* EU seeks financial regulation in biggest trade deal
* Washington opposed, wants to keep control
* EU and U.S. account for 60 pct of global banking
By Robin Emmott and John O'Donnell
BRUSSELS, Oct 6 (Reuters) - Aqua or water? These words mean the same thing, and yet illustrate a divide that European and U.S. negotiators must bridge in free-trade talks to integrate half the global economy.
From fragrances to finance, creating common rules is vital for reaching a deal between the European Union and United States that officials say can boost economic output by more than $100 billion a year on each side of the Atlantic.
For example, EU law requires water be labelled "aqua" in Latin as an ingredient of perfume. When the same bottle is sold in the United States, regulations demand a living language be used: water must be labelled as "water".
Such relatively minor obstacles, which add to the cost of transatlantic business, will probably be ironed out at negotiations on the Transatlantic Trade and Investment Partnership, the second round of which begins on Monday.
But nowhere is the challenge more difficult or pressing than in finance as both sides struggle to restore stability to their economies and markets. The EU wants financial regulation to be a central part of an agreement whereas Washington is resisting, worried this will bog down the already complex talks on the world's biggest trade agreement.
"We are taking a pragmatic approach," EU trade chief Karel De Gucht said last month, backing the inclusion of finance. "We will try to make the technical aspects of EU and U.S. regulations more compatible."
After five years of crisis, both see a deal as a way to reinvigorate their economies and create jobs when China's rising might threatens to eclipse their global standing.
Since tariffs between the EU and United States are already low, around 80 percent of the gains of any agreement will come from creating common rules for businesses.
Both sides hope the talks, which began in July, can finish by the end of this year. It is an ambitious goal for countries that together produce half the world's economic output.
The great, hoped-for benefit is that by agreeing one shared financial regulatory standard, many costs and hurdles hindering transatlantic finance will be removed, making the sector even more dynamic and speeding the wheels of trade and industry.
EU negotiators will push the finance issue in the latest talks but disagreement threatens to undermine the trade pact's ambitions, with France having already won concessions that mean cultural industries will be excluded from any deal.
U.S. resistance follows French demands that European movies and online entertainment be shielded from Hollywood and Silicon Valley. One former U.S. official has warned that exempting industries will be "death by a thousand cuts" for the talks.
Europe's exemptions could embolden Washington to pursue opt-outs for its shipping industry on security grounds, or restrict access to the vast U.S. government procurement industry.
Financial ties between Europe and the United States are already huge, accounting for 60 percent of world banking. EU investors own $2.7 trillion of U.S. stocks and bonds, while U.S. residents hold almost as much in Europe.
However, the United States and European countries regulate banks, insurers and traders in very different ways, particularly in the $630 trillion derivatives industry.
Never was the difference more evident than during the financial crisis, when Washington moved quickly in 2008 to tackle problems at its banks with a compulsory scheme to take on new capital, reassuring investors.
Five years on, Europe and its uneasy alliance of 28 countries is still struggling to impose order on its financial system and has had to give emergency aid to five countries.
This is mirrored in regulation, where the two sides have also clashed over the control of derivatives, with Washington demanding that global trading involving U.S. firms be subject only to U.S. rules, regardless of where it happens.
Europe wants a pact that spells out which regulators are responsible for what activities, and how the rules should apply. Some EU officials talk about creating new EU-U.S. institutions to oversee finance, such as jointly tackling any future transatlantic banking crisis.
Banks hope for less duplicated regulation. "In derivatives, without an agreement ... banks will have to comply with both U.S. and EU rules, which is costly," said Konstantinos Karountzos at the European Banking Federation.
U.S. Trade Representative Michael Froman, a former economic adviser to President Barack Obama, has expressed Washington's reluctance. "There has been an explosion of regulatory activity," Froman said in Brussels on Sept. 30, making clear Europe and the United States could not merge their financial regulation. "That work should continue in parallel," he said.
If financial regulation is left out, the deal will still have huge scope, setting standards in areas from chemicals to car safety, while opening up agricultural markets. But given finance's central role in business, the pact would arguably be weaker and its longer-term scope limited.
Both sides have struggled to regulate finance at home and this is discouraging Washington from seeking any transatlantic imitative. U.S. officials fear a deal with Europe could reopen their main reform since the financial crisis, the 848-page Dodd-Frank Act, introduced in 2010 to discourage risk-taking, and lead to the act being watered down.
In Europe a cacophony of voices advocates differing approaches to regulation, despite Brussels' efforts to impose a federal-style system.
"In the United States, there are strong federal regulators," said Anthony Belchambers, chief executive of the Futures and Options Association, which represents investment banks and others involved in derivatives in Europe.
"Here in Europe, supervision and enforcement remain a matter for each of the member state's regulatory authorities. That is not going to change any time soon," he said.
European officials realise they may have to scale back their ambitions. "The most Europe can hope for is that there will be something (in the agreement) about the close relationship between the U.S. and the EU on financial services," said one EU official involved in the issue.