One of the world's top credit rating agencies says China's banks could be in more trouble than first thought due to bad loans.

Moody's Investor Services Tuesday said China's auditor likely underestimated the amount of loans made to local governments by $540 billion.

Moody's report said the additional loans have likely exposed China's loans to increased risk, and that 8 to 12 percent of all the loans made by Chinese banks could go unpaid. Moody's had earlier estimated only 5 to 8 percent of the loans would be classified as “non-performing.”

Report author Yvonne Zhang also expressed concerns about the Chinese auditing agency's failure to include the $540 billion of loans in its report last week. She said that may mean many of the newly discovered loans are poorly documented and that the borrowers are at even greater risk of defaulting.

China's banks responded to government calls to increase lending when the global financial crisis struck in order to help boost the economy. Many banks lent vast of amounts of money to local governments for infrastructure projects.

There are concerns defaults on those loans could hurt China's banking sector and then spread to other parts of the economy.

Other top credit rating agencies have warned up to 30 percent of the loans made by Chinese banks could go bad.