With the ECB’s QE coming to an end at the end of the year (absent some shock to the market or economy), some traders have already been voicing concerns which central bank will step in and provide a backstop to the global fixed income market, especially once the BOJ joins the global tightening bandwagon (something it will soon have to as Japan is rapidly running out of monetizable securities, and just moments ago the BOJ announced it would trim its purchases of bonds in both the 10-25 and 25+ year bucket).

Today one answer emerged when China’s central bank – three weeks after its latest RRR cut – announced further easing measures, including the introduction of incentives that will boost the liquidity of commercial banks, helping them to expand lending and increase investment in bonds issued by corporates and other entities.

And in a surprising twist, in order to make sure that Chinese banks and financial institutions have ample liquidity, the PBOC appears to have engaged in quasi QE – using monetary policy instruments such as its medium term loan facility (MLF) – to support the local bond market and banks, especially those that have invested in bonds rated AA+ and below. Effectively, China will directly fund banks with ultra cheap liquidity, with one simple instruction: “increase bank lending and bond purchases.” And since all Chinese banks are essentially state owned, what Beijing is doing is launching a form of stealthy QE, only one where it is not the central bank, but the country’s various commercial banks that do the purchases… using central bank liquidity.

As a reminder, one month ago we noted that the spread between China’s AAA and AA- rated bonds has spiked in the past three months, blowing out to levels not seen since August 2016, and an indication of the market’s growing fears about the recent surge in Chinese corporate defaults.

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