China implemented a planned increase in required reserves for some banks on Tuesday, sources said, sparking knee-jerk selling of Asian stocks which underscored how sensitive global investors are to Beijing's tightening of monetary policy.

The punitive increase in the amount of reserves some banks have to set aside, which was ordered last week, also came after a newspaper report said China's efforts to curb bank lending were meeting with mixed success, fueling fears that policymakers may take more aggressive action soon.

Chinese banks extended 1.45 trillion yuan ($212 billion) in new loans during the first 19 days of the year as they scrambled to front-load lending, the 21st Century Business Herald reported, suggesting that Beijing is finding it hard to slow robust credit growth which the government fears could lead to the economy overheating.

The People's Bank of China has been withdrawing funds from money markets over the past several weeks, and earlier this month started pushing short-term bill rates higher.

China's moves to tighten liquidity and rein in bank lending, with an eye on accelerating price pressures and asset prices, have spooked investors around the world who worry the global recovery may lose momentum as authorities unwind back emergency stimulus policies put in place to combat the global recession.

The central bank surprised markets on Tuesday by leaving yields unchanged in its closely watched one-year bill sale, but analysts said it was likely only a pause in tightening aimed at leaving enough cash in the system for the Lunar New Year holidays next month.

The auction result shows the central bank wants to stabilize expectations a bit to avoid large market swings. So it is pausing the uptrend in bill yields, said Liu Jinyui, analyst at China Merchants Bank in Shenzhen.

Taiwan's benchmark TAIEX <.TWII> index suffered its biggest one-day drop in six months while the Shanghai Composite <.SSEC> dropped 2.4 percent and Hong Kong's Hang Seng index <.HSI> fell nearly 2 percent in a broad Asia equity retreat. Commodities and higher-yielding currencies also took a hit and the yen jumped.

Reuters reported last week that CITIC Bank <0998.HK> <601998.SS>, the country's seventh-largest bank, and Industrial and Commercial Bank of China (ICBC) <1398.HK> <601398.SS>, the top lender, had been instructed to raise their reserve ratios after excessive lending.

The crackdown on banks followed the PBOC's first moves to wind down the ultra-loose monetary conditions that had helped fuel the economy's rapid rebound, which in turn buoyed the economies of many of its Asian neighbors.

Many analysts still expect the central bank to resume that tightening following the Lunar New Year holidays in mid-February, eventually leading to increases in benchmark interest rates.

But the PBOC may be keen to ensure enough cash is available through the week-long holiday which starts on February 14, when many workers pull money out of the bank to spend on gifts or bring home to their families, traders said.

It may also be trying to ensure that any stepped-up draining of excess liquidity is done in a gradual way for the next few weeks, to avoid creating more volatility in markets after a series of tightening steps in the last few weeks.

The PBOC auctioned 10 billion yuan ($1.5 billion) of one-year bills at a yield of 1.9264 percent, below forecasts of about 1.97 percent and flat from last week, after increasing them by about 8 basis points in each of the previous two auctions.

The central bank also refrained from draining funds from the money market through short-term bond repurchase agreements, traders said.

But the impact of the special reserve requirement increase on Tuesday will serve as a drain on money market liquidity.

The implementation of those selective higher reserve requirements pushed the weighted average 7-day repo, the key measure of short-term liquidity, up to as high as 1.5334 percent, up about 20 basis points from Monday's close and the highest since the end of December.

Those higher reserve requirement ratios for some banks come on top of the overall 50 basis point increase in reserve requirements that went into effect on January 18.

($1 = 6.82 yuan)

(Writing by Jason Subler; Additional reporting by Aileen Wang in Beijing; Editing by Ken Wills & Kim Coghill)

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