Hedging against the government: a solution to the home asset bias puzzle
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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- Giancarlo Corsetti & Luca Dedola & Sylvain Leduc, 2008.
"International Risk Sharing and the Transmission of Productivity Shocks,"
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- Giancarlo Corsetti & Luca Dedola & Sylvain Leduc, 2003. "International risk-sharing and the transmission of productivity shocks," Working Papers 03-19, Federal Reserve Bank of Philadelphia.
- 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.
- David K. Backus & Patrick J. Kehoe, 1991.
"International evidence on the historical properties of business cycles,"
145, Federal Reserve Bank of Minneapolis.
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- David K. Backus & Patrick J. Kehoe, 1992. "International Evidence on the Historical Properties of Business Cycles," Working Papers 92-5, New York University, Leonard N. Stern School of Business, Department of Economics.
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