Sovereign risk and financial crisis: the international political economy of the Euro area sovereign debt crisis

For decades, scholars, investors and policymakers treated sovereign default risk as a defining feature of emerging market economies. Recently, sovereign risk has re‐emerged as an empirical issue for advanced economies, raising new questions for academic research. This thesis investigates the link between political economy factors and financial market perceptions of sovereign risk during the Euro area debt crisis, representing one of the timeliest academic analyses of this episode. It combines an innovative international political economy framework applicable to developed democracies with in‐depth analysis of government bond market fluctuations during the Greek and Irish sovereign debt crises. The thesis argues that political factors influence sovereign risk premia in developed democracies, particularly in crisis periods. This is in contrast to the dominant claim that politics has no or little direct impact on government bond yields in advanced economies. Specifically, it highlights the importance of the domestic political system, finding a role for socio‐political contestation and its interaction with institutional checks and balances. Moreover, it expands the analysis to the international sphere, integrating the so far mostly separate analyses of the domestic and international sources of sovereign credibility. Specifically, it argues that external de‐facto veto players and the degree of proximity between sovereign borrower and international creditors are also significant. Finally, it shows that investment analysis evolves over time, so that the categorisation of sovereign borrowers as either developed democracies or emerging markets, found to prevail during a specific historical phase, may not hold in the longer term. Both the Greek and the Irish sovereigns suffered government bond market reversals in 2010, but their overall sovereign debt crisis experiences differed in length and severity. When compared with the Greek experience, Ireland’s lower degree of socio‐political contestation and greater proximity to international creditors contributed to supporting the sovereign’s financial market credibility