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Government Intervention and the CDS Market: A Look at the Market's Response to Policy Announcements During the 2007-2009 Financial Crisis

Author

Listed:
  • Caitlin Ann Greatrex

    (Iona College, Department of Economics)

  • Erick W. Rengifo

    (Fordham University, Department of Economics)

Abstract

This paper adds to the literature on the financial markets' reaction to government interventions during the 2007-2009 financial crisis by analyzing the response of US firms' credit default swap spreads to key government actions. We find that the government measures taken to stabilize both the financial sector and the overall economy were generally well-received by CDS market participants, reducing perceived credit risk across a broad cross-section of firms. Financial firms responded most favorably to financial sector policies and interest rate cuts, with announcement date abnormal CDS spread changes of -5 and -2 percent, respectively. Non-financial firms responded most favorably to conventional fiscal and monetary policy tools with spread reductions of approximately one percent upon announcement of these measures. In a cross-sectional regression analysis, we find that size, recent performance, profitability, and stock returns are key factors in explaining the financial sectors response to government actions.

Suggested Citation

  • Caitlin Ann Greatrex & Erick W. Rengifo, 2010. "Government Intervention and the CDS Market: A Look at the Market's Response to Policy Announcements During the 2007-2009 Financial Crisis," Fordham Economics Discussion Paper Series dp2010-12, Fordham University, Department of Economics.
    • Handle: RePEc:frd:wpaper:dp2010-12
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    File URL: http://ftp.web.fordham.edu/ECONOMICS_RESEARCH/PAPERS/dp2010_12_greatrex_rengifo.pdf
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    References listed on IDEAS

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    1. Ben S. Bernanke & Kenneth N. Kuttner, 2005. "What Explains the Stock Market's Reaction to Federal Reserve Policy?," Journal of Finance, American Finance Association, vol. 60(3), pages 1221-1257, June.
    2. Bank for International Settlements, 2009. "An assessment of financial sector rescue programmes," BIS Papers, Bank for International Settlements, number 48, february.
    3. International Monetary Fund, 2009. "How to Stop a Herd of Running Bears? Market Response to Policy Initiatives during the Global Financial Crisis," IMF Working Papers 09/204, International Monetary Fund.
    4. Campello, Murillo & Graham, John R. & Harvey, Campbell R., 2010. "The real effects of financial constraints: Evidence from a financial crisis," Journal of Financial Economics, Elsevier, vol. 97(3), pages 470-487, September.
    5. Michael R King, 2009. "Time to buy or just buying time? The market reaction to bank rescue packages," BIS Working Papers 288, Bank for International Settlements.
    6. International Monetary Fund, 2009. "Macroeconomic Fundamentals, Price Discovery and Volatility Dynamics in Emerging Markets," IMF Working Papers 09/147, International Monetary Fund.
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    Cited by:

    1. Klomp, Jeroen, 2013. "Government interventions and default risk: Does one size fit all?," Journal of Financial Stability, Elsevier, vol. 9(4), pages 641-653.

    More about this item

    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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