Nonlinear Effect of Global Liquidity on Sovereign Bond Spread: Case of Turkey

Abstract

The leading central banks such as the Federal Reserve (FED) and European Central Bank (ECB) have been discussing normalization of their monetary policy actions and ending accommodative monetary policies in recent years. Such actions of the central banks and the reversal of the global liquidity can bring about a detrimental impact on the external debt burden, the risk premium and the sovereign bond spread of emerging markets including Turkey in the long run. This study investigates the relation between global liquidity and the sovereign bond spread of Turkey via employing both autoregressive distributed lag (ARDL) proposed by Pesaran et al (2001) and nonlinear autoregressive distributed lag (NARDL) model developed by Shin et al (2014). Our study contributes to the literature in two different ways. First, most of the existing studies use panel data analysis and there are only few studies considering individual country cases to show the importance of global liquidity on sovereign bond spread. Second, to the best of our knowledge, the relation between global liquidity and sovereign bond spread has not been examined using nonlinear autoregressive distributed lag (NARDL) cointegration model. Thus, the aim of this study is to fill the gap in the existing literature by presenting the nonlinear relation between global liquidity and sovereign bond spread of Turkey. While the results of the study provide evidence for the cointegration between global liquidity and sovereign bond spread, they also identify the asymmetric impact of global liquidity on the country risk of Turkey.