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Sovereign Risk and Asset Market Dynamics in the Euro Area

Erica Perego

Working Papers from CEPII research center

Abstract: This paper studies the behavior of euro area asset market co-movements during the period 2010-2014, through the lens of a DSGE model. The economy is a two-country world consisting of a core and a periphery and featuring an international banking sector, international equity markets, home bias in sovereign bond holdings, and sovereign default. The periphery is buffeted by a sovereign risk shock, whose process is estimated from the data. The model accounts successfully for the divergence in core-periphery correlations between stock and sovereign bond returns. The simulation results indicate that the sovereign risk shock explains 50% of the increase in sovereign and loandeposit spreads, and 8% of the decrease in global output during the sovereign debt crisis.

Keywords: Currency Union; International Financial Markets; Sovereign Risk; General Equilibrium (search for similar items in EconPapers)
JEL-codes: F41 F44 G15 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-dge, nep-eec and nep-opm
Date: 2018-11
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Persistent link: https://EconPapers.repec.org/RePEc:cii:cepidt:2018-18

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