Transmission of Financial Stress in Europe: The Pivotal Role of Italy and Spain, but not Greece

By Brenda Gonzalez-Hermosillo, Christian A Johnson

May 2, 2014

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Brenda Gonzalez-Hermosillo, and Christian A Johnson. Transmission of Financial Stress in Europe: The Pivotal Role of Italy and Spain, but not Greece, (USA: International Monetary Fund, 2014) accessed November 21, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

This paper proposes a stochastic volatility model to measure sovereign financial distress. It examines how key European sovereign credit default swap (CDS) spreads affect each other; specifically, the paper analyses the volatility structure of Germany, Greece, Ireland, Italy, Spain and Portugal. The stability of Germany is a close proxy for the resilience of the euro area as markets use Germany’s sovereign CDS as a hedge for systemic risk. Although most of the CDS changes for Germany during 2009–12 were due to idiosyncratic factors, market developments in Italy and Spain contributed significantly, likely due to their relative importance in the region. Changes in Greece’s sovereign CDS had no significant effect on Germany’s sovereign CDS despite initial widespread concerns about such linkages. Spain and Italy show a notable co-dependence in explaining each other’s volatility while Germany also plays an important role. It is found that extreme bad news led to persistent and nearly permanent effects on the stochastic volatility of European sovereign CDS spreads.

Subject: Credit default swap, Financial crises, Financial sector policy and analysis, Global financial crisis of 2008-2009, Money, Spillovers, Systemic risk

Keywords: Contagion, Credit default swap, Credit Default Swaps, Europe, Financial Crises, Financial crisis, Germany's SCDS dynamics, Global, Global financial crisis of 2008-2009, Market access, Null hypothesis, Risk profile, SCDS market, SCDS volatility, Spillovers, Systemic Risk, Volatility, WP

Publication Details

Pages:

28
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2014/076
Stock No:

WPIEA2014076
ISBN:

9781484368190
ISSN:

1018-5941

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