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FUNDAMENTALLY WRONG: MARKET PRICING OF SOVEREIGNS AND THE GREEK FINANCIAL CRISIS

 

 

Heather D. Gibson

Bank of Greece

 

Stephen G. Hall

University of Leicester

 

George S. Tavlas

Bank of Greece

 

ABSTRACT

We investigate the impact of the economic fundamentals, sovereign credit ratings, political uncertainty, and the ECB’s Securities Markets Program (SMP) on Greek sovereign spreads. Our findings show that sovereign downgrades and political uncertainty appear to have been drivers of the sharp rises in Greek sovereign spreads from 2008-9 onwards, over-and-above the impact of the economic fundamentals. Our findings also show that prior to 2008-2009, the markets failed to incorporate Greece’s deteriorating fundamentals into the price of Greek sovereigns. We demonstrate that, once markets reassessed their pricing of Greek credit risk, the change in the influence of the fundamentals came swiftly and abruptly, exhibiting overshooting characteristics. The SMP reduced spreads while it was in operation.

 

Keywords: euro area financial crisis, sovereign spreads

JEL Classification: E63, G12

Acknowledgements: We are grateful to Harris Dellas for valuable comments. The views expressed in this paper are those of the authors and do not necessarily reflect those of the Bank of Greece and the University of Leicester.

 

 

 

Correspondence:

George Tavlas

Bank of Greece

21 E. Venizelos Ave.

Athens, 10250, Greece

Tel: +30 210 320 2370, Fax: +30 210 320 2432

Email: gtavlas@bankofgreece.g


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