The rating spillover from banks to sovereigns: an empirical investigation across the European Union

This paper investigates how changes in European banks’ credit risk affect their host countries’ sovereign risk by exploring bank-to-sovereign rating spillover effects. Using credit rating data from Standard & Poor’s, Moody’s, and Fitch for the period ranging from 2002 to 2016, we identify both positive and negative bank-to-sovereign spillover effects, and find the negative rating spillover effect to be more pronounced than the positive one. Further, we provide evidence on differences among the three rating agencies in terms of the occurrence of positive spillovers, and the degree of negative spillovers. Our results are robust to the changes in model specifications with respect to the currency type of ratings, the structure of regression models, and the approach used to link bank and sovereign ratings. Overall, our analysis sheds new light on how information related to systemic risks emanating from the banking sector affects domestic sovereign credit ratings, and thereby complements previous research focusing on the opposite sovereign-to-bank rating transmission channel