CHINESE authorities' repeated moves to rein in bank lending in recent weeks highlight the addiction of the country's banks to loose credit, and efforts to wean them could lead to further turmoil in global financial markets.
The core of the problem: China's state-owned banks both want to make profits and need to follow government policy.
Those two demands are now in conflict as regulators shift gears to control credit expansion, creating uncertainty over the outlook for China — the world's fastest growing major economy — that has repeatedly jolted global markets.
People familiar with the situation said earlier this week that branches of Industrial & Commercial Bank of China, the country's biggest lender, and China Citic Bank had suspended new lending until February.
It isn't clear whether this followed a broad dictate from the central government.
While the sources said bank headquarters ordered the halt, regulators often convey instructions by privately telling senior bank officials.
The move followed word last week from a Bank of China official that it had stopped issuing new loans for the rest of January.
"While China's banking system is remarkably efficient at responding to a crisis and reviving the economy, it just isn't what you need when you want to guide credit down," said Stephen Green, Shanghai-based economist for Standard Chartered.
The China Banking Regulatory Commission, underlining its concerns about loan growth, on yesterday said it had warned banks in a nationwide teleconference to control any rebound in non-performing loans.
Though economists say the steps to curb lending growth are unlikely to have a big impact on China's economy, that has been difficult for outside investors to assess.
Regulators announced this month an increase in the share of deposits banks must hold on reserve, but most of the latest measures haven't been publicly disclosed, and they bear little resemblance to how monetary policy typically is conducted in other economies.
Shanghai's benchmark stock index has fallen 9 per cent so far this year, and concerns about credit policy have roiled markets from Hong Kong to New York.
More official intervention in banks' operations is likely in coming months, given the basic tension between policy makers' goals and banks' incentives.
Regulators, worried about potential inflation, asset bubbles and bad loans, feel they must set limits on total credit growth, but by doing so they create incentives for banks to churn out loans quickly to gain as much of the industry quota as possible.
Most other major economies guide lending by using interest rates to change the price of credit.
China's government dislikes frequent changes to interest rates, and has often relied on measures that limit loan volume.
The lending boom of 2009 was spurred by the removal of the strict credit quotas of 2008, delivering a tremendous boost to the economy.
But now that the government has re-imposed a ceiling on new lending — a target of 7.5 trillion yuan ($1.22 trillion) for 2010 versus 9.59 trillion yuan that went out in 2009 — the downsides of the quota system are showing up again.
Early indications are that banks, racing against the quota, already have lent a massive amount over the first few weeks of the year.
A report in the China Securities News, a newspaper backed by the state-run Xinhua news agency, said new loans over the first two weeks of January totalled 1.1 trillion yuan.
The 21st Century Business Herald, a local newspaper, reported 1.45 trillion yuan in loans — about a fifth of the annual target — over the first three weeks. The stories didn't name sources and neither could be independently verified.
Bank of China and ICBC have both said publicly that the pace of lending in early January was too fast, although neither bank said how much they had lent.
In a statement yesterday, ICBC said it wouldn't stop lending. Official data on January lending won't be published for another two weeks.
Bank lending typically spikes in the first quarter of each year, although analysts say the size of 2010's increase is unusually large.
Chinese banks make much less money from fees than their international peers, so lending volume is the main determinant of their profit.
Interest on loans accounted for 66 per cent of operating revenue for the 12 listed Chinese banks at the end of 2008, according to data from Fitch Ratings.
So a bank that behaves prudently and spreads out its lending evenly over the year could end up at a disadvantage to other banks that were more aggressive.
"The earlier you make a loan, the easier you can get it approved" by a bank's internal monitors, said Wen Chunling, a banking analyst at Fitch Ratings. "If you wait until the fourth quarter you may find that the quota has already been used up."
By lending heavily early in the year, banks also may be hoping to force Beijing into loosening the cap on new loans rather than bring all new lending to a complete halt when the quota is met.
"If you lend more than other banks, the regulator might accept that as fact and allocate you a larger loan quota based on existing size," said Bank of America-Merrill Lynch economist Ting Lu.
The very size of last year's credit boom also makes it hard for banks to curtail lending this year.
Many of the new projects that banks funded in 2009 will likely need further credit this year to be completed.
A report from the Bank of International Settlements warned in December that China's banks may have to continue lending just to avoid having projects default and turn into bad debts.
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