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Has the CDS market influenced the borrowing cost of European countries during the sovereign crisis?

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  • Delatte, Anne-Laure
  • Gex, Mathieu
  • López-Villavicencio, Antonia

Abstract

This paper assesses the potential influence of the growing CDS market on the borrowing cost of sovereign states during the European sovereign crisis. We analyze the sovereign debt market to ascertain the pattern of information transmission between the CDS and corresponding bond markets. Our methodological innovation is the use of a non-linear specification rather than the linear VECM specification customarily employed. Using a panel smooth transition model during the 2008–2010 period, we find that: 1) linearity tests clearly reject the null hypothesis of a linear transmission mechanisms between the bond and the CDS markets; 2) market distress alters the mutual influence and 3) the higher the distress the more the CDS market dominates the information transmission between CDS and bond markets.

Suggested Citation

  • Delatte, Anne-Laure & Gex, Mathieu & López-Villavicencio, Antonia, 2012. "Has the CDS market influenced the borrowing cost of European countries during the sovereign crisis?," Journal of International Money and Finance, Elsevier, vol. 31(3), pages 481-497.
    • Handle: RePEc:eee:jimfin:v:31:y:2012:i:3:p:481-497
    DOI: 10.1016/j.jimonfin.2011.10.008
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    More about this item

    Keywords

    C33; G01; G15; Sovereign credit default swaps; European sovereign crisis; Nonlinearity; Cointegration; Price discovery process;
    All these keywords.

    JEL classification:

    • C33 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Models with Panel Data; Spatio-temporal Models
    • G01 - Financial Economics - - General - - - Financial Crises
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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