The connectedness between sovereign risk and the banking sector

Abstract

This study examines the relationship between sovereign spreads and bank shares in terms of risk transmission, using a sample of the largest Italian banks over the period 2003–2023. Our objective is to quantify and compare volatility spillovers and to investigate whether bank-specific characteristics help to explain them. We perform a dynamic connectedness analysis based on the Bayesian estimation of a vector autoregression with time-varying parameters. Our results suggest that, with the exception of the period of the euro area debt crisis, banks tend to transmit more spillovers than they absorb. Moreover, these spillovers are related to factors such as capital adequacy and the composition of banks’ portfolios.