A Measure of Redenomination Risk

48 Pages Posted: 20 Jun 2015

See all articles by Roberto A. De Santis

Roberto A. De Santis

European Central Bank (ECB) - Directorate General Economics

Date Written: June 19, 2015

Abstract

Euro redenomination risk is the risk that a euro asset will be redenominated into a devalued legacy currency. We propose a time-varying, country-specific market perception of intra-euro area redenomination risk measure, defined as the quanto CDS of a member country relative to the quanto CDS of a benchmark member country. Focusing on Italy, Spain and France and using Germany as benchmark, we show that the redenomination risk shocks, defined as the unexplained component of the market perception of redenomination risk orthogonal to exchange rate, global, regional and liquidity risks, significantly affect sovereign yield spreads, with Italy and Spain being the countries most adversely affected, followed by France. Finally, foreign redenomination risk shocks spill over and above local redenomination risk shocks, corroborating the fact that this risk is systemic.

Keywords: euro; redenomination risk; sovereign credit spreads; systemic risk

JEL Classification: C32, F36, G12, G15

Suggested Citation

De Santis, Roberto A., A Measure of Redenomination Risk (June 19, 2015). ECB Working Paper No. 1785. Available at SSRN: https://ssrn.com/abstract=2620732

Roberto A. De Santis (Contact Author)

European Central Bank (ECB) - Directorate General Economics ( email )

Kaiserstrasse 29
D-60311 Frankfurt am Main
Germany

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