Activity Handout

Sovereign Debt Risk Premium

Author

Diego Mendez-Carbajo, Department of Economics, Illinois Wesleyan University

Step-By-Step Activity Description

The user of the FRED database will take the following steps in order to quantify the concept of sovereign debt risk premium.

(Step 1)

The user will first generate a graph of the Interest Rates, Government Securities, Government Bonds for Spain (INTGSBESM193N) (Category: International Data > Countries > Spain > Interest Rates, Government Securities, Government Bonds)

(Step 2)

The user will then “Add a Data Series > Add New Series”, graphing the Interest Rates, Government Securities, Government Bonds for Germany (INTGSBDEM193N) (Category: International Data > Countries > Germany > Interest Rates, Government Securities, Government Bonds)

(Step 3)

The user will then “Edit Data Series 2” (Interest Rates, Government Securities, Government Bonds for Germany (INTGSBDEM193N)) by deleting it [click on trash can icon to the right of the series’ name].

Next, the user will “Add a Data Series > Modify Existing Series > Data Series 1”, graphing Interest Rates, Government Securities, Government Bonds for Germany (INTGSBDEM193N) (Category: International Data > Countries > Germany > Interest Rates, Government Securities, Government Bonds)

These steps are needed in order to have both series as part of the same database object and allow for their manipulation. This manipulation is accomplished by selecting “Create Your Own Data Transformation > Formula > a – b > Apply”

The graph now plots the difference between Spanish sovereign debt and Germany sovereign debt, a computation of sovereign debt risk premiums.

SuggestedDiscussion Questions

  • Why would the introduction of a single currency in the European Union reduce the sovereign debt risk premium between Spain and Germany? What are the implications of such a change on the financing of Spanish government deficits?
  • How did the 2008-2009 financial crisis affect the sovereign debt risk premium between Spain and Germany? Should you revise your answer to the previous question? What are the implications of such a change on the financing of Spanish government deficits?

Further Sophistications

  • Plot the difference between the Interest Rates, Government Securities, Government Bonds for Italy (INTGSBITM193N), Interest Rates, Government Securities, Government Bonds for France (INTGSBFRM193N), and the Interest Rates, Government Securities, Government Bonds for Germany (INTGSBDEM193N). Compare with the previous graph. Discuss how and why the sovereign debt risk premiums are different.