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Hedging against the government: a solution to the home asset bias puzzle

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  • Tiago C. Berriel
  • Saroj Bhattarai

Abstract

This paper explains two puzzling facts: international nominal bonds and equity portfolios are biased domestically. In our two-country model, holding domestic government nominal debt provides a hedge against shocks to bond returns and the impact on taxes they induce. For this result, only two features are essential: some nominal risk and taxes falling only on domestic agents. A third feature explains why agents choose to hold primarily domestic equity: government spending falls on domestic goods. Then, an increase in government spending raises the returns on domestic equity, providing a hedge against the subsequent increase in taxes. These conclusions are robust to a wide range of preference parameter values and the incompleteness of financial markets. A calibrated version of the model predicts asset holdings that quantitatively match the data.

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Paper provided by Federal Reserve Bank of Dallas in its series Globalization and Monetary Policy Institute Working Paper with number 113.

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Date of creation: 2012
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Handle: RePEc:fip:feddgw:113

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  1. Corsetti, Giancarlo & Dedola, Luca & Leduc, Sylvain, 2004. "International Risk Sharing and the Transmission of Productivity Shocks," CEPR Discussion Papers 4746, C.E.P.R. Discussion Papers.
  2. David K. Backus & Patrick J. Kehoe, 1991. "International evidence on the historical properties of business cycles," Staff Report 145, Federal Reserve Bank of Minneapolis.
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As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Hedging against the government: a solution to the home asset bias puzzle
    by Christian Zimmermann in NEP-DGE blog on 2012-06-18 19:26:57
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Cited by:
  1. Jonathan Heathcote & Fabrizio Perri, 2013. "Assessing International Efficiency," NBER Working Papers 18956, National Bureau of Economic Research, Inc.
  2. Nicolas Coeurdacier & Hélène Rey, 2011. "Home Bias in Open Economy Financial Macroeconomics," NBER Working Papers 17691, National Bureau of Economic Research, Inc.
  3. Katrin Rabitsch & Serhiy Stepanchuk & Viktor Tsyrennikov, 2014. "International Portfolios: A Comparison of Solution Methods," Department of Economics Working Papers wuwp159, Vienna University of Economics, Department of Economics.

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