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A Portfolio Theory of International Capital Flows

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  • Michael B. Devereux

    (University of British Columbia)

  • Makoto Saito

    (Hitotsubashi University)

Abstract

This paper constructs a model in which the currency composition of national portfolios is an essential element in facilitating capital flows between countries. In a two country environment, each country chooses optimal nominal bond portfolios in face of real and nominal risk. Current account deficits are financed by increases in domestic currency debt, but balanced by increases in foreign currency credit. This is combined with an evolution of risk-premiums such that the rate of return on the debtor country¡¦s gross liabilities is lower than the return on its gross assets. This ensures stability of the world wealth distribution.

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Bibliographic Info

Paper provided by Hong Kong Institute for Monetary Research in its series Working Papers with number 112006.

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Length: 31 pages
Date of creation: Sep 2006
Date of revision:
Handle: RePEc:hkm:wpaper:112006

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  1. Maurice Obstfeld & Kenneth Rogoff, 2003. "Global Implications of Self-Oriented National Monetary Rules," Macroeconomics, EconWPA 0303018, EconWPA.
  2. Obstfeld, Maurice & Rogoff, Kenneth S, 2005. "The Unsustainable US Current Account Position Revisited," Center for International and Development Economics Research, Working Paper Series, Center for International and Development Economics Research, Institute for Business and Economic Research, UC Berkele qt4f63x50j, Center for International and Development Economics Research, Institute for Business and Economic Research, UC Berkeley.
  3. Helene Rey & Pierre Olivier Gourinchas, 2005. "International Financial Adjustment," 2005 Meeting Papers, Society for Economic Dynamics 169, Society for Economic Dynamics.
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  7. Jonathan Heathcote & Fabrizio Perri, 2013. "The International Diversification Puzzle Is Not as Bad as You Think," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 121(6), pages 1108 - 1159.
  8. Maurice Obstfeld, 2004. "External Adjustment," NBER Working Papers 10843, National Bureau of Economic Research, Inc.
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  15. Cedric Tille, 2005. "Financial integration and the wealth effect of exchange rate fluctuations," Staff Reports, Federal Reserve Bank of New York 226, Federal Reserve Bank of New York.
  16. Neumeyer, P.A., 1995. "Currencies and the Allocation of Risk: The Welfare Effect of a Monetary Union," DELTA Working Papers, DELTA (Ecole normale supérieure) 95-27, DELTA (Ecole normale supérieure).
  17. Saito, Makoto, 1997. "A note on ergodic distributions in two-agent economies," Journal of Mathematical Economics, Elsevier, vol. 27(2), pages 133-141, March.
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  20. Hnatkovska, Viktoria, 2010. "Home bias and high turnover: Dynamic portfolio choice with incomplete markets," Journal of International Economics, Elsevier, Elsevier, vol. 80(1), pages 113-128, January.
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