Research

Heat Distributed Unevenly in The Sovereign Bond Market

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Awarded Best PhD Paper By The French Finance Association

With Thomas Lebbe

This paper investigates the implications of heat shocks on sovereign bonds. Using a calibrated sovereign default model we identify a principal mechanism at play: an economy hit by a heat shock experiences lower growth, which increases risk of default and widens bond spreads. The mechanism is empirically tested on a global sample of sovereign bonds and CDS spreads, revealing that heat shocks tend to widen sovereign bonds and CDS spreads for Emerging Markets but not for Advanced Markets. Heterogenous effects also show that Emerging Markets with larger agricultural exposure are hit relatively stronger and that countries closer to the Artic with larger fossil fuel endowments tend to benefit from heat shocks. The results highlights an important externality of global warming: most of the stock of CO2 equivalent emissions has historically been generated by Advanced Markets but in the sovereign bond market Emerging Markets are experiencing the adverse effects.

Tighten The Screws: The Impact of Emissions Trading on Bank Loans in The European Union

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With Martien Lamers and Deasy Ariyanti

This paper examines the effects of climate policy on the financing terms of firms. Specifically, it studies the effects of the phase 3 reform in the EU Emissions Trading System (EU ETS) on bank loans. The reform removed more free emission permits for power generation firms than manufacturing firms, thus climate

policy tightened relatively harder for power generation than for manufacturing firms. Exploiting this natural experiment using a difference-in-difference approach, we find that following the reform bank loans for power generation firms exhibit larger spreads, shorter maturities and fewer banks participate in the syndicate compared to manufacturing firms. In addition, using the OpenAI (ChatGPT) API, we also classify banks into sustainable (green) and non-sustainable (non-green) banks. The analysis reveals that sustainable banks charge lower spreads to low transition risk firms compared to brown banks after the phase 3 reforms. Taken together, this paper documents a climate policy transmission effect: when climate policy tightens, financial markets seem to tighten credit conditions for polluting firms.

The Stabilizing Effects of Macro-Financial Commitments in IMF-Supported Programs

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With Fabian Valencia, Hector Perez-Saiz, Jose Marzluf and Yazan Al-Karablieh

We construct a unique dataset collecting macro-financial commitments data using textual analysis of the Memorandum of Economic and Financial Policies (MEFPs), a document outlining inter-alia policy commitments by member countries, in the context of an IMF Fund programs, and combine it with information on program structural conditionality data on Structural Benchmarks (SBs). Using a staggered difference-in-differences methodology, we show that IMF-supported programs with macro-financial policy commitments are followed by periods of lower non-performing loans and in some cases lower credit-to-GDP ratios, relative to IMF-supported programs without macro-financial commitments. The results point to stronger responses when countries have large credit gaps at the start of the program than when credit gaps are negative, implying that conditionality tackles credit bubbles or macro-financial imbalances. On the other hand, credit-to-GDP and NPL response to IMF-supported macro-financial conditionality is muted when countries enter programs in their credit trough cycle. The evidence points to the nonlinear effects of macrofinancial policies depending on the initial position on the credit cycle. Also, countries with lower initial levels of credit-to-GDP tend to show a limited response in their credit-to-GDP ratio but show substantially lower NPLs as a result following of macro-financial conditionality. Rising vulnerabilities in advanced and emerging markets from rising debt levels, higher interest rates from the recent monetary tightening episode, and financial innovation raise the need to reconsider the observed declining importance of macro-financial conditionality in IMF-supported programs.