1/n Happy to share a new working paper (w/A. Consiglio and G. Bonaccolto) on "Breakup and Defaul Risks in the Great Lockdown" papers.ssrn.com/sol3/papers.cf… #EconTwitter [thread]
2/n Since the #Covid19 shock, fears of a Eurozone breakup have once again invaded the nightmares of many investors. We exploit a contractual difference between CR and CR14 sovereign CDS contracts to identify redenomination risk for France, Italy and Germany.
3/n Since January 1, 2020 redenomination risk for all three countries has increased. We decompose this risk in a direct redenomination premium, and in a conditional currency premium (ie, expected euro depreciation conditional to credit event). In the figure Italy.
4/n For Italy the direct redenomination component is the largest, and it is driving overall risk. In contrast, for Germany is opposite: it is the conditial currency component to drive the increase in risk. Intuitevely, the euro would depreciate if Germany goes back to DM.
5/n We then estimate the redenomination shocks spillovers to France, Germany and Italy. While redenomination shocks to France and Italy increase the risk of sovereign defaults, like sovereign debt restructurings, only shocks to France increase the risk of a Eurozone breakup.
6/n We estimate spillovers starting from #CoVaR by Adrian and @MarkusEconomist . We extend this measure to account for multiple simultaneous regressors, and we estimate model with machine learning techniques (elastic net) to deal with short T and large n.
7/n In paper plenty of robustness checks and additional details and results. Any comment very much appreciated.
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