China has reopened the door to securitized loans, offering a new way to resolve risks in massive local government debts, estimated at 14 trillion yuan ($2.2 trillion).

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The People's Bank of China, the China Banking Regulatory Commission and the Ministry of Finance have authorized a 50-billion-yuan quota for the country's lenders to securitize their loans, an official from the CBRC told China Daily on condition of anonymity on Monday.

Lenders must submit securitization plans for approval. The quota is expected to be fulfilled by year-end, and additional quotas are likely in the future.

Asset-backed securities are created by packaging the anticipated cash flows of instruments such as loans or receivables. These securities are then sold to investors.

The nation's trial program involving asset-backed securities started well before the 2008 global financial crisis, but it was suspended as these securities came under criticism for their role in the crisis.

The country launched a trial in 2005, when China Development Bank issued bonds based on 51 loans worth 4.7 billion yuan.

The quota just announced by regulators is a pittance compared with the banking sector's total loan balance, which stood at 61 trillion yuan at the end of April. But it opens a new path for lenders to deal with bad loans and liquidate assets.

"The amount of the quota means the move will have little impact on the banking system, but it's a good start," said Wang Jianhui, chief economist with Southwest Securities Co Ltd.

One category of loans eligible for securitization includes lending to local government financing vehicles, which were set up to borrow money to fund local authorities' spending on infrastructure

Banks' profitability has been hampered by massive loans to these vehicles. By issuing asset-backed securities, risks can be moved away from the banking system as lenders shift bad or doubtful local-government debt off their books.

In essence, lenders sell their loans at a discount in exchange for liquidity by issuing asset-backed securities. The securitization reduces loan cycles and could boost lenders' profitability.

By raising banking profitability, the new measure also has the potential to boost banking shares, whose valuations are at historic lows, according to analysts.

The 16 listed banks have an average price-to-book ratio of 1.19 based on their closing price on Friday. That means investors are able to buy the banks' assets at a price close to book value.

The price-earnings ratio, which shows investor demand, is at about six, only about half the market average.

China's first audit of local-government debt showed that 80 percent of their 10.7 trillion yuan in debt at the end of 2010 was in bank loans, and more than half matured from 2011 to 2013.

More than 35 billion yuan of this amount had gone into the stock and property markets or prohibited projects, the audit showed.

Bloomberg quoted the rating agency Moody's Investors Service as saying that the scale of debt might not be reduced as "loans aren't repaid and new credit is handed out".

Measures are being put in place to limit the risk of the securities. Lenders must hold at least 5 percent of the securities issued. The securities, which will be issued and traded on the inter-bank bond market, have to be rated by at least two credit rating agencies.

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