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Dynamic connectedness between credit and liquidity risks in euro area sovereign debt markets

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  • Gómez-Puig, Marta
  • Pieterse-Bloem, Mary
  • Sosvilla-Rivero, Simón

Abstract

We examine the dynamic interconnections between sovereign credit and liquidity risks in ten euro area countries at the 5-year maturity with daily CDS data from IHS Markit and high-frequency data from MTS between 2008 and 2018 using the extended TVP-VAR connectedness approach of Antonakakis et al. (2020). We find that, for most of the period, net connectedness is from credit risk to liquidity risk, but this indicator is time-dependent, detecting some episodes where it goes from liquidity risk to credit risk. We set up an event study and discover that most of the latter episodes can be related to several unconventional monetary policy measures of the ECB. Then, we examine the drivers of the connectedness indicator using a Probit model. Our results suggest that a decline in global funding liquidity, monetary policy shocks and economic policy uncertainty increase the probability of risk transmission from liquidity to credit, while tensions in financial markets and the deterioration of fiscal sustainability are factors that reduce such a probability.

Suggested Citation

  • Gómez-Puig, Marta & Pieterse-Bloem, Mary & Sosvilla-Rivero, Simón, 2023. "Dynamic connectedness between credit and liquidity risks in euro area sovereign debt markets," Journal of Multinational Financial Management, Elsevier, vol. 68(C).
    • Handle: RePEc:eee:mulfin:v:68:y:2023:i:c:s1042444x23000191
    DOI: 10.1016/j.mulfin.2023.100800
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    More about this item

    Keywords

    Liquidity risk; Credit risk; Eurozone sovereign bonds; MTS bond market; Dynamic connectedness; Time-varying parameters;
    All these keywords.

    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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