Correlation Changes between the Risk-Free Rate and Sovereign Yields of Euro Area Countries
45 Pages Posted: 3 Feb 2017
Date Written: November 17, 2016
We study correlations between the risk-free rate and sovereign yields of ten euro area countries using smooth transition conditional correlation GARCH (STCC-GARCH) specifications, controlling for credit risk in mean and variance equations and conditioning non-linearly to liquidity risk. Correlations are state-dependent and heterogeneous across jurisdictions. Using panel vector autoregression models, we identify the macro factors influencing the correlations: interbank credit risk, the Greek crisis, and break-up risk. We show that the European Central Bank’s asset purchase programmes helped restore the pass-through relationship. We also make a methodological contribution by estimating all STCC-GARCH parameters at once and introducing an STCC-GARCHX.
Keywords: monetary policy, government bonds, smooth transition models, euro area
JEL Classification: G12, G15
Suggested Citation: Suggested Citation