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Have Euro Area Government Bond Risk Premia Converged To Their Common State?

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Author Info

  • Lorenzo Pozzi

    ()
    (Erasmus University Rotterdam)

  • Guido Wolswijk

    ()
    (European Central Bank)

Abstract

We derive a model in which a standard international capital asset pricing (ICAPM) model is nested within an ICAPM model with market imperfections. In the latter model an idiosyncratic stochastic factor affects the return of risky assets (over a risk-free rate) on top of the systematic component that is common to all countries (and that is interacted with a timevarying idiosyncratic “beta”). We introduce asymptotic convergence from the full ICAPM model with imperfections to the standard model by multiplying the idiosyncratic factor by convergence operators. The model is then estimated using the weekly 10 year government bond spreads of Belgium, France, Italy, and the Netherlands versus Germany over the period 1991-2006. We find that the idiosyncratic components have converged towards zero for all countries after the introduction of the euro implying that the efficiency of the euro area government bond markets under consideration has increased. Full convergence has not yet occurred however.

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Bibliographic Info

Paper provided by Tinbergen Institute in its series Tinbergen Institute Discussion Papers with number 08-042/2.

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Date of creation: 18 Apr 2008
Date of revision: 07 Sep 2009
Handle: RePEc:dgr:uvatin:20080042

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Web page: http://www.tinbergen.nl

Related research

Keywords: Government bonds; euro area; interest rate spreads; state space methods;

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Cited by:
  1. Dimitris A. Georgoutsos & Petros Migiakis, 2012. "Heterogeneity of the determinants of euro-area sovereign bond spreads; what does it tell us about financial stability?," Working Papers 143, Bank of Greece.

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