The PIIGS Acronym as a Heuristic Device in Sovereign Bond Markets

• In Event: Poster Session: Middle East and North African Politics & Posters on Europe
  In Poster Session: Poster Session: Posters on Europe

Abstract

How do financial investors use heuristic categories in their investment decisions? This article analyzes the consequences of the narratively constructed categorization of Southern European economies into the PIIGS group (Portugal, Ireland, Italy, Greece, and Spain). I suggest that investors use categories as a heuristic shorthand which, in turn, may result in a self-fulfilling prophecy. I argue that this is due to two main behavioral tendencies on the part of investors: the representativeness bias and the availability bias. While acronyms and categories can provide useful devices to capture similarities, they can also be misleading insofar as they obscure otherwise important differences in economic fundamentals and other political factors. I examine the process through which these countries came to be grouped together and explore the contagion effects in sovereign bond markets during the period 2009-2015. Using panel vector autoregression, Bayesian vector autoregression, and Granger causality, I show how the number of articles containing the acronym PIIGS in reference only to the other countries in the group affect the bond spreads of a given country beyond what political conditions and economic fundamentals would predict. Unlike other investment acronyms (e.g. BRICS), the PIIGS acronym contains a negative connotation. Consistent with this interpretation, the results show that all countries except Greece paid a substantial economic price from being labeled as PIIGS. The analysis highlights the relevance of investors’ perceptions and discourse in interpreting (and misinterpreting) the role of economic fundamentals and underlines how the use of acronyms as heuristic tools affects financial contagion.

Author

• Nicola Nones, University of Toronto