Some Chinese banks have drastically raised interest rates on loans to comply with government orders to rein in credit growth after another lending surge at the start of the year, state media reported on Wednesday.

Instructions have come down from head offices to some bank branches, saying they must strictly abide by credit quotas this month, the China Securities Journal reported, with regulators keeping a closer eye than normal on lending activity as part of their campaign against inflation.

Although consumer price inflation dipped to an annual rate of 4.6 percent in December, many analysts expect it to rebound this month to its fastest in more than two years and warn that excessive lending by banks would compound the problem.

The China Business News said that banks had already lent 1.2 trillion yuan ($182 billion) as of January 24, putting them well on track to blow past limits that regulators had wanted to set for the first month of the year.

Banks have faced contradictory incentives at the start of this year. On the one hand, they have wanted to push loans out the door quickly, to grab a big slice of the nation's lucrative credit business before the government tightens policy further. On the other hand, they are wary of being so aggressive as to invite official scrutiny and even punishment.

In its front-page article, the China Securities Journal said that banks were now trying to row back from excesses.

To ensure that loan issuance does not overshoot the quota, the head office has now sent out an order that all branches raise lending rates, the newspaper paraphrased an unnamed official at a large state-owned bank as saying.

The article did not say whether banks also felt pressure to raise lending rates because of a spike in their own funding costs. The banking system has been bit by an unprecedented liquidity squeeze ahead of the Lunar New Year, driving money market rates skyward and compelling the central bank to inject cash in the economy despite its tightening bias. [ID:nTOE70O028]

CREDIT RATIONING

For less-favoured industries, such as heavy polluters or energy guzzlers, some banks are setting lending rates 45 percent higher than the benchmark, which is now 5.81 percent for one-year loans, the newspaper said.

For ordinary industries, lending rates are about 30 percent higher than the benchmark, though top clients can still access loans at a 5 percent discount to the benchmark rate, it added.

The newspaper also cited a separate bank official as saying that overall lending in January cannot exceed 12 percent of the full-year target, which is said to be about 7.5 trillion yuan.

As a centrepiece of its economic policy, China sets loan quotas to control credit issuance by banks, a practice that has taken on extra urgency this year because of the build-up in inflationary pressure.

Yi Gang, deputy governor of the central bank, said that the effectiveness of Chinese monetary policy was increasingly limited, the China Securities Journal reported in a separate article on Wednesday.

Yi's comments appeared to be old, based on a magazine interview published earlier this month, but he highlighted issues that were still very much top concerns in Beijing.

He said that the creation of base money as a result of China's huge trade surplus had pushed up inflation and that a rebalancing of the country's economy towards greater reliance on domestic demand was needed.

The root cause of China's inflation is the excessively large current account surplus, Yi said, adding that a more flexible exchange rate would help reduce it. ($1=6.582 Yuan)

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