UPDATE 1-UK watchdog tells banks to pay up faster over mis-sold swaps

* RBS, Barclays, Lloyds, HSBC to speed up compensation

* FCA chief Wheatley says move is a good first step

LONDON, Oct 23 (Reuters) - Britain's financial regulatortold banks on Wednesday to speed up compensation for complexhedging products they mis-sold to small firms that are nowfinding it hard to stay in business.

Banks have paid out just 2 million pounds ($3.2 million), afraction of the three billion pounds they set aside tocompensate for unsuitable swaps that were sold, in the yearsleading up to the 2008 financial crisis, to insure companiesagainst interest rate hikes.

Interest rates actually fell, forcing small firms to pay outtens of thousands of pounds.

The lack of progress has angered small businesses, many ofwhom are facing crippling monthly repayments and hefty break-upfees to disentangle themselves from the arrangements.

"The industry is deceiving itself if it imagines that atotal of 32 offers accepted, totalling two million pounds, isadequate progress," Financial Conduct Authority (FCA) ChiefExecutive Martin Wheatley said in a speech prepared for delivery in London later on Wednesday.

"A very good option in what is now a very fluid situation isto follow the positive lead set by some banks, by payingcompensation in separate stages, effectively fast trackingcompensation payments," he will say.

Lloyds, Royal Bank of Scotland and Barclays on Wednesday joined HSBC in committing tospeed up compensation, making initial payments to some customersbefore possible claims for consequential losses are assessed.Wheatley described that as a "good first step".

RBS said it had agreed to split compensations payments forall customers mis-sold swap products. Barclays said it wouldconsider any request to provide an advance on compensation on acase-by-case basis to support customers in financial distressand Lloyds made a similar commitment.

A review of interest rate swap mis-selling, set up by theFCA, formally began in May after a pilot scheme. The regulatorhad said firms would be compensated within 6 to 12 months butthe process is now expected to drag out for longer even thoughbanks have taken on more than 2,800 staff to handle the cases.

British lawmakers will debate the progress of thecompensation scheme in parliament on Thursday.