The spillover and contagion effects of sovereign risk on stock markets

Pascal Xavier Gnagne, Beatrice Desiree Simo-Kengne () and Mathias Mandla Manguzvane

Economic Modelling, 2024, vol. 141, issue C

Abstract: This study examines the spillover effects of sovereign risk on international stock markets using a dynamic spatial Durbin model (SDM) on a panel of forty countries from 2009Q1 to 2024Q2. The findings show that an increase in sovereign risk, as measured by CDS spreads, leads to a significant decrease in both local and foreign stock prices, with 0.027 percent reductions across foreign markets on average. These effects are transmitted through geographical, and economic and financial channels, with exchange rates, gross fixed capital formation, and industrial production playing crucial roles in influencing stock market performance. Additionally, the negative (positive) spillover effects from rising gross fixed capital formation and sovereign risk (industrial production) demonstrate how foreign markets are more impacted than domestic ones. The study highlights the interconnected nature of global financial markets, reinforcing the need for coordinated international policy responses to mitigate the transmission of sovereign risk across borders. These findings provide new insights into how global economic factors influence stock market volatility, particularly through specific transmission channels, underscoring the importance of multilateral collaboration in managing sovereign risk.

Keywords: Sovereign risk; Stock markets; Spatial panel econometrics; Geographical distance; Economic and financial distance; Spillover effects; Contagion effects (search for similar items in EconPapers)
JEL-codes: C31 D85 F21 F34 G15 G32 (search for similar items in EconPapers)
Date: 2024
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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecmode:v:141:y:2024:i:c:s0264999324002785

DOI: 10.1016/j.econmod.2024.106921

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