Euro Area Sovereign Bond Risk Premia During the COVID-19 Pandemic

40 Pages Posted: 1 Jun 2021

See all articles by Stefano Corradin

Stefano Corradin

European Central Bank (ECB)

Niklas Grimm

European Central Bank, Financial Research Division

Bernd Schwaab

European Central Bank (ECB) - Directorate General Research

Date Written: May 1, 2021

Abstract

We decompose euro area sovereign bond yields into five distinct components: i) expected future short-term risk-free rates and a term premium, ii) default risk premium, iii) redenomination risk premium, iv) liquidity risk premium, and a v) segmentation (convenience) premium. Identification is achieved by considering sovereign bond yields jointly with other rates, including sovereign credit default swap spreads with and without redenomination as a credit event feature. We apply our framework to study the impact of European Central Bank (ECB) monetary policy and European Union (E.U.) fiscal policy announcements during the Covid-19 pandemic recession. We find that both monetary and fiscal policy announcements had a pronounced effect on yields, mostly through default, redenomination, and segmentation premia. While the ECB's unconventional monetary policy announcements benefited some (vulnerable) countries more than others, owing to unprecedented flexibility in implementing bond purchases, the E.U.’s fiscal policy announcements lowered yields more uniformly.

JEL Classification: C22, G11

Suggested Citation

Corradin, Stefano and Grimm, Niklas and Schwaab, Bernd, Euro Area Sovereign Bond Risk Premia During the COVID-19 Pandemic (May 1, 2021). ECB Working Paper No. 2021/2561, Available at SSRN: https://ssrn.com/abstract=3857400 or http://dx.doi.org/10.2139/ssrn.3857400

Stefano Corradin (Contact Author)

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Niklas Grimm

European Central Bank, Financial Research Division ( email )

Bernd Schwaab

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

Kaiserstrasse 29
D-60311 Frankfurt am Main
Germany

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