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International Risk-Sharing and the Transmission of Productivity Shocks

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Author Info
Giancarlo CORSETTI
Luca DEDOLA
Sylvain LEDUC

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Abstract

A central puzzle in international finance is that real exchange rates are volatile and, in stark contradiction to e.cient risk-sharing, negatively correlated with relative consumptions across countries. This paper shows that a model with incomplete markets and a low price elasticity of tradables can account for these properties of real exchange rates. The low price elasticity stems from introducing distribution services, intensive in local inputs, which drive a wedge between producer and consumer prices and lower the impact of terms-of-trade changes on optimal agents. decisions. In our model, two very different patterns of the international transmission of productivity shocks generate the observed degree of risk-sharing: one associated with an improvement, the other with a worsening of the country's terms of trade and real exchange rate. We provide VAR evidence on the e.ect of technology shocks to U.S. manufacturing, identified through long-run restrictions, in support of the first transmission pattern. These findings are at odds with the presumption that terms-of-trade movements foster international risk-pooling.

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Paper provided by European University Institute in its series Economics Working Papers with number ECO2003/22.

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Date of creation: 2003
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Handle: RePEc:eui:euiwps:eco2003/22

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Related research
Keywords: incomplete asset markets distribution margin consumption-real exchange rate anomaly

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Find related papers by JEL classification:
F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions
F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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  35. repec:fth:harver:1504 is not listed on IDEAS
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