Working Paper: NBER ID: w29501
Authors: Simon Gilchrist; Bin Wei; Vivian Z. Yue; Egon Zakrajsek
Abstract: In this paper, we study the interplay between sovereign risk and global financial risk. We show that a substantial portion of the comovement among sovereign spreads is accounted for by changes in global financial risk. We construct bond-level sovereign spreads for dollar-denominated bonds issued by over 50 countries from 1995 to 2020 and use various indicators to measure global financial risk. Through panel regressions and local projection analysis, we find that an increase in global financial risk causes a large and persistent widening of sovereign bond spreads. These effects are strongest when measuring global risk using the excess bond premium – a measure of the risk-bearing capacity of U.S. financial intermediaries. The spillover effects of global financial risk are more pronounced for speculative-grade sovereign bonds.
Keywords: Sovereign Risk; Financial Risk; Global Financial Conditions; Bond Spreads
JEL Codes: E43; E44; F33; G12
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| increase in global financial risk (F65) | widening of sovereign bond spreads (F34) |
| increase in excess bond premium (G12) | increase in investment-grade sovereign spreads (F34) |
| increase in excess bond premium (G12) | increase in speculative-grade sovereign spreads (F65) |
| shock to the excess bond premium (G12) | gradual increase in sovereign spreads (H63) |
| global financial risk (F65) | transitory effects on sovereign bond spreads (F65) |
| excess bond premium (G12) | persistent effects on sovereign bond spreads (F65) |
| local risk factors (R20) | isolate effects of global financial risk (F65) |