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Balance Sheet Effects And The Country Risk Premium: An Empirical Investigation

Author

Listed:
  • Alicia Garcia Herrero

    (Banco de España)

  • Juan Carlos Berganza

    (Banco de España)

  • Roberto Chang

    (Rutgers University)

Abstract

This paper investigates empirically whether there is a negative relationship between a country’s risk premium and the balance sheet effect, as implied by recent theories emphasizing financial imperfections. We find evidence that balance sheet effects, stemming from the increase in the external debt service after an unexpected real depreciation, significantly raise the risk premium. We also show that the increase in the risk premium is not due to the debt service as such. While the result holds for the whole sample, we show that it is mainly driven by those countries with the largest financial imperfections, as argued by imperfect capital market theories. Particularly large real depreciations also seem to be disproportionately important, meaning that the balance sheet effects may be strongest at times of economic crisis, when large devaluations occur.

Suggested Citation

  • Alicia Garcia Herrero & Juan Carlos Berganza & Roberto Chang, 2004. "Balance Sheet Effects And The Country Risk Premium: An Empirical Investigation," International Finance 0403005, EconWPA.
  • Handle: RePEc:wpa:wuwpif:0403005 Note: Type of Document - pdf; prepared on WIN 2000; to print on hp;
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    References listed on IDEAS

    as
    1. Aghion, Philippe & Bacchetta, Philippe & Banerjee, Abhijit, 2004. "A corporate balance-sheet approach to currency crises," Journal of Economic Theory, Elsevier, pages 6-30.
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    Cited by:

    1. Aysun, Uluc, 2008. "Automatic stabilizer feature of fixed exchange rate regimes," Emerging Markets Review, Elsevier, vol. 9(4), pages 302-328, December.
    2. Uluc Aysun, 2006. "Automatic Stabilizer Feature of Fixed Exchange Rate Regimes in Emerging Markets," Working papers 2006-27, University of Connecticut, Department of Economics, revised Aug 2008.
    3. Brei, Michael & Buzaushina, Almira, 2015. "International financial shocks in emerging markets," Journal of International Money and Finance, Elsevier, vol. 58(C), pages 51-74.
    4. Almira Buzaushina & Michael Brei, 2009. "Matching International Financial Shocks in Emerging Markets," Bonn Econ Discussion Papers bgse2_2009, University of Bonn, Germany.
    5. Uluc Aysun, 2006. "Testing for Balance Sheet Effects in Emerging Market Countries," Working papers 2006-28, University of Connecticut, Department of Economics.
    6. Bulut Levent, 2011. "External Debts and Current Account Adjustments," The B.E. Journal of Macroeconomics, De Gruyter, pages 1-53.
    7. repec:iez:survey:ces-v19_1-2017_palic-posedelsimovic-vizek is not listed on IDEAS
    8. García, Carlos J. & González, Wildo D., 2013. "Exchange rate intervention in small open economies: The role of risk premium and commodity price shocks," International Review of Economics & Finance, Elsevier, vol. 25(C), pages 424-447.
    9. Peter NUNNENKAMP, "undated". "Why Economic Growth Has Been Weak in Arab Countries: The Role of Exogenous Shocks, Economic Policy Failure and Institutional Defiencies," Middle East and North Africa 330400047, EcoMod.
    10. Tkalec, Marina & Vizek, Maruška & Verbič, Miroslav, 2014. "Balance sheet effects and original sinners’ risk premiums," Economic Systems, Elsevier, vol. 38(4), pages 597-613.
    11. Rasaki, Mutiu Gbade & Malikane, Christopher, 2015. "Macroeconomic shocks and fluctuations in African economies," Economic Systems, Elsevier, vol. 39(4), pages 675-696.
    12. Marina Tkalec & Miroslav Verbič, 2013. "A new look into the prevalence of balance sheet or competitiveness effect of exchange rate depreciation in a highly euroised economy," Post-Communist Economies, Taylor & Francis Journals, pages 225-240.
    13. Adela Luque, 2005. "Skill mix and technology in Spain: evidence from firm level data," Working Papers 0513, Banco de España;Working Papers Homepage.
    14. Myung-Soo Yie & Byoung Hark Yoo, 2016. "The Role Of Foreign Debt And Financial Frictions In A Small Open Economy Dsge Model," The Singapore Economic Review (SER), World Scientific Publishing Co. Pte. Ltd., vol. 61(05), pages 1-23, December.

    More about this item

    Keywords

    balance sheet effects; country risk premium; sovereign spreads;

    JEL classification:

    • F3 - International Economics - - International Finance
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems

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