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Germany’s economy is so bad even sausage factories are closingIWHThe Economist, January 15, 2026
We study the impact of sovereign solvency on the private-public savings offset. Using data on 80 economies for 1989–2018, we find robust evidence for a U-shaped pattern in the private-public savings offset in sovereign credit ratings. While the 1:1 savings offset is observed at intermediate levels of sovereign solvency, fiscal deficits are not offset by private savings at extremely low and high levels of sovereign solvency. Particularly, the U-shaped pattern is more pronounced for countries with high levels of foreign ownership of government debt. The U-shaped pattern is an emerging market phenomenon; additionally, it is confirmed when considering foreign currency rating and external public debt, but not for domestic currency rating and domestic public debt. For considerable foreign ownership of sovereign bonds, sovereign default constitutes a net wealth gain for domestic consumers.
Using daily data for 34 emerging markets in the period 1994–2016, we find robust evidence that higher export commodity prices are associated with lower sovereign default risk, as measured by lower EMBI spreads. The economic effect is especially pronounced for heavy commodity exporters. Examining the drivers, we find that, first, commodity dependence is higher for countries that export large volumes of commodities, whereas other portfolio characteristics like volatility or concentration are less important. Second, commodity-sovereign risk dependence increases in times of recessions and expansionary U.S. monetary policy. Third, the importance of raw material prices for sovereign financing can likely be mitigated if a country improves institutions and tax systems, attracts FDI inflows, invests in manufacturing, machinery and infrastructure, builds up reserve assets and opens capital and trade accounts. Fourth, the country’s government indebtedness or amount of received development assistance appear to be only of secondary importance for commodity dependence.
While the sovereign-bank loop literature has demonstrated the amplification between sovereign and bank risks in the Euro Area, its econometric identification is vulnerable to reverse causality and omitted variable biases. We address the loop's endogenous nature and isolate the direct bank-to-sovereign distress channel by exploiting the global, non-Eurozone related variation in banks’ stock prices. We instrument banking sector stock returns in the Eurozone with exposure-weighted stock market returns from non-Eurozone countries and take further precautions to remove Eurozone-related variation. We find that the transmission of instrumented bank distress to sovereign distress is around 50% smaller than the corresponding coefficient in the unadjusted OLS framework, confirming concerns on endogeneity. Despite the smaller relative magnitude, increasing instrumented bank distress is found to be an economically and statistically significant cause for rising sovereign fragility in the Eurozone.
This paper investigates the role of the fiscal and economic record of the incumbent government in shaping the price response of sovereign bonds and stocks to the election outcome in emerging markets and developed countries. For sovereign bonds in emerging markets, we find robust evidence for higher cumulative abnormal returns (CARs) if a government associated with a relatively low primary fiscal balance is voted out of office compared to elections where the fiscal balance was relatively high. This effect of the incumbent government's fiscal record is significantly more pronounced in the presence of high sovereign default risk and strong political veto players, whereas the quality of institutions does not explain differences in effects for different events. We do not find robust effects of the government's fiscal record for developed countries and stocks.
We analyze the effect of monetary policy transparency on bilateral exchange rate volatility. We test the theoretical predictions of a stylized model using panel data for 62 currencies from 1998 to 2010. We find strong evidence that an increase in the availability of information about monetary policy objectives decreases exchange rate volatility. Using interaction models, we find that this effect is more pronounced for countries with a lower flexibility of goods prices, a lower level of central bank conservatism, and a higher interest rate sensitivity of money demand.
We introduce a novel currency risk measure based on American Depositary Receipts (ADRs). Using an augmented ADR pricing model, we exploit investors’ exposure to potential devaluation losses to derive an indicator of currency risk. Using weekly data for a sample of 807 ADRs located in 21 emerging markets over the 1994–2014 period, we find that a deterioration in the fiscal balance and higher inflation increase currency risk. Interaction models reveal that the fiscal balance and inflation drive the determination of currency risk for countries with poor sovereign rating, low foreign reserves, low capital account openness and managed float regimes.
This study analyzes if regionally affiliated Federal Open Market Committee (FOMC) members take their districts’ regional banking sector instability into account when they vote. Considering the period 1979–2010, we find that a deterioration in a district's bank health increases the probability that this district's representative in the FOMC votes to ease interest rates. According to member-specific characteristics, the effect of regional banking sector instability on FOMC voting behavior is most pronounced for Bank presidents (as opposed to Governors) and FOMC members who have career backgrounds in the financial industry or who represent a district with a large banking sector.
We study Federal Open Market Committee members' individual forecasts of inflation and unemployment in the period 1992–2004. Our results imply that Governors and Bank presidents forecast differently, with Governors submitting lower inflation and higher unemployment rate forecasts than bank presidents. For Bank presidents we find a regional bias, with higher district unemployment rates being associated with lower inflation and higher unemployment rate forecasts. Bank presidents' regional bias is more pronounced during the year prior to their elections or for nonvoting bank presidents. Career backgrounds or political affiliations also affect individual forecast behavior.
This paper studies the role of political factors for determining the impact of banking sector distress on sovereign bond yield spreads for a sample of 19 emerging market economies in the period 1994–2013. Using interaction models, I find that the adverse impact of banking sector distress on sovereign solvency is less pronounced for countries with a high degree of political stability, a high level of power sharing within the government coalition, a low level of political constraint within the political system, and for countries run by powerful and effective governments. The electoral cycle pronounces the bank risk–sovereign risk transfer.
We analyze the effect of central bank transparency on cross-border bank activities. Based on a panel gravity model for cross-border bank claims for 21 home and 47 destination countries from 1998 to 2010, we find strong empirical evidence that a rise in central bank transparency in the destination country, on average, increases cross-border claims. Using interaction models, we find that the positive effect of central bank transparency on cross-border claims is only significant if the central bank is politically independent and operates in a stable economic environment. Central bank transparency and credibility are thus considered complements by banks investing abroad.
