CHINA'S largest state-owned banks reported profit growth of at least 5 per cent in the first quarter, fuelled by increased lending and improved asset quality before a Covid outbreak triggered broad lockdowns and pummelled the economy.

Industrial & Commercial Bank of China said net income rose 5.7 per cent to 90.63 billion yuan (S$19 billion) in 3 months ended Mar 31 while China Construction Bank., Agricultural Bank of China and Bank of China posted increases of 6.8 per cent, 7.4 per cent and 7 per cent, respectively, according to exchange filings on Friday (Apr 29).

After recording the fastest profit expansion in nearly a decade last year, Chinese banks face an increasingly challenging 2022 as the government pressures them to help stabilise the economy at the cost of earnings.

China's growth outlook has deteriorated in recent weeks as draconian Covid restrictions have brought its urban areas, including the nation's financial hub of Shanghai, close to a standstill.

Investors are on edge as the government has expanded Covid-19 testing to most of the capital city of Beijing, sparking fears about an unprecedented lockdown in the city of 22 million.

China's adherence to Covid Zero is casting a pall over markets and the economy, with traders citing a change in that stance, not policy stimulus, as the key to turning around sentiment.

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Economists now estimate China's GDP growth to slow to 5 per cent in 2022, below the government's target of about 5.5 per cent. Nomura Holdings analysts expect economic activity data to tumble in April and the risk of recession to rise in the second quarter.

Although lenders had built stronger portfolio of loans, increased provisions against bad debt and lowered non-performing loan ratios in 2021, "Chinese banks may face a test on loan quality in the second quarter while they may boost volume growth to support the economy," Bloomberg Intelligence analyst Francis Chan wrote in a Apr 22 note.

Banks advanced a record 8.3 trillion yuan of new loans in the first quarter, compared with 7.7 trillion yuan during the same period a year ago. However, banks are turning more cautious to lend in an increasingly risky environment, especially to the battered real estate sector.

UBS Group analysts led by May Yan expects high-risk property developers to continue drive new non-performing loans this year, as bad-debt recognition at banks still appears far behind their estimate that exposure to weak firms accounted for 7 per cent of total developer loans.

China Merchants Bank reported last week that its non-performing ratio of real estate loans rose to 2.57 per cent as of March, up 1.18 percentage points from the end of 2021.

Even before the restrictions, bank executives already pointed to the challenges posed this year from slowing domestic demand, rising pressure on net interest margin and geopolitical risks from Russia's invasion of Ukraine.

The nation's 5 mega banks this week cut rates on some customer deposits, which will help keep their margins stable when banks are urged to boost cheap lending to small businesses. BLOOMBERG