Consumption Preferences, Asset Demands, and Distribution Effects in International Financial Markets

19 Pages Posted: 9 May 2000 Last revised: 18 Apr 2008

See all articles by Paul R. Krugman

Paul R. Krugman

Princeton University - Woodrow Wilson School of Public and International Affairs; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Date Written: March 1981

Abstract

This paper is an attempt to examine some of the microeconomic foundations of this last view of the link between current accounts and exchange rata. Several authors, especially Kouri and de Macedo (1978), but also more recently Dornbusch (1980), have sought to justify the portfolio approach in terms of finance theory, deriving asset demands from a mean-variance framework and arguing that differences in the portfolios of different countries explain why changes in the world distribution of wealth affect exchange rates. What I will do in this paper is to argue that, even under seemingly favorable assumptions, these distribution effects nay run the wrong way; that if they run the right way, they will be very weak; and that the incentives for inter-national, portfolio diversification are in any case small, and can be swamped by quite modest transaction costs or other costs to diversification.

Suggested Citation

Krugman, Paul R., Consumption Preferences, Asset Demands, and Distribution Effects in International Financial Markets (March 1981). NBER Working Paper No. w0651. Available at SSRN: https://ssrn.com/abstract=228073

Paul R. Krugman (Contact Author)

Princeton University - Woodrow Wilson School of Public and International Affairs ( email )

Princeton University
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Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

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