Benchmark interest rates when the government is risky

P. Augustin, Mikhail Chernov, L. Schmid and Dongho Song

Journal of Financial Economics, 2021, vol. 140, issue 1, 74-100

Abstract: Since the global financial crisis, interest rate swap rates, which represent future uncollateralized interbank borrowing, have fallen below maturity-matched Treasury rates. This is surprising, because US Treasuries, which are deemed expensive because of superior liquidity and safety, should produce yields that are lower than those of swap rates. We show, by no-arbitrage, that sovereign default risk explains negative swap spreads even without frictions such as balance sheet constraints, convenience yield, and hedging demand. We support this explanation with an equilibrium model that jointly accounts for macroeconomic fundamentals and the term structures of interest and US credit default swap rates.

Keywords: Sovereign credit risk; Negative swap rates; Recursive preferences; Term structure (search for similar items in EconPapers)
JEL-codes: C1 E43 E44 G12 H60 (search for similar items in EconPapers)
Date: 2021
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (12)

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S0304405X20302841
Full text for ScienceDirect subscribers only

Related works:
Working Paper: Benchmark interest rates when the government is risky (2019)
Working Paper: Benchmark Interest Rates When the Government is Risky (2019)
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:jfinec:v:140:y:2021:i:1:p:74-100

DOI: 10.1016/j.jfineco.2020.10.009

Access Statistics for this article

Journal of Financial Economics is currently edited by G. William Schwert

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