Does the Banking Sector Affect Sovereign Risk

42 Pages Posted: 18 Mar 2009 Last revised: 13 Oct 2013

See all articles by Erdem Aktug

Erdem Aktug

Federal Reserve Bank of New York

Nandkumar Nayar

Lehigh University - College of Business & Economics

Geraldo M. Vasconcellos

Lehigh University - College of Business

Abstract

We examine the effects of liquidity in the banking system (proxy for financial sector sophistication) and the degree of competition in the banking sector within a nation on sovereign risk. We hypothesize that more competitive and sophisticated financial systems will be less prone to panics or bank runs, and, consequently, be associated with superior sovereign credit ratings. Using Ordered Probit with Aggregate Time Effects methodology, our results show that financial system variables such as Concentration in Banking System, Size of Financial System, and Liquidity of Banking Assets are significantly related to sovereign credit ratings. Since the use of these sovereign ratings is ubiquitous in international finance in varied applications such as determination of the cost of international borrowing by governments, international cost of capital for FDI, and others, the relationships identified in this paper have important public policy implications.

Keywords: Sovereign rating, banking concentration, liquidity

JEL Classification: F34

Suggested Citation

Aktug, Rahmi Erdem and Nayar, Nandkumar and Vasconcellos, Geraldo M., Does the Banking Sector Affect Sovereign Risk. Global Finance Journal, Vol. 23, No. 4, 2013, Available at SSRN: https://ssrn.com/abstract=1361917 or http://dx.doi.org/10.2139/ssrn.1361917

Rahmi Erdem Aktug

Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
United States

Nandkumar Nayar (Contact Author)

Lehigh University - College of Business & Economics ( email )

621 Taylor Street, Rauch Business Center
Lehigh University
Bethlehem, PA 18015-3117
United States
610-758-4161 (Phone)
610-758-6429 (Fax)

Geraldo M. Vasconcellos

Lehigh University - College of Business ( email )

Bethlehem, PA 18015
United States
610-758-5347 (Phone)
610-758-4499 (Fax)

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