As with China's fiscal economy, the banking system is also a complete mess. Since the beginning of the last decade banks and non-bank lenders had already embarked on one world-beating credit bubble, taking debt ratios up to unprecedented levels and funneling funds through the worst small and medium regional lenders to the worst borrowers in the process. And no sooner had the government tightened policy and started to clean up balance sheet and restructure banks than the country was hit with the dual shocks of Covid lockdowns and property market collapse ... sending the system back into a renewed round of policy-led credit and balance sheet expansion today.

Which naturally raises the question: How has China escaped without a systemic crisis to date? I.e., the kind of "sudden stop" funding shocks that brought down the US and Asian crisis economies, with mass defaults on liabilities, spiking rates and tanking currencies? And what would it take to send China over the edge going forward?

Our answer is that the game will likely continue for a long time to come. Here are the three key pillars of financial stability in China:

1. Closed capital account. For starters, China's hermetically closed capital account means virtually no exposure at all to foreign funding liabilities or capital flows - which are generally the main culprits in EM crisis cases.

2. The end of shadow lenders and the reestablishment of banks' monopoly. Another key factor has been the sharp contraction in "shadow" lending balance sheets in recent years, cutting them off from credit intermediation and thus financial risk in the economy and effectively reimposing the monopoly of the formal banking system on deposit and lending flows.

3. Iron-clad policy support via the "PBC put". Third, and arguably most important, the PBC has been underwriting every part of the financial economy with its own version of QE and continues to do so today. As a result there have been virtually no financial defaults over the last half-decade, and now there are no corporate bond defaults as well.