Bank credit risk and sovereign debt exposure: Moral hazard or hedging?

Laura Baselga-Pascual, Lidia Loban and Emma-Riikka Myllymäki

Finance Research Letters, 2025, vol. 71, issue C

Abstract: This study investigates the relationship between credit risk and bank exposure to sovereign debt. Using an international dataset of commercial banks from 2002 to 2022, we apply various regressions and panel data models to address potential endogeneity issues. Our results reveal that banks with higher levels of impaired loans tend to hold more sovereign debt. Furthermore, we observe that this relationship is stronger in countries with high sovereign credit ratings. This suggests that banks, when confronted with elevated credit risk from impaired loans, may seek safety in sovereign debt as a seemingly secure investment.

Keywords: Financial institutions; Bank risk; Credit risk; Sovereign debt nexus (search for similar items in EconPapers)
JEL-codes: G21 G28 G32 (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eee:finlet:v:71:y:2025:i:c:s1544612324014831

DOI: 10.1016/j.frl.2024.106454

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