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Currency Redenomination Risk

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  • Kremens, Lukas

Abstract

A eurozone exit or breakup exposes bondholders to currency redenomination risk. I quantify redenomination risk since the sovereign debt crisis: It contributes substantially to credit spreads around changes in government in France and Italy. Bond prices suggest that markets have priced a potential Italian exit as isolated, and a French one as a breakup. Unlike conventional default risk, redenomination risk can be negative depending on the strength of the national “shadow” currency. Countries with strong shadow currencies earn breakup-insurance premia from the eurozone analog of “exorbitant privilege.” Yield effects are quantitatively large for implied exit probabilities as low as 1%.

Suggested Citation

  • Kremens, Lukas, 2024. "Currency Redenomination Risk," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 59(6), pages 2838-2868, September.
    • Handle: RePEc:cup:jfinqa:v:59:y:2024:i:6:p:2838-2868_11
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