25 Chapter II Literature Review II.1 Introduction The literature review chapter will discuss the existing literature, credit rating methodologies, theories, and previous sovereign rating-related research. Underlying theories and institutional context will be delivered at the beginning of the chapter. Underlying theories or philosophies discuss theories that have been widely acknowledged in academic society in textbooks and handbooks. They will be cascaded down from broad to a specific context. Research State of the Art is the bone of this chapter. This part will be started with past studies on sovereign credit rating methodology, sovereign credit rating impact on financial market indicators, and its policy implication. Next, the proposed research will be revealed with the help of a State of the Art (SOTA) table. The purpose of the table is to show the research gaps which are tried to be fulfilled by this dissertation. This chapter will be closed with the proposed model or theory, or conceptual framework of this research and proposition or hypotheses. II.2 Underlying Theories II.2.1 Risk Risk is the uncertainty of future outcome(s) (Ollson, 2002). This terminology suggests that risk is something that happens in the future but cannot be predicted exactly today because there is uncertainty. As risk is a form of uncertainty, it involves variables that are constantly changing. II.2.1.1 Risk in Finance Conventionally, finance has distinguished between two kinds of risk, market risk and credit risk (Sundaram, 2011). Market risk is the risk of changes in the price of 26 various sorts: changes in equity prices, commodity prices, interest rates, index levels, and so on. Credit risk is the risk that promised payments on an obligation (e.g., a bond or a loan) would not materialize. It has two components to it: the occurrence of default on the underlying obligation and the risk of incomplete recovery in the event of default. As compensation for bearing this risk, the holder of such an obligation typically receives a higher yield than could be obtained on similar instruments with lower credit risk. The credit spread is a measure of the extra yield on a credit-risky asset over a risk-free benchmark asset. Simply put, credit risk is the risk of not receiving money back from a debtor when providing them with credit. Using this simple explanation, one can easily conclude that credit risk affects the whole society and most businesses, not just banks and financial institutions.