Testing for financial contagion: New evidence from the European debt crisis

Abstract

This paper tested for a contagion effect between the foreign exchange market of the Eurozone and the markets of seven emerging and growth leading economies-EAGLEs-during the European Debt Crisis. For this purpose, we used the daily domestic currency per unit of US Dollar of seven EAGLEs countries from 01.01.2007 to 31.12.2012. The tranquil period was from 01.01.2007 to 19.10.2009 and the turmoil period was from 20.10.2009 to 31.12.2012. We found a contagion effect between the foreign exchange market of the Eurozone and the markets of Brazil, Mexico, and Turkey. The evidence suggests that foreign trade is likely to be the source of the contagion during the European Debt Crisis. The evidence presented in this paper is important for policy makers, international investors, and portfolio managers.