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Risksharing within the United States: what have financial markets and fiscal federalism accomplished?

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Author Info
Stafano Athanasoulis
Eric van Wincoop
Abstract

We document aggregate income growth uncertainty at the state level, and the extent to which this uncertainty is reduced by risksharing through financial markets and federal fiscal policy. A methodology is adopted that is closely connected to the empirical growth literature. It does not rely on assumptions about a model or stochastic process of income. This is important because estimated gains from international risksharing have been found to be very sensitive to the assumed model or income process. We only make assumptions about the information set used to predict growth, which is sufficient (and necessary) to compute income growth uncertainty. Estimates of growth uncertainty for a representative state are obtained at horizons from one to twenty-six years from panel regressions of state income growth, in deviation from national growth, on variables in the information set. This "residual risk" can be fully diversified at a zero risk premium. We show that potential welfare gains from risksharing depend on a weighted average of the variance of residual risk at different horizons. Three measures of income are considered: gross state product, pre-tax state income, and disposable state income. The differences between the first two is associated with financial markets (net asset income), while the difference between the last two is associated with federal fiscal policy (federal taxes and transfers). At a 26-year horizon we find that 71% of potential welfare gains from risksharing have already been achieved; 60% through financial markets and 11% through federal fiscal policy.

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Paper provided by Federal Reserve Bank of New York in its series Research Paper with number 9808.

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Date of creation: 1998
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Handle: RePEc:fip:fednrp:9808

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Keywords: Fiscal policy Risk Financial markets

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Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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  5. Huberman, Gur, 2001. "Familiarity Breeds Investment," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 14(3), pages 659-80.
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  7. Sorensen, Bent E & Yosha, Oved, 1997. "Income and Consumption Smoothing Among US States: Regions or Clubs?," CEPR Discussion Papers 1670, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  8. Stefano Athanasoulis & Robert Shiller & Eric van Wincoop, 1999. "Macro markets and financial security," Economic Policy Review, Federal Reserve Bank of New York, issue Apr, pages 21-39. [Downloadable!]
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  11. Stefano Athanasoulis & Eric van Wincoop, 1997. "Growth uncertainty and risksharing," Staff Reports 30, Federal Reserve Bank of New York. [Downloadable!]
  12. Hayashi, Fumio & Altonji, Joseph & Kotlikoff, Laurence, 1996. "Risk-Sharing between and within Families," Econometrica, Econometric Society, vol. 64(2), pages 261-94, March. [Downloadable!] (restricted)
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  14. Tamim Bayoumi & Michael W. Klein, 1997. "A Provincial View of Economic Integration," IMF Working Papers 97/41, International Monetary Fund.
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  16. William Easterly & Michael Kremer & Lant Pritchett & Lawrence H. Summers, 1993. "Good Policy or Good Luck? Country Growth Performance and Temporary Shocks," NBER Working Papers 4474, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  17. Robert J. Shiller & Stefano Athanasoulis, 1995. "World Income Components: Measuring and Exploiting International Risk Sharing Opportunities," NBER Working Papers 5095, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  21. Eric van Wincoop, 1998. "How big are potential welfare gains from international risksharing?," Staff Reports 37, Federal Reserve Bank of New York. [Downloadable!]
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  24. Robert J. Shiller & J. Huston McCulloch, 1987. "The Term Structure of Interest Rates," NBER Working Papers 2341, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  25. Tesar, Linda L., 1995. "Evaluating the gains from international risksharing," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 42, pages 95-143, June. [Downloadable!] (restricted)
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  27. Maurice Obstfeld, 1995. "Risk-Taking, Global Diversification, and Growth," NBER Working Papers 4093, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  28. Maurice Obstfeld & Giovanni Peri, 1998. "Regional non-adjustment and fiscal policy," Economic Policy, CEPR, CES, MSH, vol. 13(26), pages 205-259, 04. [Downloadable!] (restricted)
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  30. Backus, David K & Kehoe, Patrick J & Kydland, Finn E, 1992. "International Real Business Cycles," Journal of Political Economy, University of Chicago Press, vol. 100(4), pages 745-75, August. [Downloadable!] (restricted)
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  31. Hess, Gregory D. & Shin, Kwanho, 1998. "Intranational business cycles in the United States," Journal of International Economics, Elsevier, vol. 44(2), pages 289-313, April. [Downloadable!] (restricted)
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  32. Cochrane, John H, 1991. "A Simple Test of Consumption Insurance," Journal of Political Economy, University of Chicago Press, vol. 99(5), pages 957-76, October. [Downloadable!] (restricted)
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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Fatás, Antonio & Mihov, Ilian, 1999. "Government Size and Automatic Stabilizers: International and Intranational Evidence," CEPR Discussion Papers 2259, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  2. Zahir, Antia & Djoudad, Ramdane & St-Amant, Pierre, 1999. "Canada’s Exchange Rate Regime and North American Economic Integration: The Role of Risk-Sharing Mechanisms," Working Papers 99-17, Bank of Canada. [Downloadable!]
  3. Sebnem Kalemli-Ozcan & Bent E. Sorensen & Oved Yosha, 1999. "Risk Sharing and Industrial Specialization: Regional and International Evidence," JCPR Working Papers 86, Northwestern University/University of Chicago Joint Center for Poverty Research. [Downloadable!]
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  4. Jacques Mélitz & Frédéric Zumer, 2000. "Interregional and International Risk Sharing and Lessons for EMU," EUI-RSCAS Working Papers 2, European University Institute (EUI), Robert Schuman Centre of Advanced Studies (RSCAS). [Downloadable!]
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