The Liquidity Effect of the U.S. QE on Sovereign Yield Spreads of Commodity-Exporting Countries

Abstract

This paper investigates the liquidity effect of the U.S. QE on the sovereign yield spreads of commodity-exporting countries by employing the two-stage least squares approach. The key contributions of the paper are in terms of our empirical findings. First, our results show that the U.S. QE has an economically and statistically significant liquidity effect in terms of both the HPW illiquidity measure and the TIPS liquidity premium. This is of policy importance because adjusting for the liquidity premium is a key stage in modeling inflationary expectations. Second, our results show that the U.S. QE reduced the liquidity premium with improved market liquidity and hence reduce sovereign yield spreads of most commodity-exporting countries. This finding is of macroeconomic importance as reduced sovereign yield spreads have been shown to lead to higher real activity and higher credit activity.