Jan. 16 (Bloomberg) -- China’s foreign-exchange reserves surged to a record level in December and new loans exceeded forecasts, raising the stakes in Premier Wen Jiabao’s campaign to avert asset-price bubbles.

Reserves rose 23 percent to $2.4 trillion, the world’s largest, according to a People’s Bank of China statement on its Web site yesterday. Banks extended 379.8 billion yuan ($55.6 billion) of new loans, taking the annual total to an unprecedented 9.59 trillion yuan, the PBOC reported.

“Liquidity is massive -- the government needs to do something about it,” said Isaac Meng, senior economist at BNP Paribas SA in Beijing. Accelerating inflation may encourage the government to end the 18-month-old yuan peg to the dollar and allow a 3 percent appreciation by year-end, Meng said.

Along with a stronger yuan, policy makers will have to follow up on their decision this week to raise the share of deposits banks must set aside as reserves, Meng said. The risk: surging lending growth and an influx of speculative capital from abroad destabilize the world’s third-largest economy with bubbles from property to stock markets.

Wen’s cabinet pledged last week that regulators will step up monitoring of speculative funds after the biggest jump in property prices in 18 months in December.

Money Supply

New lending was more than the 310 billion yuan median estimate in a Bloomberg News survey and higher than in the previous two months. M2 money supply jumped 27.7 percent in December from a year earlier, after a record 29.7 percent gain in November.

For the full year 2009, foreign reserves climbed about $453 billion. The increase partly reflects China’s purchases of other currencies to prevent the yuan from appreciating. The effort, done to help exporters, has also resulted in the country becoming the largest creditor to the U.S., with $799 billion of Treasuries holdings.

“It’s a dilemma -- you can’t keep the yuan where it is forever, yet allowing it to move may stoke speculation,” Brian Jackson, a Hong Kong-based strategist on emerging markets at Royal Bank of Canada, said before the statement. “The central bank will have to monitor and stem hot-money inflows very carefully.”

The yuan will strengthen about 5 percent to 6.5 against the dollar by year-end, according to Jackson. The central bank has tightened policy this year by guiding bill yields higher and increasing banks’ required reserve ratio by half a percentage point starting Jan. 18.

Yuan Peg

Authorities have kept the yuan at 6.83 per dollar since July 2008 after allowing it to advance 21 percent over three years.

Meng said the PBOC will keep selling so-called sterilization bills to mop up cash and ratchet up banks’ reserve requirements by 2 percentage points by the end of June, to 18 percent for bigger lenders.

The currency reserves jumped by $127 billion in the fourth quarter, compared with $141 billion in the previous three months, as the trade surplus and foreign direct investment channeled in cash.

In December, direct investment from abroad more than doubled from a year earlier to $12.1 billion. The value of China’s euro and yen assets also affects the total.

Monthly Increases

The data indicated that foreign-exchange reserves grew by about $55.7 billion in October, $60.5 billion in November and $10.4 billion in December. Gains in the dollar in December against the euro and yen pared the value of China’s holdings in those currencies, Royal Bank of Scotland Group Plc said.

“Inflows are likely to pick up in the first quarter,” said Dariusz Kowalczyk, chief investment strategist at SJS Markets Ltd. in Hong Kong.

The central bank has set a target of a “moderate” loan expansion in 2010 to support economic growth while stabilizing prices and managing inflation expectations.

Property prices across 70 major cities climbed 7.8 percent in December from a year earlier, a government report showed Jan. 14. A government report due next week will show gross domestic product increased 10.5 percent in the fourth quarter from a year before, the most since April-to-June 2008, according to the median of 41 estimates in a Bloomberg News survey.

Banks may already have extended 1 trillion yuan of new loans this year, adding to inflation risks, Goldman Sachs Group Inc. said in a note to clients yesterday, citing checks with financial institutions.

The China Banking Regulatory Commission’s recommended range for lending this year is between 7 trillion yuan and 8 trillion yuan, a person familiar with the matter said last month, as the nation also seeks to limit the risk from inflation. Premier Wen said on Dec. 27 that it would have been better if lending in 2009 hadn’t been on such a large scale.

--Li Yanping, Kevin Hamlin. Editors: Paul Panckhurst, Chris Anstey

To contact Bloomberg News staff for this story: Li Yanping in Beijing at +86-10-6649-7568 or yli16@bloomberg.net

Last Updated: January 15, 2010 11:00 EST