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International Financial Contagion During the Subprime Crisis: Evidence from UK Financial Markets

In: Behavioral Finance The Coming of Age

Author

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  • Zijun Liu
  • Yang Zhou
  • Zhiping Zhou

Abstract

In this chapter, we investigate the dynamics of contagion from the US low grade asset-backed securities (ABSs) market to UK financial markets during the 2007 subprime mortgage crisis and identify the contagion channels using both a single-state vector autoregressive (VAR) model and a Markov-switching vector autoregressive (MSVAR) model. We show that a shock to the US low grade ABS market results in a significant and persistent effect on the yields of UK financial assets, which demonstrates the existence of contagion. Moreover, contagion episodes mainly occur during periods of financial crisis. We also find that the contagion effects of the US lower grade ABS market are transmitted to UK financial markets through a number of channels, including flight to liquidity, risk premium, flight to quality, and correlated information.

Suggested Citation

  • Zijun Liu & Yang Zhou & Zhiping Zhou, 2019. "International Financial Contagion During the Subprime Crisis: Evidence from UK Financial Markets," World Scientific Book Chapters, in: Behavioral Finance The Coming of Age, chapter 8, pages 245-284, World Scientific Publishing Co. Pte. Ltd..
    • Handle: RePEc:wsi:wschap:9789813279469_0008
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    Keywords

    Behavioral Economics; Behavioral Finance; Behavioral Macro-Finance; Decision Making; Disposition Effect; Financial Crisis; Financial Decision-Making; Financial Market Anomalies; Fintech; Gender Differences; Heuristics; Information Processing Style; International Contagion Market Design; Monetary Policy; Mood; Optimal Portfolio; Overreaction; Peer-to-Peer Lending; Political Economics; Time Pressure; Transparency;
    All these keywords.

    JEL classification:

    • G41 - Financial Economics - - Behavioral Finance - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making in Financial Markets
    • G30 - Financial Economics - - Corporate Finance and Governance - - - General

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