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A Causal Linkage: Corporate Debt and Sovereign Spreads

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  • Jun Hee Kwak

    (College of Economics, Sogang University)

Abstract

This study shows that corporate debt accumulation during credit booms can explain increases in sovereign risk during stress periods. Using detailed firm-level database across six Eurozone countries, I construct granular instruments for aggregate corporate leverage. Instrumental variable regressions indicate that rising corporate leverage causally increases sovereign spreads in Eurozone countries during the debt crisis period of 2010-2012. This result provides the first empirical evidence on the causal link between corporate debt and sovereign debt crises. Additionally, firm-level evidence suggests that highly leveraged firms are likely to pay fewer taxes to the government, contributing to the rise in sovereign risk. (JEL F34, F41, G32, L11)

Suggested Citation

  • Jun Hee Kwak, 2025. "A Causal Linkage: Corporate Debt and Sovereign Spreads," Empirical Economics, Springer, vol. 68(4), pages 1567-1611, April.
  • Handle: RePEc:spr:empeco:v:68:y:2025:i:4:d:10.1007_s00181-024-02683-z
    DOI: 10.1007/s00181-024-02683-z
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    More about this item

    Keywords

    Financial Crisis; Corporate Debt; Sovereign Risk; Granular Instrument; Identification;
    All these keywords.

    JEL classification:

    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms

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