The Core, the Periphery, and the Disaster: Corporate-Sovereign Nexus in COVID-19 Times

Abstract

We show that the COVID-19 pandemic triggered a surge in the elasticity of non-financial corporate to sovereign credit default swaps in core EU countries, characterized by strong fiscal capacity. For peripheral countries with lower budgetary slackness, the pandemic had essentially no impact on such elasticity. This evidence is consistent with the disaster-induced repricing of government support, which we model through a rare-disaster asset pricing framework with bailout guarantees and defaultable public debt. The model implies that risk-adjusted guarantees in the core were 2.6 times those in the periphery, suggesting that fiscal capacity buffers provide relief to firms' financing costs.

Is the Government always greener?

“…As already mentioned, we investigate the possibility that the di¤erent use of proceeds from the green issuance by public sector and private sector issuers may in ‡uence also the cost of …nancing in the primary bond market. The relation between sovereign and corporate debt has been extensively investigated by a di¤erent strand the literature (Durbin and Ng 2005, Borensztein et al 2013, Almeida et al 2017, Jappelli et al 2022. Given that a deterioration in the sovereign risk usually presses governments to take …scal actions which hurt the domestic economy and thus the private sector (increasing current and future taxes, cutting subsidies to …rms, reducing public expenditures), we would expect corporate bond returns to be higher than sovereign bond returns.…”

“…On the other hand, we are the …rst, to the best of our knowledge, to focus on the particular market segment of green bonds. While we might expect the cost at issuance to be higher for corporations than government entities, given the traditional view that corporate risk include country risk (Durbin and Jappelli et al 2022), when dealing with green bonds the issue may not be so straightforward. The spread between government green and corporate green bonds (GGS) may not be comparable with that arising from non-green ordinary bonds for at least two reasons.…”