The Dynamics of the Credit Spread and Monetary Policy

This paper empirically examines the aggregate determinants of the credit spread and the influence of monetary policy shocks on its dynamics in Korea. Using the innovations accounting technique from an estimated vector autoregression (VAR) model, we provide a set of interesting results on the short run and the medium run determinants of the credit spread and its dynamics. The key findings are that (i) the default risk premium is the major driving force of the credit spread dynamics for low grade bonds, and (ii) monetary policy is a significant driving force of the medium term dynamics of the credit spread.