Fiscal Rules, Independent Fiscal Institutions, and Sovereign Risk

This paper explores the implications of fiscal rules and independent fiscal institutions (IFIs) on sovereign risk. We employ a dynamic panel model for a sample composed of 24 countries members of the European Union over the period 2007-2019 and document that fiscal rules contain sovereign default risk measured by the credit default swap (CDS) spreads on sovereign bonds. IFIs, through monitoring compliance with numerical fiscal rules and assuring the transparency of the budgetary process, lead to a reduction in the likelihood of sovereign default, especially those that went through a process of institutional reform. Moreover, having developed financial markets accompanied by both fiscal rules and independent fiscal institutions contribute to a reduction in sovereign CDS premia against the backdrop of increased sovereign risk induced by more developed financial markets