Analysis of the Relationship between Sovereign Credit Ratings and Credit Default Swaps: A Comparative Study for Turkey and Selected Countries

Abstract

Financial globalization in the 21th century has led the sovereign credit ratings and credit default swaps (CDS), which drive the global capital flows, to become the most important factors of the individual country economies, as well as global economy. The global financial crisis and European debt crisis afterwards have demonstrated the importance of understanding the determinants of sovereign credit ratings and CDS premiums. Within the scope of this study, it has been investigated whether the sovereign credit ratings and CDS premiums change according to the political and economic factors and CDS premiums can explain the sovereign credit ratings. Panel data method, with annual economic and political data of 68 countries for 2004-2017 period, is used for the study. It is found that real GDP per capita, political stability and regulatory quality positively affect sovereign credit ratings, while GDP share of general government gross debt, unemployment and default history have negative affect on sovereign credit ratings. These variables have mostly significant opposite effects on CDS premiums, as expected except for political stability. It is observed that inflation and exchange rate volatility also positively affect CDS premiums. Lastly, it is found that the power of CDS premiums to explain sovereign credit ratings alone is close to the explanatory power of other macroeconomic and political variables.