The Bank for International Settlements (BIS)-- dubbed the central bank of central banks -- warned in its quarterly report that China's "credit to GDP gap" has reached 30.1, its highest level ever and far above the 10 per cent level associated with banking risks, media said citing a quarterly report released on Sunday.
The gauge measures the difference between the credit-to-GDP ratio and its long-term trend.
Any level above 10 suggests that a crisis will occur "in any of the three years ahead", the BIS said. China's indicator is way above the second highest level of 12.1 for Canada and the highest of the 43 countries assessed by the BIS, The Guardian reported.
Debt has played a key role in shoring up China's economic growth following the global financial crisis. Outstanding government, corporate and household debt reached 255 per cent of GDP in 2015, fuelled in large part by a surge in company borrowing, up from 220 per cent just two years earlier.
The BIS gave China a red signal, a level it said was intended to indicate the possibility of a financial crisis in the three years ahead.
"There has been a distinctly mixed feel to the recent rally - more stick than carrot, more push than pull. This explains the nagging question of whether market prices fully reflect the risks ahead, The Telegraph quoted Claudio Borio, the BIS's chief economist.
The warning comes as Beijing tries to avoid a so-called hard landing for the economy while transforming it from one based on state investment and exports to consumer-led growth.
Analysts have warned that the ballooning borrowing risks sparking a financial crisis as bad loans and bond defaults increase.
Because China is a key driver of world growth, a crisis in the country?s banking sector could have catastrophic implications around the world, with the global economy still struggling to recover from the 2008 financial crisis.
The BIS early-warning indicators are intended to capture "financial overheating and potential financial distress" in the medium term and to highlight that rapid credit growth could "sow the seeds" for future crises, it said.
China?s "Big Four" state-owned banks reported mounting bad loans in the first half of the year, and earlier in the summer an official with the banking regulator said lenders had written off more than $300 billion of bad loans in the past three years.
Chinese authorities have unveiled a set of policies intended to tackle the problem of souring loans, including debt-for-equity swaps, and analysts say the country?s vast foreign-exchange reserves and control over the banking system could help cushion the economy from financial crises.
The BIS quarterly review also said that financial markets had coped well with the Brexit vote and other potentially disruptive political developments but asset prices may be running too high and the risks to market stability were growing, The Guardian reported.
