Credit Contagion Between Greece and Systemically Important Banks: Lessons for the Euro Area

This paper dissects the dynamic interdependencies between Greece’s sovereign credit default swap (CDS) spreads with the CDS spreads of global systemically important banks (G-SIB) across various credit risk regimes. It seeks to map credit risk transmission channels between Greece and each of the sampled banks to determine whether contagion actually disperses from Greece to banks or vice versa. The findings herein show Greece’s credit risk was contagious for banks during the 2008–09 financial crisis but less contagious during the 2011–13 so-called ‘Greek debt crisis.’ In fact, it is shown herein that there is an increase in credit risk transmissions from G-SIBs to Greece during 2011–13. The regulatory implications of this paper are that too-big-to-fail banks significantly reduced their exposure to Greece following 2008–09 and, to some extent, may have transferred this risk to the European Central Bank (ECB). If this is the case, banks and fiscally troubled European nations, such as Greece, will become more reliant on the ECB and this may lead to a more fragile and dependent global economy. The asset pricing implications of this paper are broadly as follows. First, Greece’s CDS spreads do not exhibit a long-run cointegrating relation with bank CDS spreads and, second, credit risk transmission channels are heterogeneous across credit regimes. Finally, from a behavioral finance perspective, it can be shown that despite salacious news headlines of a ‘Grexit,’ it cannot be empirically shown that Greece was the catalyst for credit risk transmissions to the global commercial banking system during the height of the euro-area debt crisis.