An Intergenerational Cross-Country Swap

35 Pages Posted: 22 Apr 2009 Last revised: 16 Apr 2010

See all articles by Miret Padovani

Miret Padovani

Vienna University of Economics and Business

Paolo Vanini

University of Basel

Date Written: April 21, 2009

Abstract

This paper addresses the issue of intergenerational and international sharing of longevity and growth risks. Current research on worldwide demographic changes highlights the importance of longevity risk on financial markets and the need to devise optimal hedging vehicles. We present a potential financial innovation between two countries at different stages of economic development and with different long-term challenges. This 30-year-long swap is structured in such a way to capture the different timing of needed funds of the two countries and the funding capabilities of each generation: the more developed economy requires funds in the future to cover expenses for its ageing population, while the developing economy needs funds today to pay for educational, technological, and other infrastructural services. To price the swap, we apply an exponential-utility-based pricing method and define an interval of prices allowing a contract to be agreed upon. We show how the bid-ask spread varies with respect to the governments' risk and time preferences.

Keywords: Financial innovation, longevity risk, population ageing, old-age dependency ratio, growth risk, exponential-utility-based pricing, intergenerational risk-sharing, international risk-sharing

Suggested Citation

Padovani, Miret and Vanini, Paolo, An Intergenerational Cross-Country Swap (April 21, 2009). Swiss Finance Institute Research Paper No. 09-17, Available at SSRN: https://ssrn.com/abstract=1392837 or http://dx.doi.org/10.2139/ssrn.1392837

Miret Padovani (Contact Author)

Vienna University of Economics and Business ( email )

Welthandelsplatz 1
Vienna, Wien 1020
Austria

Paolo Vanini

University of Basel ( email )

Petersplatz 1
Basel, CH-4003
Switzerland

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