Sovereign Risk and Global Macroeconomic Conditions
58 Pages Posted: 2 May 2018 Last revised: 13 Apr 2019
Date Written: April 6, 2019
This paper studies how global macroeconomic conditions affect sovereign bond prices. Weak and volatile economic performance during recessions increases a country’s default probability more than strong and stable performance during expansions reduces it, leading to countercyclical and unconditionally high sovereign credit spreads. We identify the sovereign risk premium arising from such exposure to severe but low-frequency changes in global macroeconomic conditions. Our model predicts that this risk premium is higher for countries that are more exposed to the global business cycle, particularly around recessions. We find support for this prediction using emerging market sovereign bond data over the 1994Q1-2018Q2 period.
Keywords: Sovereign debt, credit risk, asset pricing, macroeconomic conditions
JEL Classification: F34, G12, G13, G15, G32
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