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The state dependent impact of bank exposure on sovereign risk

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  • Podstawski, Maximilian
  • Velinov, Anton

Abstract

The theoretical literature remains inconclusive on whether changes in bank exposure to the domestic sovereign have an adverse effect on the sovereign risk position through a diabolic loop in the sovereign-bank nexus, or reduce perceived default risk by acting as a disciplinary device for the sovereign. In this paper we empirically analyze the impact of exogenous changes in bank exposure on the risk position of the sovereign within a Markov switching structural vector autoregressive in heteroscedasticity (MSH-SVAR) framework for a set of EMU countries. We add to the methodological literature by allowing for regime dependent shock transmissions according to the volatility state of the financial system. Finding support for both, a stabilizing and a destabilizing effect, we document a clear clustering among the country sample: rising bank exposure increased default risk for the EMU periphery, but decreased credit risk for the core EMU countries during times of financial stress.

Suggested Citation

  • Podstawski, Maximilian & Velinov, Anton, 2018. "The state dependent impact of bank exposure on sovereign risk," Journal of Banking & Finance, Elsevier, vol. 88(C), pages 63-75.
  • Handle: RePEc:eee:jbfina:v:88:y:2018:i:c:p:63-75
    DOI: 10.1016/j.jbankfin.2017.11.002
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    Cited by:

    1. Velinov, Anton, 2016. "On the importance of testing structural identification schemes and the potential consequences of incorrectly identified models," Annual Conference 2016 (Augsburg): Demographic Change 145581, Verein für Socialpolitik / German Economic Association.
    2. Christoph Große Steffen & Maximilian Podstawski, 2016. "Ambiguity and Time-Varying Risk Aversion in Sovereign Debt Markets," Discussion Papers of DIW Berlin 1602, DIW Berlin, German Institute for Economic Research.
    3. Angelini, Giovanni & Bacchiocchi, Emanuele & Caggiano, Giovanni & Fanelli, Luca, 2017. "Uncertainty across volatility regimes," Research Discussion Papers 35/2017, Bank of Finland.
    4. Daniel Bierbaumer & Malte Rieth & Anton Velinov, 2018. "Nonlinear Intermediary Pricing in the Oil Futures Market," Discussion Papers of DIW Berlin 1722, DIW Berlin, German Institute for Economic Research.
    5. Gabriella CHIESA & José Manuel MANSILLA-FERNÁNDEZ, 2018. "Non-Performing Loans, Cost of Capital, and Lending Supply: Lessons from the Eurozone Banking Crisis," Departmental Working Papers 2018-05, Department of Economics, Management and Quantitative Methods at Università degli Studi di Milano.

    More about this item

    Keywords

    Markov-switching; Heteroscedasticity; Identification; Sovereign-bank interlinkages; Sovereign risk; Credit default swap; Contagion;

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)

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