Abstract
This paper uses a structural time series methodology to test the notion of interconnectedness between the UK and the US credit markets. The empirical tests utilise data on premium for the Banking sector credit default swaps (CDS) and covers the recent period of financial turmoil. The methodology based on Kalman filter is robust in the presence of limited convergence. The long-term steady state convergence in CDS premium is clearly noticeable between these two markets from the results. This observation lends support for the coordinated regulatory policy initiatives to deal with the crisis and offer suggestions for sound operations of the international financial systems.
Highlights
The world has experienced financial turmoil of unprecedented proportions over the last few years
Given the role played by the financial institutions and the consequences of the financial crisis across the advanced economies, this paper is motivated to examine the dynamic behaviour of the Banking sector indices for the credit default swaps (CDS) (Credit Default Swaps) spread for two OECD economies
We focus on the CDS market data to analyse convergence in the two OECD credit markets
Summary
The world has experienced financial turmoil of unprecedented proportions over the last few years. Given the role played by the financial institutions and the consequences of the financial crisis across the advanced economies, this paper is motivated to examine the dynamic behaviour of the Banking sector indices for the CDS (Credit Default Swaps) spread (expressed in basis points) for two OECD economies. In this paper we show that due to the relatively strong interconnectedness of the banking sector in the UK and the US, the sustainability and effectiveness of the global economy is dependent upon the introduction of a uniform finance architecture guided by global policy frameworks The focus on these two markets originates from observation in the IMF report (Chan-Lau, Mitra, and Ong (2007)) that "On a country-by-country basis, U.K.-owned banks’ biggest exposures are to the United States" on page 8. We recognise the uniqueness of economies and the significance of local market knowledge and suggest discretionary application of the proposed global policy measures by sovereign governments on a national level
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