Working Paper: NBER ID: w18741
Authors: Massimiliano Caporin; Loriana Pelizzon; Francesco Ravazzolo; Roberto Rigobon
Abstract: This paper analyzes the sovereign risk contagion using credit default swaps (CDS) and bond premiums for the major eurozone countries. By emphasizing several econometric approaches (nonlinear regression, quantile regression and Bayesian quantile regression with heteroskedasticity) we show that propagation of shocks in Europe's CDS has been remarkably constant for the period 2008-2011 even though a significant part of the sample periphery countries have been extremely affected by their sovereign debt and fiscal situations. Thus, the integration among the different eurozone countries is stable, and the risk spillover among these countries is not affected by the size of the shock, implying that so far contagion has remained subdue. Results for the CDS sample are confirmed by examining bond spreads. However, the analysis of bond data shows that there is a change in the intensity of the propagation of shocks in the 2003-2006 pre-crisis period and the 2008-2011 post-Lehman one, but the coefficients actually go down, not up! All the increases in correlation we have witnessed over the last years come from larger shocks and the heteroskedasticity in the data, not from similar shocks propagated with higher intensity across Europe. This is the fi rst paper, to our knowledge, where a Bayesian quantile regression approach is used to measure contagion. This methodology is particularly well-suited to deal with nonlinear and unstable transmission mechanisms.
Keywords: Sovereign Risk; Contagion; Credit Default Swaps; Quantile Regression; Bayesian Analysis
JEL Codes: E58; F34; F36; G12; G15
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| propagation of shocks in Europe's CDS (F44) | limited contagion (F65) |
| risk spillover among eurozone countries (F65) | limited contagion (F65) |
| no evidence of increased intensity in shock propagation during turbulent periods (E32) | limited contagion (F65) |
| change in intensity of shock propagation pre-crisis to post-crisis (H12) | limited contagion (F65) |
| absence of significant differences in coefficients across quantiles (C32) | linear interdependence (C29) |
| sovereign risk is largely a linear phenomenon (F34) | no significant evidence of contagion (F65) |