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Traded and nontraded goods prices, and international risk sharing: an empirical investigation

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  • Giancarlo Corsetti

    (Cambridge University, Rome III and CEPR)

  • Luca Dedola

    (European Central Bank and CEPR)

  • Francesca Viani

    (Banco de España)

Abstract

Accounting for the pervasive evidence of limited international risk sharing is an important hurdle for open-economy models, especially when these are adopted in the analysis of policy trade-offs likely to be affected by imperfections in financial markets. Key to the literature is the evidence, at odds with efficiency, that consumption is relatively high in countries where its international relative price (the real exchange rate) is also high. We reconsider the relation between cross-country consumption differentials and real exchange rates, by decomposing it into two components, reflecting the prices of tradable and nontradable goods, respectively. We document that, as a common pattern among OECD countries, both components tend to contribute to the overall lack of risk sharing, with the tradable price component playing the dominant role in accounting for efficiency deviations. We relate these findings to two mechanisms proposed by the literature to reconcile open economy models with the data. One features strong Balassa-Samuelson effects on nontradable prices due to productivity gains in the tradable sector, with a muted offsetting response of tradable prices. The other, endogenous income effects causing nontradable but especially tradable prices to appreciate with a rise in domestic consumption demand.

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File URL: http://www.bde.es/f/webbde/SES/Secciones/Publicaciones/PublicacionesSeriadas/DocumentosTrabajo/12/Fich/dt1242e.pdf
File Function: First version, December 2012
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Bibliographic Info

Paper provided by Banco de Espa�a in its series Banco de Espa�a Working Papers with number 1242.

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Length: 68 pages
Date of creation: Dec 2012
Date of revision:
Handle: RePEc:bde:wpaper:1242

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Keywords: incomplete markets; Harrod-Balassa-Samuelson effect; consumption-real exchange rate anomaly; terms of trade; international transmission mechanism.;

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References

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  1. Giancarlo Corsetti & Luca Dedola & Sylvain Leduc, 2009. "The international dimension of productivity and demand shocks in the U.S. economy," Working Paper Series 2009-09, Federal Reserve Bank of San Francisco.
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  16. Giancarlo Corsetti & Luca Dedola & Sylvain Leduc, 2006. "Productivity, external balance and exchange rates: evidence on the transmission mechanism among G7 countries," Economics Working Papers ECO2006/39, European University Institute.
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Cited by:
  1. Giancarlo Corsetti & Luca Dedola & Francesca Viani, 2012. "The international risk-sharing puzzle is at business-cycle and lower frequency," Banco de Espa�a Working Papers 1212, Banco de Espa�a.
  2. A. Craig Burnside & Jeremy J. Graveline, 2013. "Exchange Rate Determination, Risk Sharing and the Asset Market View," Working Papers 13-1, Duke University, Department of Economics.
  3. Kyriacos Lambrias, 2013. "News Shocks, Real Exchange Rates and International Co-Movements," BCL working papers 83, Central Bank of Luxembourg.

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