Effect of the CRS Rate on the IRS and KTB Rates in the 2008 Global Financial Crisis

The Korean financial market experienced severe tremors in the global financial crisis of 2008. Though currency swap (CRS) rates continued to be lower than those of interest rate swap (IRS) and Korea treasury bond (KTB), the gaps grew wider. Furthermore, CRS rates turned negative for a while, and almost the same situation ensued in swap spreads and swap basis. Then CRS rates were often said to drive IRS and KTB rates downward. This study analyzed this phenomenon using a regime shift model. The empirical results are summarized as follows. The volatility of changes in the three-year CRS rate was higher than those of the three-year IRS and KTB rates, especially in the high volatility state. The high volatility state of the former had distinctly preceded those of the latter by about three months into the crisis. Nearly the same results were as shown in the comparison between the CRS and IRS spread and that of the swap basis and IRS spread. These findings imply that the inefficiency of CRS rates spilled over into those of IRS and KTB rates, with the result of increasing systematic risk in Korea.