Bank to Sovereign Risk Transmission: New Evidence

This note examines the transmission of credit risk of banks to the sovereign using the collapse of the Silicon Valley Bank in March 2023—an event that reverberated globally across banking sectors—as an exogenous shock to identify the effect. The findings suggest a strong transmission of credit risk from the banking sector to the sovereign in the United States, as well as in other major economies, in the face of adverse shocks to the banking sector. This impact is more pronounced in economies with higher public debt (relative to GDP), greater exposure of the banking sector to domestic sovereign debt, and less well-capitalized banking systems. These results suggest that investors view banking sector stress as particularly economically costly for such countries.