Assessing the impact of the COVID-19 crisis on sovereign default risk

Abstract

This study contributes to pandemic-related risk assessment in terms of evaluating the impact on sovereign default risk of macroeconomic factors, as well as COVID-19 deaths and related fiscal policies in G7+5 countries in 2020. To this end, we derive sovereign probabilities of defaults (PDs) and hazard rates from sovereign credit default swap spreads and constant maturity treasury yields. In all countries except Canada, China, and South Africa, risk-neutral PD and hazard rate curves peaked early in the first wave. We evaluate the fluctuation of the credit risk premium and find that it fluctuates at a lower level in a range from Aa to Ba. The logistic panel regression models show that new COVID-19 deaths and related fiscal policies significantly contribute to sovereign default risk. We explore two correlation-based networks associated with a metric distance. In the sovereign default risk network, central nations in terms of weighted-degree centrality affect other nations through economic activities. To conclude, this study extends financial research on sovereign default risk management under a pandemic.