WRAPUP 1-China tells banks to brace for policy shift

* Warning hints at China winding down loose monetary policy

* CBRC chief says banks must aim for "reasonable" lending

* Another CBRC official says bad loans should be manageable

By Aileen Wang and Simon Rabinovitch

BEIJING, Oct 21 (Reuters) - China on Wednesday urged banks to be more alert to risks from their breakneck lending and also warned them to brace for a policy shift, the latest signal that it might gradually unwind extremely loose monetary conditions.

Chinese banks must be "reasonable" in their lending and guard against a rise in their bad loans, the country's top banking regulator, Liu Mingkang, said in a sternly worded statement.

Such warnings have been commonplace in recent months after Chinese banks' unprecedented loan surge in the first half, but Liu added a new and potentially important dimension about policy adjustment.

"You must quickly establish and perfect liquidity risk management systems and pay close attention to the possible impacts on market liquidity of international capital flows, macro-economic trends and policy adjustment," he said.

His comments followed a speech by central bank governor Zhou Xiaochuan last week in which he said that China's very easy monetary stance had been a necessary response to the global financial crisis and could not continue indefinitely.

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Even as China has led the world in bouncing back from the financial crisis, officials have been circumspect about the solidity of the recovery and insisted that they would not abandon the loose monetary policy and fiscal stimulus adopted a year ago.

China's banks, almost all of which are state owned, have been at the front line of economic revival efforts, issuing 8.67 trillion yuan ($1.27 trillion) in new loans in the first nine months of the year, 75 percent more than in all of 2008.

MOUNTING RISKS

"Risks have been mounting as credit has surged. We need to pay close attention to that and effectively address the risks," Liu said in the statement posted on the China Banking Regulatory Commission's website (www.cbrc.gov.cn).

Much of the credit has been channeled into government-backed infrastructure investment and some analysts have expressed concerns about how the money will be repaid.

Liu reiterated that banks must set aside more money by the end of this year in case their assets sour. The CBRC has told banks to increase their loan-loss provisions to at least 150 percent of their non-performing loans.

Banks' non-performing loan ratio had fallen to 1.66 percent of total loans at the end of September from 2.42 percent at the end of 2008, Liu added.

The lending explosion this year has, if anything, flattered the ratio by increasing the amount of new assets on banks' books. Any fall-out will only show up over the coming years as the mountain of loans comes due.

Another senior banking regulator said on Wednesday that they need not lead to a rise in bad debts, so long as banks manage their assets well, including through securitisation.

The comments by Li Fu'an, a CBRC director, underscored how Beijing thinks it is capable of guiding banks through the dangers.

"At an early stage of repayment, some cash flow problems could emerge," said Li, director of CBRC's business innovation and supervision department.

But he said that banks could manage their portfolios by securitising assets and rolling over loans, among other means.

"If banks use these tools, the loans will not turn into bad assets on their balance sheets," he said. "We need to see if banks can make preparations early enough."

LOOKING AHEAD

Looming over Chinese banks is the question of how they will pace their lending in 2010, when they are on track to issue about 10 trillion yuan this year. Few analysts think this year's level will be sustainable, but a steep drop-off will leave projects already started thirsting for cash.

Yin Zhongqing, deputy head of the finance and economic committee under the National People's Congress, was quoted in local press on Wednesday as saying that new local-currency loans next year would not be lower than 8 trillion yuan.

Short-term lending has already slowed markedly after an explosion at the start of this year, but banks have kept the taps open for medium- and longer-term credit, in line with the insistence of China's leaders that their lending support real economic activity and not asset-market speculation.

CBRC chief Liu said banks should continue to provide credit to promote the development of smaller firms, the agricultural sector and some service industries, among other priorities.

And director Li said that many of the loans were streaming toward investment in the central and western regions, presenting "a historic opportunity" for balancing growth between the country's less-developed interior and its wealthier coast. (Editing by Neil Fullick) ($1=6.825 Yuan) (Additional reporting by Zhou Xin and Alan Wheatley)