CHINA wrong-footed markets yesterday by raising interest rates for the first time in 18 months as it moved to cool a runaway investment boom that threatens to destabilise the world’s fastest-growing big economy.

The People’s Bank of China, raised its benchmark one-year lending rate by a quarter-point to 5.85 per cent, from 5.58 per cent, helping to trigger yesterday’s sharp retreat in oil prices.

The central bank also moved to reinforce the rise in interest rates by issuing new guidelines to commercial banks to quell lending to a dozen sectors of the economy where excess capacity and investment is at its greatest. But after such a modest tap on the brakes yesterday for an economy growing so fast, economists predicted that further tightening in rates is just a matter of time.

Anxiety that China’s economy could dangerously overheat was fuelled by its first quarter GDP figures, which showed the economy accelerating yet further.

Growth picked up to an annual rate of 10.2 per cent in the opening months of the year, from an already red-hot 9.9 per cent in the final quarter of last year, sealing the case for the central bank to tighten policy.

Risks that excessive investment could lead to surplus capacity as well as exacerbate commercial bank’s bad loan problems were underlined by the first quarter’s 27.7 per cent year-on-year rise in fixed investment, up from a 25.7 per cent increase over 2005.

China’s banks also extended 1.26 trillion yuan (£87 billion) in new loans in the first quarter — more than half the central bank’s target for the whole year.

Economists had expected the central bank to raise reserve requirements, forcing banks to lock up more cash, as the first step towards curbing credit growth.

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