Size matters for liquidity: Evidence from EMU sovereign yield spreads Marta Go ´ mez-Puig T Departament de Teoria Econo `mica, Universitat de Barcelona, Diagonal 690, Barcelona 08034, Spain Barcelona Stock Exchange, Spain Received 21 November 2004; received in revised form 26 April 2005; accepted 12 July 2005 Available online 28 November 2005 Abstract The objective is to study the relative importance of domestic components of EMU sovereign yield spreads since the start of Monetary Integration. The results indicate a change in the market value of liquidity, as measured by market size, after EMU. D 2005 Elsevier B.V. All rights reserved. Keywords: Monetary Integration; Sovereign securities’ markets; International and domestic credit risk; Market liquidity JEL classification: E44; F36; G15 1. Introduction The removal of the foreign exchange risk in January 1999 and the elimination (or reduction to insignificant levels) of different tax treatments during the 1990s eliminated two of the main components of EMU sovereign yield differentials, which prompted a significant convergence in spreads over 10-year German securities during the period January 1999–December 2001. Nevertheless, the convergence only brought about a sizeable reduction in relative borrowing costs in the countries that presented wider spreads, lower rating and higher foreign exchange risk. Conversely, the countries that benefited less from the elimination of the exchange rate risk experienced an increase in their relative borrowing costs (see 0165-1765/$ - see front matter D 2005 Elsevier B.V. All rights reserved. doi:10.1016/j.econlet.2005.07.020 T Departament de Teoria Econo `mica, Universitat de Barcelona, Diagonal 690, Barcelona 08034, Spain. Tel.: +34 934 013 765; fax: +34 934 013 625. E-mail address: marta.gomezpuig@ub.edu. Economics Letters 90 (2006) 156 – 162 www.elsevier.com/locate/econbase