Transmission of financial stress in Europe: The pivotal role of Italy and Spain, but not Greece

Brenda González-Hermosillo and Christian Johnson ()

Journal of Economics and Business, 2017, vol. 90, issue C, 49-64

Abstract: This paper proposes a stochastic volatility model to measure sovereign financial distress. It examines how key European sovereign CDS affect each other, and particularly Germany, Spain and Italy as the core EU countries, after controlling for common and systematic risks. It is found that extreme bad news led to persistent and nearly permanent effects on stochastic volatility and, consequently, has an impact on sovereign CDS spreads. 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 2009-16 were due to idiosyncratic factors, market developments in Italy and Spain contributed significantly, probably due to their relative size and importance in the region. Changes in Greece's sovereign CDS had no significant effect on core's European sovereign CDS despite initial widespread concerns about such linkages. Spain and Italy show a notable co-dependence in explaining each other's volatility, supporting their relative importance.11We would like to thank to the editor of the journal and two anonymous referees for very useful comments. We are also grateful for useful discussions and comments received from participants at seminars organized at the IMF, MIT, the 2015 World Finance Conference and the 2015 Paris Financial Management Conference.

Keywords: Systemic risk; Financial crises; Volatility; Contagion; Credit default swaps (search for similar items in EconPapers)
Date: 2017
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (13)

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S0148619516301023
Full text for ScienceDirect subscribers only

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:eee:jebusi:v:90:y:2017:i:c:p:49-64

DOI: 10.1016/j.jeconbus.2016.11.002

Access Statistics for this article

Journal of Economics and Business is currently edited by Emanuele Bajo and Moritz Ritter

More articles in Journal of Economics and Business from Elsevier
Bibliographic data for series maintained by Catherine Liu ().