Interest rate risk propagation: Evidence from the credit crunch
Chih-Liang Liu and
Ray Chou ()
The North American Journal of Economics and Finance, 2014, vol. 28, issue C, 242-264
During the 2007–2009 financial crisis, US subprime mortgage risk exposures led to severe liquidity problems in several other foreign markets. Such risk contagion was caused by enormous changes in interest rates. Although risk contagion has been investigated by several literatures, the magnitude of propagated interest rate risk around global financial markets remains unexplored. Therefore, this study quantifies the degree to which the increased credit risk within the US financial system propagated to the European markets’ liquidity risks. Specifically, using a conditional value-at-risk (CoVaR) model, we quantitatively measure interest rate risk of a European country, by looking at the upside risk in distribution of changes in interest rate. And such propagation risk measure considers additional value-at-risk conditional on the interest rate movements in the US. The results show significantly positive differences between European country's value-at-risk conditional on the US financial markets being in a normal or distressed state. This propagating effect increased from 2007, and was particularly pronounced in the 2008–2009. In addition, the interest rate risk contagion is especially severe for some countries in the Euro regions with greater sovereign debt problems. Hence our result foretells the deterioration of the European sovereign debt crisis which started to unfold in 2010. Our work supplements the literature by successfully quantifying the magnitude of additional interest rate risk conditional on risk exposure from external sectors.
Keywords: Risk contagion; CoVaR; Liquidity risk; Credit risk; Financial crisis (search for similar items in EconPapers)
JEL-codes: G01 G15 G21 (search for similar items in EconPapers)
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (5) Track citations by RSS feed
Downloads: (external link)
Full text for ScienceDirect subscribers only
This item may be available elsewhere in EconPapers: Search for items with the same title.
Export reference: BibTeX
RIS (EndNote, ProCite, RefMan)
Persistent link: https://EconPapers.repec.org/RePEc:eee:ecofin:v:28:y:2014:i:c:p:242-264
Access Statistics for this article
The North American Journal of Economics and Finance is currently edited by Hamid Beladi
More articles in The North American Journal of Economics and Finance from Elsevier
Bibliographic data for series maintained by Dana Niculescu ().