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Risk Sharing in International Economies and Market Incompleteness

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  • Gurdip Bakashi
  • Mario Cerrato
  • John Crosby

Abstract

We develop an incomplete markets framework to show that international risk sharing can be low, particularly among countries with large interest-rate differentials. Furthermore, risk sharing computed from asset returns can be consistent with that computed from consumption. The key difference from Brandt, Cochrane, and Santa-Clara (2006) is that exchange rate growth need not equal the ratio of stochastic discount factors (SDF), and we develop a restriction that precludes “good deals” in international economies with incomplete markets. We compute the lowest risk sharing consistent with SDFs that (i) are nonnegative, (ii) correctly price returns, and (iii) disallow “good deals.”

Suggested Citation

  • Gurdip Bakashi & Mario Cerrato & John Crosby, 2015. "Risk Sharing in International Economies and Market Incompleteness," Working Papers 2015_23, Business School - Economics, University of Glasgow.
  • Handle: RePEc:gla:glaewp:2015_23
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    File URL: http://www.gla.ac.uk/media/media_428552_en.pdf
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    References listed on IDEAS

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    1. Karen K. Lewis, 1999. "Trying to Explain Home Bias in Equities and Consumption," Journal of Economic Literature, American Economic Association, vol. 37(2), pages 571-608, June.
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    Cited by:

    1. repec:eee:inecon:v:108:y:2017:i:s1:p:s42-s58 is not listed on IDEAS
    2. Lewis, Karen K. & Liu, Edith X., 2017. "Disaster risk and asset returns: An international perspective," Journal of International Economics, Elsevier, vol. 108(S1), pages 42-58.

    More about this item

    Keywords

    International risk sharing; incomplete markets; exchange rates;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F36 - International Economics - - International Finance - - - Financial Aspects of Economic Integration

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