Causality and Contagion in EMU Sovereign Bonds Revisited: Novel Evidence from Nonlinear Causality Tests

This paper investigates the possible existence of Granger-causal relationships in the behavior of sovereign bond markets within the European Monetary Union (EMU), with special focus on higher order causality accounting for nonlinear dependence between the variables. With the above in mind both traditional linear and the nonlinear variants of the Granger causality test are conducted. An extensive sample of yields on 10-year sovereign bonds issued by 12 EMU countries and USA over the period running from January 2000 to June of 2014 is employed. Our findings reveal interesting causality patterns both at first and second order moment of sovereign yields. In particular, a bi-directional causality in mean and variance within the group of the southern Europe countries and a weak evidence of causality both in mean and variance running from southern to northern Europe sovereign yields is observed. Our results entail significant policy implications for market regulators and bond portfolio investors and useful insights for researchers interested in the developments of EMU sovereign debt markets. Length: 17 pages