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Default, liquidity and crises: an econometric framework

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  • Monfort, A.
  • Renne, J-P.

Abstract

In this paper, we present a general discrete-time affine framework aimed at jointly modeling yield curves associated with different debtors. The underlying fixed-income securities may differ in terms of credit quality and/or in terms of liquidity. The risk factors follow conditionally Gaussian processes, with drifts and variance-covariance matrices that are subject to regime shifts described by a Markov chain with (historical) non-homogenous transition probabilities. While flexible, the model remains tractable. In particular, bond prices are given by quasi-explicit formulas. Various numerical examples are proposed, including a sector-contagion model and credit-rating modeling.

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Bibliographic Info

Paper provided by Banque de France in its series Working papers with number 340.

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Length: 44 pages
Date of creation: 2011
Date of revision:
Handle: RePEc:bfr:banfra:340

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Web page: http://www.banque-france.fr/
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Keywords: credit risk; liquidity risk; term structure; affine model; regime switching; Car process.;

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Cited by:
  1. Monfort, A. & Renne, J-P., 2011. "Credit and liquidity risks in euro area sovereign yield curves," Working papers 352, Banque de France.
  2. Thomas Laubach, 2010. "Fiscal Policy and Interest Rates: The Role of Sovereign Default Risk," NBER Chapters, in: NBER International Seminar on Macroeconomics 2010, pages 7-29 National Bureau of Economic Research, Inc.

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