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Government bond risk premiums in the EU revisited: the impact of the financial crisis

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  • Schuknecht, Ludger
  • von Hagen, Jürgen
  • Wolswijk, Guido

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. JEL Classification: E43, E62, H63, H74

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Bibliographic Info

Paper provided by European Central Bank in its series Working Paper Series with number 1152.

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Date of creation: Feb 2010
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Handle: RePEc:ecb:ecbwps:20101152

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Related research

Keywords: crisis; Fiscal Policy; government debt; Interest Rates; risk aversion; safe haven;

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  1. Ashoka Mody, 2009. "From Bear Stearns to Anglo Irish: How Eurozone Sovereign Spreads Related to Financial Sector Vulnerability," IMF Working Papers 09/108, International Monetary Fund.
  2. David Haugh & Patrice Ollivaud & David Turner, 2009. "What Drives Sovereign Risk Premiums?: An Analysis of Recent Evidence from the Euro Area," OECD Economics Department Working Papers 718, OECD Publishing.
  3. Bernoth, Kerstin & von Hagen, Jürgen & Schuknecht, Ludger, 2004. "Sovereign risk premia in the European government bond market," Working Paper Series 0369, European Central Bank.
  4. Schuknecht, Ludger & von Hagen, Jürgen & Wolswijk, Guido, 2008. "Government risk premiums in the bond market: EMU and Canada," Working Paper Series 0879, European Central Bank.
  5. Salvador Barrios & Per Iversen & Magdalena Lewandowska & Ralph Setzer, 2009. "Determinants of intra-euro area government bond spreads during the financial crisis," European Economy - Economic Papers 388, Directorate General Economic and Monetary Affairs (DG ECFIN), European Commission.
  6. Simone Manganelli & Guido Wolswijk, 2009. "What drives spreads in the euro area government bond market?," Economic Policy, CEPR & CES & MSH, vol. 24, pages 191-240, 04.
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