Do sovereign credit ratings matter? The relationship between ratings and capital flows before and after the great recession

ABSTRACT

We examine the relationship between sovereign credit ratings and international equity and bond inflows pre- and post-Great Recession using 1996–2016 annual data for 53 countries. The ratings are statistically significant for both equity and debt inflows in the full sample. After splitting the data into pre- and post-crisis periods, we find that ratings go from being significant in the 1996–2007 subsample to insignificant in the 2010–2016 period. These results support the hypothesis that adverse reputational effects weakened the value of rating agencies in investors’ decision-making process after the Great Recession.

KEYWORDS:

• Sovereign credit ratings
• capital flows
• equity investment
• bond investment

JEL CLASSIFICATION:

• E44
• F21
• G15
• G24

Acknowledgments

We would like to thank seminar participants at the 2019 Infiniti Conference on International Finance for valuable comments and suggestions. All remaining mistakes are our own.

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

¹ We thank the anonymous referee for these suggestions.

² South Africa does not fit comfortably in any of these regions. The results in the paper include South Africa in the Asian region, but do not change substantially if the country is omitted from the analysis.

³ Sovereign ceilings are discussed in Almeida et al. (2017). See Cantor and Packer (1996) for SCR impact on bond markets. Gande and Parsley (2014) and Swamy and Narayanamurthy (2018) document SCR effects on FDI flows.