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Sovereign bond ratings and market spreads. a dynamic panel analysis

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  • Galati, Davide
  • Sitzia, Bruno

Abstract

Abstract This paper applies a measure of country risk to determine the evolution of credit spreads on secondary market sovereign bonds issued by emerging countries. After the Mexican financial crisis in 1995, this market has been characterised by a sharp decline of spreads which, by mid-1997, brought them to a level which was thought not to adequately cover risk. The episode has been followed in successive years by a new increase of spreads, accompanied by high volatility in concomitance with the Asian and Russian crises. In order to tackle the issue of how preads are determined, we concentrate on sovereign risk as measured by spreads on Brady bonds and specify a dynamic panel model including seven countries that are large issuers of these instruments. The analysis reveals a significant effect for economic fundamentals, but we also found that spreads are significantly affected by shock factors: besides general financial crises, we isolated a role for commodity prices. We found an asymmetric effect for core countries interest rates, which signals the limited role for core rates in affecting the decline in spreads, that we instead attribute, besides a bettering of fundamentals, to a spreading of lobalisation. In the post ‘97 period we found spreads grossly in line with fundamentals but we have no specific explanation to offer for the occurrence of repeated financial crises save that a general recourse to the argument of nterdependence. We think that the analysis of contagion or interdependence problems that has recently attracted much attention obviously deserves further work and possibly a different econometric technique using data at a higher frequency than the monthly data employed in this study.

Suggested Citation

  • Galati, Davide & Sitzia, Bruno, 2000. "Sovereign bond ratings and market spreads. a dynamic panel analysis," MPRA Paper 8984, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:8984
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    File URL: https://mpra.ub.uni-muenchen.de/8984/1/MPRA_paper_8984.pdf
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    References listed on IDEAS

    as
    1. Pesaran, H. & Smith, R. & Im, K.S., 1995. "Dynamic Linear Models for Heterogeneous Panels," Cambridge Working Papers in Economics 9503, Faculty of Economics, University of Cambridge.
    2. International Monetary Fund, 1998. "Leading Indicators of Banking Crises; Was Asia Different?," IMF Working Papers 98/91, International Monetary Fund.
    3. Erik Durbin & David Tat-Chee Ng, 1999. "Uncovering country risk in emerging market bond prices," International Finance Discussion Papers 639, Board of Governors of the Federal Reserve System (U.S.).
    4. Miller, Marcus & Zhang, Lei, 2000. "Sovereign Liquidity Crises: The Strategic Case for a Payments Standstill," Economic Journal, Royal Economic Society, vol. 110(460), pages 335-362, January.
    5. Guillermo Larraín & Helmut Reisen & Julia von Maltzan, 1997. "Emerging Market Risk and Sovereign Credit Ratings," OECD Development Centre Working Papers 124, OECD Publishing.
    6. Calvo, Guillermo A. & Mendoza, Enrique G., 2000. "Rational contagion and the globalization of securities markets," Journal of International Economics, Elsevier, vol. 51(1), pages 79-113, June.
    7. Kristin J. Forbes & Roberto Rigobon, 2002. "No Contagion, Only Interdependence: Measuring Stock Market Comovements," Journal of Finance, American Finance Association, vol. 57(5), pages 2223-2261, October.
    8. Hong G. Min, 1998. "Determinants of emerging market bond spread : do economic fundamentals matter?," Policy Research Working Paper Series 1899, The World Bank.
    9. Reisen, Helmut & von Maltzan, Julia, 1999. "Boom and Bust and Sovereign Ratings," International Finance, Wiley Blackwell, vol. 2(2), pages 273-293, July.
    10. Barry Eichengreen & Ashoka Mody, 2000. "What Explains Changing Spreads on Emerging Market Debt?," NBER Chapters,in: Capital Flows and the Emerging Economies: Theory, Evidence, and Controversies, pages 107-134 National Bureau of Economic Research, Inc.
    11. Richard Cantor & Frank Packer, 1996. "Determinants and impact of sovereign credit ratings," Economic Policy Review, Federal Reserve Bank of New York, issue Oct, pages 37-53.
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    More about this item

    Keywords

    Brady bonds; bond spreads; sovereign ratings; emerging markets;

    JEL classification:

    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data; Spatio-temporal Models

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