It is therefore doubtful that the PBoC will stay watching as a selloff in Chinese sovereigns might correspond with a fast widening of Chinese corporate spreads.
According to the latest annual Financial Stability Report published by the PBoC in November, the non-performing loan (NPL) ratio of 30 sample banks is expected to surge around 5% at the end of this year, 5.5% in 2021 and 6.7% in 2022. These numbers are well above the 1.5% recorded at the end of the first quarter of 2020. Higher NPL numbers don't constitute an issue only for the corporate space, but also for banks. The report shows that a third of the Chinese banks monitored by the PBoC's fail the central bank's stress test. A big part of them needs to raise capital or loss-absorbing debt to fulfil their total loss-absorbing capacity (TLAC).
It explains why just a couple of days ago, the PBoC has injected 800bn yuan in the Medium-term Lending Facilities (MLF) in the credit market. Even though a few days ago, Guoqiang Liu, vice governor of the PBoC, said that the central bank would "sooner or later exit" stimulus policies set in place for the Covid-19 pandemic, it is clear that at the moment it would be risky for the central bank to taper.
The question is whether the PBoC might tighten the economy further in order to avoid rising defaults which would inevitably weigh on the financial sector.
So far, the message of the central bank seems to steer away from a dovish tone. However, the facts are pointing to more stimulus. Bloomberg reported today that the PBoC had injected 70bn yuan into the banking system using 7-day reverse repurchase agreements to increase liquidity in the market. It definitively doesn't look like a central bank that is on the verge of easing the economy, and investors might be right to see an upside Chinese sovereigns.