* Lending contracts for 10th quarter - FDIC
* Q4 profit $21.7 bln vs year-ago loss
* FDIC's Bair: "We need to see more lending"
* Lending down 0.2 pct to $7.4 trln, led by construction
* Number of problem banks up 24 to 884 (Adds link to Breakingviews column)
By Dave Clarke
WASHINGTON, Feb 23 (Reuters) - In the black for 2010, its first profitable year since 2007, the U.S. banking industry now needs to start lending again.
At least that's what Sheila Bair, the chairman of the Federal Deposit Insurance Corp, advocated as her agency delivered the industry's fourth-quarter report card.
"If you want to have long-term sustainable earnings you can only reduce loan-loss provisions for so long, we need to see more lending," she said. <^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^ Graphic of loan balances: link.reuters.com/kev28r Reuters Breakingviews: [ID:nN23191130] ^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>
On the face of it, the industry looks in good shape. The FDIC reported that banks had combined earnings of $21.7 billion, marking their fourth profitable quarter in a row.
But statistics showed that lending contracted for the 10th straight quarter to $7.38 trillion, down 0.2 percent or $13.6 billion.
Bair's take: The industry's recovery will not take hold until banks start making money off new loans, rather than just release money set aside to cover shaky prior loans.
Indeed, a big help in the fourth quarter was that banks reserved $31.3 billion less for bad loans compared with the year-ago period.
Bankers argue that lending is all about demand. Until the economy fully recovers, banks can't turn on the spigot, they say.
"Business loan demand is still anemic," said Rob Strand, senior economist with the American Bankers Association.
Bair expressed sympathy for that argument on Wednesday, but said the banks should still be doing more.
"The old-fashioned lending that they used to do, we need to see more of that," she said.
TOO GREEDY THEN, TOO FEARFUL NOW
Loan balances declined by $13.6 billion in the fourth quarter compared a $6.6 billion drop in the previous quarter.
Construction and development dropped 9 percent or $32.5 billion, the biggest drag. Lending is increasing slightly elsewhere, with lending for residential mortgages ticking up by $17 billion or just less than 1 percent.
"The banks that are willing to step up and take on a little more risk right now may fair better in the long term," said Chip Hendon, a senior portfolio manager at Huntington Asset Management in Cincinnati. "Things are always cyclical -- people always get too greedy on one side and too fearful on the other. The risks to the market were very real, but overdone in the years past."
Credit card loans increased by $18.1 billion, or 2.6 percent, helped by holiday shopping albeit at a slower pace than in 2009 when card lending jumped by 7.4 percent.
Bair said the outlook for the industry overall is improving even for smaller banks who have been burdened by soured commercial real estate loans.
In another good sign, the amount of bad loans on banks' books, those 90 days or more past due, declined for the third consecutive quarter.
Nevertheless, the number of banks on the FDIC's problem list rose slightly to 884 in the fourth quarter, an increase of 24 from the previous quarter. A year ago, the FDIC added 150 institutions to the list.
So far in 2011, 22 banks with $9.3 billion in assets have failed. For all of 2010, 157 banks with total assets of $92 billion failed after 140 banks failed in 2009 with total assets of $169.7 billion.
Only a small percentage of the banks on the problem list end up failing. The FDIC does not disclose the names of these institutions that are flagged for low capital levels, poorly performing assets or other troubles.
(Reporting by Dave Clarke in Washington and Clare Baldwin in New York; Editing by Jack Reerink and Tim Dobbyn)