Government Bond Spreads in the Euro Area

In the euro area, the sovereign debts of all Member States aspire to be equally safe but investors persistently discriminate between country debts. Empirically, the evidence suggests a clear role of 'fundamentals' in explaining government bond spreads between euro area countries. In particular, the level of indebtedness is found to weigh strongly on spreads in a non-linear fashion. Fiscal factors may however be tempered, or conversely exacerbated, by other factors including the external position, potential growth, and institutional quality. Notwithstanding other pressing policy priorities such as the energy transition and climate change, policy reforms aimed at credibly ensuring sustainable national debts therefore remain central to the governance equilibrium of the euro area.