What Drives Systemic Credit Risk? Evidence from the US State CDS Market

66 Pages Posted: 27 Jul 2017

See all articles by Sheen Liu

Sheen Liu

Washington State University

Chunchi Wu

SUNY at Buffalo - School of Management

Chung-Ying Yeh

Tunghai University-Department of Finance

Woongsun Yoo

Saginaw Valley State University

Date Written: July 22, 2017

Abstract

The root cause of systemic risk is an issue of on-going debate. We document evidence that common shocks of macroeconomic fundamentals are key driver of US state systemic credit risk. A structure model is developed to show importance of economic fundamentals. We find that macroeconomic variables have higher explanatory power for the temporal variation in state credit spreads and its systemic component than do financial market variables. Empirical evidence points to the macroeconomic linkages, not financial linkages, as the dominating source of systemic credit risk, and suggests that state credit risk is mainly driven by the weakness in economic fundamentals.

Keywords: Systemic Credit Risk, State Fiscal Problems, Macroeconomic Fundamentals, Economic Beta, Credit Spread Comovement, Kalman Filter

JEL Classification: G01, G12

Suggested Citation

Liu, Sheen and Wu, Chunchi and Yeh, Chung-Ying and Yoo, Woongsun, What Drives Systemic Credit Risk? Evidence from the US State CDS Market (July 22, 2017). Available at SSRN: https://ssrn.com/abstract=3009455 or http://dx.doi.org/10.2139/ssrn.3009455

Sheen Liu

Washington State University ( email )

Wilson Rd.
College of Business
Pullman, WA 99164
United States

Chunchi Wu (Contact Author)

SUNY at Buffalo - School of Management ( email )

Jacobs Management Center
Buffalo, NY 14222
United States

Chung-Ying Yeh

Tunghai University-Department of Finance ( email )

Taichung 407
Taiwan
Tel:886-4-2359-0121 ext.35819 (Phone)

Woongsun Yoo

Saginaw Valley State University ( email )

309 Curtiss Hall
7400 Bay Road
University Center, MI 48710-0001
United States
(989) 964-7005 (Phone)

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