Chancellor Angela Merkel's government appears ready to end weeks of intense debate and back a new law this week which would give Berlin the right to seize private property for the first time in the postwar era.

The law, an extension of bank rescue legislation agreed last year, is due to go before Merkel's cabinet on Wednesday and would set the stage for a nationalisation of Hypo Real Estate, a high-profile casualty of the financial crisis.

Her government decided last month it needed to take control of Hypo, a Munich-based lender, after giving the bank 87 billion euros ($110 billion) in state guarantees over the past year and seeing no improvement in its financial condition.

But negotiations on the legal details of taking it over have dragged on for weeks amid disagreements over how to handle U.S. private equity firm JC Flowers, whose Hypo stake of about 25 percent must be bought to give Berlin the full control it wants.

The government has so far failed to secure a compromise with Flowers and now looks ready to push through a law allowing it to seize possession of Hypo shares, most likely for a small price tied to the current stock value of just above 1 euro. Flowers bought the stock last June at a price of 22.50 euros per share.

Other countries, including Britain and Ireland, have already taken control of stricken banks, justifying an expropriation of shareholders by pointing to the extraordinary nature of the crisis and the need to protect taxpayers.

But the German government has agonised over an "Enteignung" of Hypo shareholders, a loaded term linked in the minds of many Germans to Nazi seizures of Jewish property in the 1930s and East Germany's assault on private business after World War Two.

"The idea of expropriation runs counter to the entire philosophy of the social market economy that postwar Germany was based on," said Hans-Ulrich Wehler, a leading German historian.

"Particularly for Merkel's Christian Democrats (CDU), a party founded on the ideas of Ludwig Erhard, this step is extremely difficult to swallow."

POSTWAR IDEOLOGY

As economy minister under Germany's first postwar Chancellor Konrad Adenauer, Erhard is credited with introducing the reforms and "social market economy" philosophy that set a beaten and battered West Germany on the road to recovery.

After the war, the desire to prevent Nazi-style interference in the economy was so high, that the authors of Germany's new constitution, included a special section on the issue of expropriation.

Article 14 of the "Basic Law" states that government seizure of private property is only permissible when it is done for the public good. It specifies that a new law is required for such moves and gives citizens the right to challenge them in court.

Conscious of these constitutional limits, Merkel's coalition has debated the legislation for weeks, reiterating on an almost daily basis that any expropriation step would be a last resort.

German Economy Minister Karl-Theodor zu Guttenberg told best-selling daily Bild on Monday that Erhard would "turn in his grave" were Berlin to go down this road.

German academics, financial experts and newspaper editorials have all weighed in on the "Enteignung" issue, but a consensus remains elusive.

"I'm sure that you could push through a forced nationalisation of Hypo. It would solve the problem with Flowers. But investors would not forget that this type of nationalisation is possible in Germany," said Markus Rudolf, a professor at Germany's Otto Beisheim School of Management.

"You would increase political risk, which is typically limited in Germany."

Others argue that there is no alternative to forced government takeovers of banks like Hypo, which suck in billions of euros in taxpayer money without recovering.

"You need to take over the banks, clean up the balance sheets and reprivatise," Anthony Saunders, a professor of finance at the Stern School of Business at New York University, told Reuters on the margins of a conference in Frankfurt.

"Sure, shareholders will take a hit. But who ever said investing in shares was risk free?"

In the end, Merkel's government is likely to tread carefully with the new law, which was still the focus of intense negotiations within her coalition on Tuesday.

"If the (expropriation) option were indeed used in a particular case and as a last resort, then the company in question would be privatised again as soon as it was stabilised," a draft of the law seen by Reuters reads.