The Lack of International Consumption Risk Sharing: Can Inflation Differentials and Trading Costs Help Explain the Puzzle?

Abstract

The bulk of evidence on the lack of international risk sharing is based on regressions of idiosyncratic consumption growth on idiosyncratic output growth. This paper argues that the results from such regressions obtained from international data are, however, not directly comparable to those based on regional data: the standard practice of running such regressions on international data fails to account for persistent international differentials in consumer prices, whereas -implicitly -most of the literature based on regional data has accounted for these differences. When risk sharing regressions are set up in conceptually the same way in international and regional data sets, the estimated coefficients are also very similar. To explore this result further, we adapt the variance decomposition of Asdrubali Sørensen and Yosha (QJE 1996) to allow for deviations from purchasing power parity across countries. While quantity (income and credit) flows are the dominant channel of risk sharing among regions, relative consumption and output price (internal terms of trade) fluctuations account for the bulk of the deviation from the complete markets outcome in international data. To the extent that persistent differences in consumer prices are an indication of goods market segmentation, our findings provide empirical evidence for the proposition by Obstfeld and Rogoff (2000) that segmented international goods markets rather than asset market incompleteness may account for the (apparent) lack of risk sharing between countries. AbstractThe bulk of evidence on the lack of international risk sharing is based on regressions of idiosyncratic consumption growth on idiosyncratic output growth. This paper argues that the results from such regressions obtained from international data are, however, not directly comparable to those based on regional data: the standard practice of running such regressions on international data fails to account for persistent international di¤erentials in consumer prices, whereas -implicitly -most of the literature based on regional data has accounted for these di¤erences. When risk sharing regressions are set up in conceptually the same way in international and regional data sets, the estimated coe¢ cients are also very similar. To explore this result further, we adapt the variance decomposition of Asdrubali Sørensen and Yosha (QJE 1996) to allow for deviations from purchasing power parity across countries. While quantity (income and credit) ‡ows are the dominant channel of risk sharing among regions, relative consumption and output price (internal terms of trade) ‡uctuations account for the bulk of the deviation from the complete markets outcome in international data. To the extent that persistent di¤er-ences in consumer prices are an indication of goods market segmentation, our …ndings provide empirical evidence for the proposition by Obstfeld and Rogo¤ (2000) that segmented international goods markets rather than asset market incompleteness may account for the (apparent) lack of risk sharing...

EMU, EU, Market Integration and Consumption Smoothing

“…Significantly too, common relative price movements and rises in the general price level in 11 the world are reflected separately in our specification in the time specific effects. On our reading, our specification agrees with the fine analysis of the issue in Hoffmann (2008).…”

Securitization of Mortgage Debt, Asset Prices and International Risk Sharing

“…Here, we follow the bulk of the literature on international consumption risk sharing that has predominantly used risk sharing regressions such as (1) to study the impact of globalization on risk sharing. Ho¤mann (2008) reports the conclusions as to how much risk is shared through …nancial markets remain una¤ected by controlling for real exchange rate movements in regressions such as (1). tries depending on whether and to which degree securitization of mortgage related debt is used.…”

Financial Globalization, International Business Cycles and Consumption Risk Sharing*

“…6 6 Hoffmann (2008) reports that deviations from purchasing power parity can indeed account for a substantial fraction of the comovement between relative consumption and relative output. But he also shows that the conclusions as to how much risk is shared through financial markets remain unaffected by controlling for real exchange rate movements.…”