Does pandemic risk affect yield spreads in the EMU?

Since 2020, the world is facing a huge pandemic crisis caused by an acute respiratory coronavirus syndrome. Beyond the impact on the population's health or on normal social interaction, the virus led to a huge economic slowdown, requiring the prompt EMU's authority's reaction. The current paper explores how the sovereign yield spreads of EMU countries with respect to German bonds were affected during the pandemic period. To this end, I employ dynamic panel methods, the Pooled Mean Group estimator of Pesaran et al. (1999) and the Dynamic Common Correlated Effects estimator of Chudik and Pesaran (2015), which accounts for heterogeneous effects across countries and the non-stationarity of spreads and of their determinants. The model uncertainty is studied with a Bayesian VAR (BVAR) approach. The results reveal that, in addition to fundamentals (economic growth, large public debt, inflation, financial instability, country's competitiveness and domestic investment), pandemic risk puts also substantial upward pressure on sovereign bond yields both, in the long-run and short-run on the selected period. Pandemic risk seems to raise yield spreads in the 14 EMU countries in the short-run, while disease mitigation measures reduce them in the long-run. Same negative effect of disease mitigation measures on yield spreads are also found with BVAR model. Results are relatively robust across different empirical methods and considered scenarios.