Fiscal Fundamentals and Sovereign Risk: Signal from a time-varying parameter

Fiscal Fundamentals and Sovereign Risk: Signal from a time-varying parameter | Research Square window.SnipcartSettings = { analytics: { enabled: false } }; (function() { var accessVector = localStorage.getItem('access_vector') || ''; window.dataLayer = window.dataLayer || []; if (accessVector) { window.dataLayer.push({ user: { profile: { profileInfo: { snid: accessVector } } } }); } })(); (function(w,d,s,l,i){w[l]=w[l]||[];w[l].push({'gtm.start':new Date().getTime(),event:'gtm.js'});var f=d.getElementsByTagName(s)[0],j=d.createElement(s),dl=l!='dataLayer'?'&l='+l:'';j.async=true;j.src='https://www.googletagmanager.com/gtm.js?id='+i+dl;f.parentNode.insertBefore(j,f);})(window,document,'script','dataLayer','GTM-K279D39R'); Browse Preprints In Review Journals COVID-19 Preprints AJE Video Bytes Research Tools Research Promotion AJE Professional Editing AJE Rubriq About Preprint Platform In Review Editorial Policies Our Team Advisory Board Help Center Sign In Submit a Preprint Cite Share Download PDF Research Article Fiscal Fundamentals and Sovereign Risk: Signal from a time-varying parameter Benjamin Owusu This is a preprint; it has not been peer reviewed by a journal. https://doi.org/ 10.21203/rs.3.rs-7237521/v1 This work is licensed under a CC BY 4.0 License Status: Posted Version 1 posted You are reading this latest preprint version Abstract This paper explores the impact of fiscal sustainability on sovereign risk via a two-step procedure. Firstly, the concept of cointegration between government revenues and expenditure as a measure of fiscal sustainability is exploited. We construct a time-varying parameter of the cointegration slope using a simple recursive Kalman filter in a state space representation. We argue that this parameter measures the degree of fiscal (deficit) sustainability if cointegration holds. Furthermore, we estimate the impact of this time-varying fiscal sustainability parameter on the sovereign yield spread for selected Euro area countries in a panel data regression framework. Our findings reveal that the fiscal sustainability parameter has a negative impact on sovereign spreads, indicating that a stronger fiscal policy stance conveys a positive signal of sustainability to the sovereign debt market, hence a low default risk, which is evidenced by a reduction in sovereign spreads. This study supports the argument that effective and prudent management of a country’s public finances contributes positively to reducing public financial risk as this is reflected in the pricing of risk in the sovereign debt market. JEL: H63, H62, C32, C33 Sovereign risk fiscal sustainability Cointegration Panel Data Full Text Additional Declarations No competing interests reported. Cite Share Download PDF Status: Posted Version 1 posted You are reading this latest preprint version Research Square lets you share your work early, gain feedback from the community, and start making changes to your manuscript prior to peer review in a journal. As a division of Research Square Company, we’re committed to making research communication faster, fairer, and more useful. We do this by developing innovative software and high quality services for the global research community. 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Also discoverable on Platform About Our Team In Review Editorial Policies Advisory Board Help Center Resources Author Services Accessibility API Access RSS feed Manage Cookie Preferences © Research Square 2026 | ISSN 2693-5015 (online) Privacy Policy Terms of Service Do Not Sell My Personal Information {"props":{"pageProps":{"initialData":{"identity":"rs-7237521","acceptedTermsAndConditions":true,"allowDirectSubmit":true,"archivedVersions":[],"articleType":"Research Article","associatedPublications":[],"authors":[{"id":498313643,"identity":"752ad75b-4bfa-465c-b950-dd50c4984e82","order_by":0,"name":"Benjamin Owusu","email":"data:image/png;base64,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","orcid":"","institution":"Bielefeld University","correspondingAuthor":true,"prefix":"","firstName":"Benjamin","middleName":"","lastName":"Owusu","suffix":""}],"badges":[],"createdAt":"2025-07-28 23:08:09","currentVersionCode":1,"declarations":"","doi":"10.21203/rs.3.rs-7237521/v1","doiUrl":"https://doi.org/10.21203/rs.3.rs-7237521/v1","draftVersion":[],"editorialEvents":[],"editorialNote":"","failedWorkflow":false,"files":[{"id":92091357,"identity":"3f844547-84ad-4f57-9f88-223a305c998f","added_by":"auto","created_at":"2025-09-24 13:39:44","extension":"pdf","order_by":1,"title":"","display":"","copyAsset":false,"role":"manuscript-pdf","size":1347313,"visible":true,"origin":"","legend":"","description":"","filename":"Sovereignrisk.pdf","url":"https://assets-eu.researchsquare.com/files/rs-7237521/v1_covered_744f2e25-d5f3-4af4-96d1-d1a7a6d0a42e.pdf"}],"financialInterests":"No competing interests reported.","formattedTitle":"\u003cp\u003eFiscal Fundamentals and Sovereign Risk: Signal from a time-varying parameter\u003c/p\u003e","fulltext":[],"fulltextSource":"","fullText":"","funders":[],"hasAdminPriorityOnWorkflow":false,"hasManuscriptDocX":false,"hasOptedInToPreprint":true,"hasPassedJournalQc":"","hasAnyPriority":false,"hideJournal":true,"highlight":"","institution":"","isAcceptedByJournal":false,"isAuthorSuppliedPdf":true,"isDeskRejected":"","isHiddenFromSearch":false,"isInQc":false,"isInWorkflow":false,"isPdf":true,"isPdfUpToDate":true,"isWithdrawnOrRetracted":false,"journal":{"display":true,"email":"[email protected]","identity":"researchsquare","isNatureJournal":false,"hasQc":true,"allowDirectSubmit":true,"externalIdentity":"","sideBox":"","snPcode":"","submissionUrl":"/submission","title":"Research Square","twitterHandle":"researchsquare","acdcEnabled":true,"dfaEnabled":false,"editorialSystem":"","reportingPortfolio":"","inReviewEnabled":false,"inReviewRevisionsEnabled":true},"keywords":"Sovereign risk, fiscal sustainability, Cointegration, Panel Data","lastPublishedDoi":"10.21203/rs.3.rs-7237521/v1","lastPublishedDoiUrl":"https://doi.org/10.21203/rs.3.rs-7237521/v1","license":{"name":"CC BY 4.0","url":"https://creativecommons.org/licenses/by/4.0/"},"manuscriptAbstract":"\u003cp\u003eThis paper explores the impact of fiscal sustainability on sovereign risk via a two-step procedure. 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