The weakest loan growth figures since 2005 may prompt further easing by China’s central bank, according to analysts, if the country is to avoid a significant slowdown in demand.

Loan and deposit data released over the weekend by the People’s Bank of China showed deposits recovering dramatically in February from the record Rmb800bn withdrawn in January, but also showed loan growth that came in below expectations for the second month in a row.

There was a strong split between activity among companies and individuals, with consumer loans and deposits both remaining muted.

Companies were the key driver of deposit growth, contributing Rmb894bn out of the Rmb1.6tn that returned to the banking system in February. A large chunk of the rest came from government departments and organisations, according to analysts at Barclays Capital, while the retail market contributed just Rmb164bn.

On the lending side, retail was even weaker with total lending, mostly for mortgages, dropping to just Rmb65bn in February, less than half the levels seen in both January and December, when lending was Rmb153bn and Rmb146bn respectively.

Corporate loans edged higher to Rmb643.5bn, from Rmb584bn in January and Rmb497bn in December, but according to Jian Chang, economist at BarCap:

most of these are short-term and bill financing (around 70%), reflecting corporates remaining cautious on borrowing given the slowing economy.

Total new loan growth during the month was Rmb711bn, which according to Mike Werner at Bernstein Research was 5 per cent lower than market expectations. While February loan growth was one-third higher than the same month last year when Chinese New Year fell in February, total loan growth during the first two months of 2012 is down 8 per cent compared with 2011. Werner said:

From a loan growth perspective, this marks the weakest start to a new year since 2005.

We forecast full-year loan growth to be Rmb7.7tn in 2012, below market expectations of Rmb8.0-8.5tn. We believe 1) slowing deposit growth, 2) inflation and 3) the centrals bank’s drive to reduce the economy’s leverage to the banking system will all act as constraints on loan growth in 2012.

The big uptick in deposits and the slower loan growth meant an improvement, or reduction, in the loan to deposit ratio of the banks, which is the key measure of leverage. The LDR declined 50 basis points to 68.8 per cent, which means that banks lend out Rmb68.80 for every Rmb100 of deposits they hold.

Back to Mike Werner:

While an improvement from January, the LDR is still at one of the highest levels in the past 6 years. We expect the high LDR ratio for the small and medium sized banks will constrain their loan growth in 2012.

BarCap’s economists pointed to supply constraints due to less loanable funds and high LDRs as well as weaker demand as the reasons behind the poor loan growth. But they are not worried about a collapse in demand in China.

In our view, while weak credit demand warrants close monitoring, recent fear for a collapse of demand is probably exaggerated, in our view, because much of the weakness was policy induced. We believe policies can be relaxed, if necessary, in the form of an RRR cut, relaxation of loan quotas and [LDR] restrictions, which will reverse the weakness to ensure stable growth. Hence we don’t expect prolonged demand weakness.

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