Working Paper: CEPR ID: DP7499
Authors: Ludger Schuknecht; Jürgen von Hagen; Guido Wolswijk
Abstract: This note looks at US$ and DM/Euro denominated government bond spreads relative to US and German benchmark bonds before and after the start of the current financial crisis. The study finds, first, that bond yield spreads before and during the crisis can largely be explained on the basis of economic principles. Second, markets penalise fiscal imbalances much more strongly after the Lehman default in September 2008 than before. There is also a significant increase in the spread on non-benchmark bonds due to higher general risk aversion, and German bonds obtained a safe-haven investment status similar to that of the US which they did not have before the crisis. These findings underpin the need for achieving sound fiscal positions in good times and complying with the Stability and Growth Pact.
Keywords: bond markets; financial crisis; sovereign risk premiums
JEL Codes: G12; G15
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| economic fundamentals (E25) | bond yield spreads (G12) |
| fiscal performance (E62) | bond yield spreads (G12) |
| fiscal imbalances (E62) | bond yield spreads (G12) |
| market sentiment (G10) | bond pricing (G12) |
| perception of risk (D81) | bond spreads (G12) |