Qilu Bank sues local govt financing vehicle in rare public spat

A Chinese bank is suing a local government financing vehicle over a bad loan in a rare public display of a deepening rift between lenders and borrowers in China's murky local debt market, Reuters reported on Tuesday.

The unusual step also highlights growing strains in the market confronted by slowing economic growth and a property sector that has started to cool off after decades of runaway expansion.

Qilu Bank, based in Jinan, East China's Shandong Province, announced in its 2013 annual report - published online in Chinese and English - that it was suing a local government financing vehicle (LGFV) over unpaid debt.

The bank said the Urban Construction and Comprehensive Development Company of Licheng District in Jinan failed to make payments on a 35.4 million yuan ($5.71 million) outstanding loan, along with 6.1 million yuan in unpaid interest.

"To the best of our knowledge, this is the first official disclosure of a LGFV default on a bank loan," wrote Nomura analysts in a research note distributed to clients on Monday.

Neither Qilu Bank nor the company in question answered phone calls requesting comment.

Much of China's massive debt overhang and its accompanying industrial overcapacity was incurred by local governments using such vehicles, known as LGFVs, to get around laws prohibiting local governments from borrowing directly.

These entities, financed by local banks, were linked to the local governments and conducted investment activities on their behalf, dabbling in real estate, providing subsidies to strategic industries like solar power, and otherwise helping contribute to China's industrial overcapacity and its real estate asset price bubble.

Until recently, banks have been willing to roll over LGFVs' debts indefinitely, avoiding write-downs and keeping reported nonperforming loan ratios at levels well below what analysts considered realistic - a strategy analysts say worked fine so long as China maintained double-digit economic growth.