* Rate cuts and fresh capital do little to stoke credit demand
* European bank share index hovers close to all-time lows
* Investors flee from "social utility" banks
By Sinead Cruise and John O'Donnell
LONDON/FRANKFURT, March 12 (Reuters) - The euro zone followed Britain on Thursday with measures to support banks hit by the coronavirus pandemic but it offered little consolation to their long-suffering shareholders, faced with continued rock-bottom interest rates and a dire economic outlook.
Lenders will be allowed to operate with less capital and cash than usual and the European Central Bank (ECB) will provide them with ultra-cheap finance to lend to businesses reeling from an outbreak that has locked down millions of people and sent markets into a panic.
But, with no end in sight to the virus' spread and growing signs of corporate distress, investors fretted that banks would be pressured to lend to businesses unable to repay.
"There is a clear political pressure on domestic banks to provide a social utility to the economy," said Mark Martin, co-manager on the Liontrust Global Equity Team.
"However, what is in the government's interest may well not be in the interest of banks."
Investors rushed to desert the sector, pushing Europe's main bank stocks index down by 14.3%, just above its August 1992 lifetime low.
The ECB resisted calls to reduce the euro zone's record low interest rate, in a boost for banks' already wafer-thin margins. But markets, which had priced in a 10 basis point cut, were disappointed particularly after emergency rate cuts from the U.S. Federal Reserve and the Bank of England.
Consultancy Oliver Wyman has forecast a decline of up to 5% in European banking revenues, hit by an economic slowdown, more troubled debts and further potential falls in interest rates amid the economic turmoil.
"As the outbreak escalates this will rise, as will the disruption to the operations of banks themselves," the consultant said.
The announcement came a day after the Bank of England slashed bank funding costs and allowed lenders to tap massive 'rainy day' capital reserves, to encourage lending.
The latest measures from central banks will do little to change the region's dim economic prospects unless governments follow through with tax cuts that kickstart consumer spending and fresh corporate investment, something acknowledged by ECB Chief Christine Lagarde who criticised euro zone governments for complacency.
"The elephant in the room remains a potential shutdown in the economy, as coronavirus-related panic ensues," said Rob James, manager of the Merian Financials Contingent Capital Fund.
"For sure, a (loan) payment holiday helps but if you are an SME that has no revenue, it only helps a little."
To compound matters, banks in Britain have to contend with a further 0.5% cut in interest rates, which further compresses their ability to turn a profit on the loans they give.
"The rate cut may give some succour to borrowers, especially those who encounter any cash flow problems thanks to the coronavirus outbreak," said Russ Mould, Investment Director at AJ Bell.
"Perversely, it may do as much long-term harm to lenders as it does good."
The relaunch of the Term Funding Scheme in Britain has enabled sector minnows including Metro Bank and Virgin Money to roll over billions of pounds in cheap central bank funding that were originally due to be repaid from this year.
But the excitement of this extension was quickly eclipsed by worries on how the cheap cash would be lent, assuming borrowers even wanted it.
Demand for credit across Europe has been fragile against a backdrop of trade tensions between the United States and China and Britain's vote to leave the European Union in 2016.
"A bigger issue ... is signs of credit deterioration. It is these fears that are driving concern on banks," said Colin McLean, Managing Director, SVM Asset Management. (Editing by Carmel Crimmins)