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Does Sovereign Risk Differ for Domestic and Foreign Investors? Historical Evidence from Scandinavian Bond Markets

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  • Waldenström, Daniel

    ()
    (Dept. of Economics, Stockholm School of Economics)

Abstract

This paper shows that geographical investor heterogeneity strongly influences sovereign risk. While standard sovereign debt models mainly attribute the absence of sovereign defaults to foreign creditor retaliation, a new theoretical literature argues that domestic creditors also affect borrowing governments’ default decisions through channels of domestic politics. This paper examines this controversy using a newly assembled dataset on cross-listed Scandinavian sovereign yields traded at markets that abruptly went from integration to segmentation by capital controls and World War II. The results strongly suggest that domestic and foreign bond investors assessed different sovereign risks whereas more standard explanations based on macroeconomic factors, portfolio choice or risk aversion added little explanatory value. The study also documents large effects on recorded asset prices from institutional trading constraints (e.g., price limits), an issue largely neglected by previous research in historical long-run asset returns.

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Bibliographic Info

Paper provided by Stockholm School of Economics in its series Working Paper Series in Economics and Finance with number 585.

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Length: 25 pages
Date of creation: 09 Feb 2005
Date of revision: 18 Feb 2005
Handle: RePEc:hhs:hastef:0585

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Keywords: Sovereign risk; Investor heterogeneity; Market segmentation; Domestic debt; Political economy; Historical finance; Cliometrics;

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  1. Newey, Whitney & West, Kenneth, 2014. "A simple, positive semi-definite, heteroscedasticity and autocorrelation consistent covariance matrix," Applied Econometrics, Publishing House "SINERGIA PRESS", vol. 33(1), pages 125-132.
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