How does liquidity affect government bond yields?

Favero, Carlo ; Pagano, Marco ; Thadden, Ernst-Ludwig von

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Document Type: Working paper
Year of publication: 2007
The title of a journal, publication series: CEMFI Seminars
Volume: 8 February 2007
Place of publication: Madrid
Publishing house: Center for Monetary and Financial Studies (CEMFI)
Publication language: English
Institution: School of Law and Economics > Microeconomics and Finance (von Thadden (2004-)
Subject: 330 Economics
Abstract: We explore the determinants of yield differentials between sovereign bonds in the Euro area. There is a common trend in yield differentials, which is correlated with a measure of international risk. In contrast, liquidity differentials display sizeable heterogeneity and no common factor. We estimate a model that predicts that yield differentials should increase in both liquidity and risk, with an interaction term of the opposite sign. Testing these predictions on daily data, we find that the international risk factor is consistently priced, while liquidity differentials are priced for a subset of countries and their interaction with the risk factor is crucial to detect their effect.

Dieser Eintrag ist Teil der Universitätsbibliographie.

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