International Risk Sharing is Better than You Think (or Exchange Rates are Much Too Smooth)

34 Pages Posted: 29 Jul 2001 Last revised: 19 Dec 2022

See all articles by Michael W. Brandt

Michael W. Brandt

Duke University - Fuqua School of Business; National Bureau of Economic Research (NBER)

John H. Cochrane

Hoover Institution; National Bureau of Economic Research (NBER)

Pedro Santa-Clara

Nova School of Business and Economics; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Date Written: July 2001

Abstract

Exchange rates depreciate by the difference between the domestic and foreign marginal utility growths. Exchange rates vary a lot , as much as 10% per year. However, equity premia imply that marginal utility growths vary much more, by at least 50% per year. This means that marginal utility growths must be highly correlated across countries -- international risk sharing is better than you think. Conversely, if risks really are not shared internationally, exchange rates should vary more than they do -- exchange rates are much too smooth. We calculate an index of international risk sharing that formalizes this intuition in the context of both complete and incomplete capital markets. Our results suggest that risk sharing is indeed very high across several pairs of countries.

Note: This abstract & paper was mistakenly published in NBER Working Papers Series, Vol. 2, No. 41 without two of the authors' names included. This is the corrected version.

Suggested Citation

Brandt, Michael W. and Cochrane, John H. and Santa-Clara, Pedro, International Risk Sharing is Better than You Think (or Exchange Rates are Much Too Smooth) (July 2001). NBER Working Paper No. w8404, Available at SSRN: https://ssrn.com/abstract=278037

Michael W. Brandt (Contact Author)

Duke University - Fuqua School of Business ( email )

1 Towerview Drive
Durham, NC 27708-0120
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
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John H. Cochrane

Hoover Institution ( email )

Stanford, CA 94305-6010
United States
6507236708 (Phone)

HOME PAGE: http://www.johnhcochrane.com/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Pedro Santa-Clara

Nova School of Business and Economics ( email )

Campus de Carcavelos
Rua da Holanda, 1
Carcavelos, 2775-405
Portugal

HOME PAGE: http://docentes.fe.unl.pt/~psc/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

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