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The Solution to the Feldstein-Horioka Puzzle


  • Horioka, Charles Yuji
  • Ford, Nicholas


The purpose of this paper is to set out a surprisingly simple solution to the Feldstein-Horioka Puzzle or Paradox, which is that even though global financial markets appear to be integrated, levels of saving and investment are correlated across countries because financial markets cannot, by themselves, achieve net transfers of financial capital. This is because net transfers of financial capital require the integration not only of financial markets but also of goods markets and because there are substantial frictions in goods markets (e.g., transport, marketing, and distribution costs, technical standards, certification procedures, tariffs and nontariffbarriers, etc.).

Suggested Citation

  • Horioka, Charles Yuji & Ford, Nicholas, 2017. "The Solution to the Feldstein-Horioka Puzzle," AGI Working Paper Series 2017-17, Asian Growth Research Institute.
  • Handle: RePEc:agi:wpaper:00000137

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    References listed on IDEAS

    1. repec:taf:apeclt:v:24:y:2017:i:13:p:918-922 is not listed on IDEAS
    2. Mussa, Michael L, 1977. "External and Internal Adjustment Costs and the Theory of Aggregate and Firm Investment," Economica, London School of Economics and Political Science, vol. 44(174), pages 163-178, May.
    3. Nicholas Ford & Charles Yuji Horioka, 2017. "The ‘real’ explanation of the Feldstein–Horioka puzzle," Applied Economics Letters, Taylor & Francis Journals, vol. 24(2), pages 95-97, January.
    4. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-1176, December.
    5. Feldstein, Martin & Horioka, Charles, 1980. "Domestic Saving and International Capital Flows," Economic Journal, Royal Economic Society, vol. 90(358), pages 314-329, June.
    6. Apergis, Nicholas & Tsoumas, Chris, 2009. "A survey of the Feldstein-Horioka puzzle: What has been done and where we stand," Research in Economics, Elsevier, vol. 63(2), pages 64-76, June.
    7. Nicholas Ford & Charles Yuji Horioka, 2017. "The ‘real’ explanation of the PPP puzzle," Applied Economics Letters, Taylor & Francis Journals, vol. 24(5), pages 325-328, March.
    8. Eaton, Jonathan & Kortum, Samuel & Neiman, Brent, 2016. "Obstfeld and Rogoff׳s international macro puzzles: a quantitative assessment," Journal of Economic Dynamics and Control, Elsevier, vol. 72(C), pages 5-23.
    9. Mishkin, Frederic S, 1984. " Are Real Interest Rates Equal across Countries? An Empirical Investigation of International Parity Conditions," Journal of Finance, American Finance Association, vol. 39(5), pages 1345-1357, December.
    10. Charles Yuji Horioka & Nicholas Ford, 2016. "A Possible Explanation of the ‘Exchange Rate Disconnect Puzzle’: A Common Solution to Three Major Macroeconomic Puzzles?," ISER Discussion Paper 0977, Institute of Social and Economic Research, Osaka University.
    11. S. Young Chung & William J. Crowder, 2004. "Why Are Real Interest Rates Not Equalized Internationally?," Southern Economic Journal, Southern Economic Association, vol. 71(2), pages 441-458, October.
    12. Maurice Obstfeld & Kenneth S. Rogoff, 1996. "Foundations of International Macroeconomics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262150476, May.
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    More about this item


    Capital flows; capital mobility; capital transfers; Feldstein-Horioka Paradox; Feldstein-Horioka Puzzle; financial market integration; goods market integration; interest rate parity; international capital flows; international capital mobility; investment; net capital transfers; Niehans model; real interest rate parity; saving; saving-investment correlations; trade frictions; F15; F21; F32; F36; G15;

    JEL classification:

    • F15 - International Economics - - Trade - - - Economic Integration
    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • F36 - International Economics - - International Finance - - - Financial Aspects of Economic Integration
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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