swiftly consider the use of the new scheme, ways to strengthen their capital base and their future management structures," Hayami said.

These efforts, he said, would contribute to the economic recovery in Japan.

Under the new banking reforms Tokyo has set aside a 60trillion yen fund of taxpayer's money to tackle the crisis.

Chief cabinet secretary Hiromu Nonaka told reporters that banks with unreasonably tight lending policies would be subject to punitive measures, according to the business daily Nihon Keizai Shimbun.

The measures would include suspension of business contracts between the government-run husing loan corp. And miscreant banks, the daily said.

"It is wrong that banks alone can survive while small and mid-seized firms disappear, " the daily quoted Nonaka as saying.

He said it was "right" for the government to punish bankswith excessively tight lending policies.

Nonaka was quoted by Fuji Television as saying the government should also reveal names of banks it regards as being too tight with credit.

One major commercial bank, Daiwa Bank Ltd., has said it will put back from its overseas operations as it struggles with growing competition at home.