Who Pays for Political Risk? Banks, Borrowers, and the Distribution of Losses in a Monetary Union

Details

Supervisors

Monti, Francesca

Faculty

Faculté des sciences économiques, sociales, politiques et de communication

Degree label

Master [120] en sciences économiques, orientation économétrie, à finalité approfondie

Abstract

enWho bears sovereign risk? Losses on government bonds appear highly concentrated among wealthy households, since financial assets sit at the top of the wealth distribution. This paper shows that a channel through bank balance sheets changes that incidence. Because banks also hold government debt, sovereign repricing weakens their balance sheets, and can be transmitted into tighter credit conditions. This reaches borrowers, rather than asset holders, and the two groups can occupy very different parts of the wealth distribution. Because debt is less concentrated among wealthy households than financial assets, the banking channel shifts part of the burden down the wealth distribution. This happens in our event study in Italy, where the bottom two wealth quintiles bear only 4.8% of direct asset losses, but 26.5% of the borrowing-cost component. The mechanism is quantified with a model that traces sovereign losses from bank balance sheets to household borrowing conditions. A heterogeneous-agent New Keynesian (HANK) model allows the resulting borrower wedge to affect households with different borrowing positions, and tracks their consumption and saving responses, while balance sheet data map the direct and credit components across the wealth distribution. The results show that the aggregate effect is small, but the distributional composition changes meaningfully. Wealthy households still lose the most, but the banking channel shifts part of the burden toward lower-wealth households.