Journal of Financial Economics Vol. 122 No. 1 2016

Sovereign credit risk, liquidity, and European Central Bank intervention: Deus ex machina?

Loriana Pelizzon^1,2; Marti G. Subrahmanyam³; Davide Tomio⁴; Jun Uno^2,5

¹ Goethe University Frankfurt · ² Ca' Foscari University of Venice · ³ New York University · ⁴ Copenhagen Business School · ⁵ Waseda University

Abstract

We examine the dynamic relation between credit risk and liquidity in the Italian sovereign bond market during the eurozone crisis and the subsequent European Central Bank (ECB) interventions. Credit risk drives the liquidity of the market. A 10% change in the credit default swap (CDS) spread leads to a 13% change in the bid-ask spread, the relation being stronger when the CDS spread exceeds 500 basis points. The Long-Term Refinancing Operations of the ECB weakened the sensitivity of market makers’ liquidity provision to credit risk, highlighting the importance of funding liquidity measures as determinants of market liquidity.

DOI

10.1016/j.jfineco.2016.06.001

Volume

122

Issue

1

Pages

86-115

Language

en

Sources

openalex crossref bibtex:phds-export.bib

Cite

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