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Mr. Serhan Cevik and João Tovar Jalles
Climate change poses an existential threat to the global economy. While there is a growing body of literature on the economic consequences of climate change, research on the link between climate change and sovereign default risk is nonexistent. We aim to fill this gap in the literature by estimating the impact of climate change vulnerability and resilience on the probability of sovereign debt default. Using a sample of 116 countries over the period 1995–2017, we find that climate change vulnerability and resilience have significant effects on the probability of sovereign debt default, especially among low-income countries. That is, countries with greater vulnerability to climate change face a higher likelihood of debt default compared to more climate resilient countries. These findings remain robust to a battery of sensitivity checks, including alternative measures of sovereign debt default, model specifications, and estimation methodologies.
Mr. Serhan Cevik and João Tovar Jalles
Climate change is already a systemic risk to the global economy. While there is a large body of literature documenting potential economic consequences, there is scarce research on the link between climate change and sovereign risk. This paper therefore investigates the impact of climate change vulnerability and resilience on sovereign bond yields and spreads in 98 advanced and developing countries over the period 1995–2017. We find that the vulnerability and resilience to climate change have a significant impact on the cost government borrowing, after controlling for conventional determinants of sovereign risk. That is, countries that are more resilient to climate change have lower bond yields and spreads relative to countries with greater vulnerability to risks associated with climate change. Furthermore, partitioning the sample into country groups reveals that the magnitude and statistical significance of these effects are much greater in developing countries with weaker capacity to adapt to and mitigate the consequences of climate change.
Ms. Susana Garcia Cervero, J. Humberto Lopez, Mr. Enrique Alberola Ila, and Mr. Angel J. Ubide
This paper presents a methodology for calculating bilateral equilibrium exchange rates for a panel of currencies in a way that guarantees global consistency. The methodology has three parts: a theoretical model that encompasses the balance of payments and the Balassa-Samuelson approaches to real exchange rate determination; an unobserved components decomposition in a cointegration framework that identifies a time-varying equilibrium real exchange rate; and an algebraic transformation that extracts bilateral equilibrium nominal rates. The results uncover that, by the start of Stage III of the European Economic and Monetary Union (EMU), the euro was significantly undervalued against the dollar and the pound, but overvalued against the yen. The paper also shows that the four major EMU currencies locked their parities with the euro at a rate close to equilibrium.
Mr. Ronald MacDonald and Mr. Tamim Bayoumi
We examine the mean-reverting properties of real exchange rates, by comparing the unit root properties of a group of international real exchange rates with two groups of intra-national real exchange rates. Strikingly, we find that while the international real rates taken as a group appear mean-reverting, the intra-national rates are not. This is consistent with the view that while monetary shocks may be mean-reverting over the medium term, underlying real factors do generate long-term trends in real exchange rates.