Sovereign yield curves and the COVID-19 in emerging markets

This study examines the determinants of sovereign yield curves in four major emerging economies (Brazil, India, Mexico, and Russia) during the COVID-19 crisis. In light of increasing worldwide financial, macroeconomic, and sanitary interdependence, we construct an arbitrage-free affine term structure model that incorporates a global vector autoregressive process to capture the joint dynamics of risk factors. Our findings reveal three key insights. Firstly, a surge in the global transmission rate of the coronavirus leads to an escalation in sovereign borrowing costs, potentially indicating an amplified sovereign default risk. Secondly, foreign macrofinancial factors emerge as prominent drivers of yield curve movements, underscoring the importance of cross-border spillover effects in the contemporary financially interconnected global economy. Lastly, bond risk premia peak during the pandemic outbreak but subsequently stabilize, indicating effective policy interventions to restore calm in bond markets. Additionally, we outline policy implications derived from our findings.