onomy. On Friday, the People’s Bank of China raised interest rates for the second time in four months. The lending rate has been raised 0.27 percentage points to 6.12% (and for long-term loans the minimum for a five-year bank loan has been set at 6.84%).

Most are agreed that this is not the last step. More rate rises are likely as part of the government’s effort to slow investment, now growing at a white-hot annual rate of 30%.

There are two concerns. The first is whether this micro fine-tuning of interest rates will have much effect on China’s juggernaut pace of growth and incipient inflation threat. The second is how any significant China slowdown will affect the rest of the world. China’s exports this year are expected to soar by 20.8% and its imports to rise by 18.4%.

Little wonder China’s currency, the renminbi, has appreciated by less than 1.7% since it was de-pegged from the dollar in July last year. It needs to rise by much more to keep the lid on a trade surplus that hit a record 14.6bn renminbi ($1.8bn) last month.

Slowing an economy growing at such a breakneck pace is arguably the biggest challenge facing a political and financial elite apprehensive about the level of bad debts in the banking system. The wording of the official statement is worth noting. “The overall situation is sound,” oozed the central bank, “but the problems of over-rapid investment growth and credit expansion and an excessively large trade surplus are pressing.”

Many are concerned that China faces a danger of runaway spending by companies and local authorities that will see a sprawl of white elephant projects and a new crop of bad loans that could cause serious problems for the banking system.

Two features of China’s economic story compel immediate attention. First, the economy has been going like a train. The growth rate quickened to a blistering 11.3% in the second quarter from a year earlier, the fastest pace in a decade, and a full percentage point up on the annualised figure for the previous quarter. This pace has been driven by heavy spending on new factories and other fixed assets. Earlier last week the World Bank forecast that it expected China’s economy to grow this year by 10.4%.

And second, previous monetary tightening to cool the economy shows no sign of working. Friday’s step suggests Chinese leaders believe measures already in place are failing to cool the economy. Investment in some industries, such as car manufacturing, exploded by 44.5% in the first six months of this year and by 40% in textiles, according to the country’s main planning agency, the National Development Reform Commission.

Despite this lack of response to date, or perhaps because of it, the interest rate hike caught many analysts by surprise; some had taken their cue from signs of slower growth in industrial output and capital spending in July.

China now joins the United States, Japan, Europe and others in raising borrowing costs. And, since April, China’s central bank, the People’s Bank of China (PBOC), has also required banks to hold more deposits in reserve and instructed them to curb lending to specific sectors. The PBOC has also sucked in more money out of the banking system through open market operations.

But will the tightening work? Ben Simpfendorfer, an economist with Royal Bank of Scotland in Hong Kong, says “yes”. He expects gross domestic product (GDP) growth to ease as the trade surplus narrows. “The fact that they’ve tightened pre-emptively is a good step. But I would like to see one more hike in the required reserve ratio, if not two.”

Others are not so sure. Peter Morgan, chief Asia economist with HSBC in Hong Kong, says: “The point is, when you have these nickel-and-dime hikes, it’s not going to work very much. Real ratios are low relative to growth: that’s the basic issue.”

Government ministries have weighed in with strict orders to rein in capital spending. They blame the investment surge in part on local leaders who, it is said, are failing to enforce controls and sometimes initiate their own projects in defiance of building curbs.

As previous exhortations appear to have fallen on deaf ears, examples have had to be set. Last week, after a meeting of China’s cabinet, the central government reprimanded the governor of Inner Mongolia and two of his top officials for building an unauthorised power plant. In a punishment reminiscent of the excesses of the Mao Tse Tung era, they were told to write self-criticisms to China’s powerful State Council for allowing hundreds of millions of dollars of investments in the coal-burning plant that had not been authorised by Beijing. The punishment was widely publicised in the state press.

Local governments account for up to 20% of all investments in China. And local politicians can also lean on banks to provide credit for enterprises they control. Political careers can be dependent on such prestigious projects and the returns on these developments can help pay for local education and healthcare.

There have been some spectacular bank crises in the recent past. And some have read into the decision by the authorities also to raise rates paid to depositors a worry that savers are pulling their money out of the banks too quickly, threatening financial stability. The derisory rates of interest have encouraged savers to play the stock market or buy property.

What are the wider implications? China is one of the world’s biggest oil consumers, so a growth slowdown should ease the pressure on the oil price. Other commodities such as base metals may come off the boil, too. Meanwhile, a rise in the renminbi should help to ease America’s trade deficit.

This, however, creates an incipient inflation problem for those economies that have relied on cheap Chinese goods to bear down on the prices of domestic manufactured goods. And it will also slow Chinese demand for the West’s semi-manufactured and finished manufactured goods. The greater problem, however, is how to slow the Chinese dragon without triggering an abrupt seizure – and much bigger problems for the country’s industrial and banking system.