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(Adds Railways Minister's comment in state media)
By Lucy Hornby and Benjamin Kang Lim
BEIJING, March 4 (Reuters) - China is likely to dismantle its sprawling, scandal-plagued Railways Ministry into operations and commercial arms that will be supervised by different agencies, two sources said, part of an overhaul of the bureaucracy as new leaders take charge in Beijing.
The restructuring is aimed at ending long-standing inefficiencies and addressing the ministry's reputation for insularity and corruption, they said.
"The Railways Ministry will be demoted (in status)," said one of the sources.
The changes are set to be approved at the annual full session of the National People's Congress, or parliament, which begins on Tuesday. A cabinet reshuffle is expected as Xi Jinping takes over formally as president and Li Keqiang as premier.
"Part of the Ministry of Railways will be merged with a super-Ministry of Transport," said a second source who has leadership ties, requesting anonymity to avoid repercussions for speaking to foreign reporters. The source was referring to the operations of the railways.
A state-owned enterprise will absorb the ministry's commercial arm, which has responsibility for passenger ticketing and freight operations, the sources added.
YEARS OF PROBLEMS
The Railways Ministry has faced numerous problems over the past few years, including heavy debts from funding new high-speed lines, waste and fraud. The government has pledged to open the rail industry to private investment on an unprecedented scale.
Railways Minister Sheng Guangzu told the state news agency Xinhua on Monday he was not sure if he would be the last to lead the ministry, but said he supported its restructuring.
Shares in Chinese rail firms listed in Hong Kong fell on Monday, in what analysts said was investors reducing risk exposure in the face of the long-anticipated reforms.
China Railway Group fell 4 percent in Hong Kong and China Railway Construction closed down 2.3 percent, underperforming a 2.1 percent drop in the China Enterprises Index of the top Chinese listings in Hong Kong.
"Our deep hope is that the (railway) reforms become the clarion call for a new round of trade reform and a trigger for the huge potential of reforming the monopoly state sector, to create the maximum benefit for China's future development," wrote Hu Shuli, editor in chief of Caixin, a respected financial weekly.
The 21st Century Business Herald newspaper reported the ministry will likely be split. A "Railways Bureau" would oversee operations and personnel, while the lucrative freight business and passenger transport would be incorporated into state-owned enterprises overseen by the State-owned Assets Supervision and Administration Commission, or SASAC.
Previous reform plans had involved hiving the ministry off into a number of competing entities. For the moment, the ministry's 18 bureaus will remain a part of the operating arm, it said.
Railways Minister Liu Zhijun was sacked in February 2012 and expelled from the ruling Communist Party last May for taking bribes and using his position to help the chairman of an investment company get "enormous illegal profits".
Liu successfully resisted a merger with the Ministry of Transport five years ago, but the Ministry of Railways was dealt big blows by his sacking and by a 2011 crash on its flagship high-speed service in which 40 people died.
Separately, the South China Morning Post reported that China would set up a new watchdog similar to the U.S. Food and Drug Administration, streamlining a complex regulatory system that has seen a series of scandals over food contamination and fake medicines.
Last-minute wrangling could keep pharmaceuticals out of the watchdog's purview, after an unsuccessful first attempt several years ago, the Hong Kong-based newspaper said.
China's State Food and Drug Administration (SFDA) was founded in 2003 as a ministerial-level agency directly under the State Council but was downgraded and affiliated the Ministry of Health in 2008 after a number of corruption scandals involving the sale of drug approvals.
The SFDA is currently responsible for policies and programmes on the administration of drugs, health food, medical devices and cosmetics, while the Health Ministry mainly handles food safety and other agencies look after packaging and animal health.
The General Administration of Quality Supervision, Inspection and Quarantine (AQSIQ) also has responsibility for inspecting product quality in China and for imports or exports.
Zheng Xiaoyu, former head of the SFDA, was executed in July 2007 for taking bribes and dereliction of duty after a series of drug safety scandals on his watch. (Additional reporting by Clement Tan in Hong Kong and Mark Bendeich in Sydney; Editing by Raju Gopalakrishnan and Kevin Liffey)