* State-run banks account for 48 pct of Brazil's lending
* State banks disburse loans five times the pace of rivals
* Default ratio stable for third straight month in May
SAO PAULO/BRASILIA, June 25 (Reuters) - Bank lending in Brazil rose in May after state-controlled banks stepped up disbursements to help the government kick-start activity in Latin America's largest economy.
Outstanding loans in Brazil's banking system rose 1.5 percent from April, the central bank said in a report on Tuesday. On an annual basis, state-run banks disbursed loans at a pace five times faster than their private-sector rivals, which have turned more cautious as Brazil's economy enters a third year of sub-par growth.
President Dilma Rousseff has used state-controlled Banco do Brasil SA and Caixa Econômica Federal to cut credit costs in Brazil - which remain among the world's highest - and to foster competition with private-sector banks.
"The loan growth gap remains between public and private banks," said Carlos Firetti, an analyst with Bradesco BBI. "Credit figures ... showed a similar trend to what we have been observing in recent months, with modest overall loan growth led mainly by public-sector banks and accompanied by overall stable delinquency figures."
Banco do Brasil, state development bank BNDES and other state-run lenders increased credit to companies, individuals and home buyers by an average 28 percent in the 12 months through May, compared with 6 percent at private sector lenders, the report showed.
But credit is failing to expand as quickly as the government wants as the fastest pace of inflation in a year and waning corporate earnings are hampering demand for working capital, auto and revolving credit lines and Brazil's nascent economic recovery takes longer than expected to gain traction.
The central bank upped the forecast for lending growth in Brazil's banking system this year to 15 percent from a prior 14 percent estimate, said Tulio Maciel, who heads the bank's economic research department. The higher estimate reflects increased hopes among policymakers that state banks will spearhead a surge in new credit disbursements through year-end.
Such efforts fueled rapid loan book growth at state-run lenders, which currently control 48 percent of Brazil's outstanding loans but might spark a significant rise in future defaults.
Loans made by all banks in Brazil totaled a record 2.49 trillion reais ($1.12 trillion) last month. In the 12 months through May, lending growth slowed to 16.1 percent, the slowest pace since January 2010, according to Thomson Reuters data.
The annual pace of growth in earmarked loans, or credit aimed at encouraging investment for homebuilding purposes in accordance with government policies, accelerated to almost 25 percent in May. Mortgage lending expanded 34 percent in May, while lending by the BNDES jumped 17 percent from a year earlier.
Local private-sector banks have drastically restricted loan origination since the start of the year as deleveraging in risky segments, such as auto financing, has taken longer than expected. Loan delinquencies have held steady for the past three months.
Loans in arrears for 90 days or more, the industry's benchmark gauge for credit delinquencies, were at 5.5 percent of outstanding loans in May, the report added.
The average cost of borrowing in the banking system fell for the second month in three in May, hitting 25.8 percent. The spread, or the difference between the rate at which banks lend money and that at which it pays for deposits, fell to an all-time-low of 17.2 percentage points.
That happened even as the central bank raised the benchmark overnight Selic lending rate both in April and May. The decline in spreads probably took place as competition between private and public sector banks, the impact of inflation and low demand drove down lending rates amid increased funding costs, Firetti said.