Risk Sharing in a World Economy with Uncertainty Shocks

25 Pages Posted: 28 Jan 2016

See all articles by Robert Kollmann

Robert Kollmann

ECARES, Université Libre de Bruxelles; University of Paris XII - Department of Economics; Centre for Economic Policy Research (CEPR)

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Date Written: 2015-11-01

Abstract

This paper analyzes the effects of output volatility shocks and of risk appetite shocks on the dynamics of consumption, trade flows and the real exchange rate, in a two-country world with recursive preferences and complete financial markets. When the risk aversion coefficient exceeds the inverse of the intertemporal substitution elasticity, then an exogenous rise in a country’s output volatility triggers a wealth transfer to that country, in equilibrium; this raises its consumption, lowers its trade balance and appreciates its real exchange rate. The effects of risk appetite shocks resemble those of volatility shocks. In a recursive preferences-complete markets framework, volatility and risk appetite shocks account for a noticeable share of the fluctuations of net exports, net foreign assets and the real exchange rate. These shocks help to explain the high empirical volatility of the real exchange rate and the disconnect between relative consumption growth and the real exchange rate.

JEL Classification: F31, F32, F36, F41, F43

Suggested Citation

Kollmann, Robert, Risk Sharing in a World Economy with Uncertainty Shocks (2015-11-01). Globalization and Monetary Policy Institute Working Paper No. 258, Available at SSRN: https://ssrn.com/abstract=2723118 or http://dx.doi.org/10.24149/gwp258

Robert Kollmann (Contact Author)

ECARES, Université Libre de Bruxelles ( email )

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Brussels, B-1050
Belgium

University of Paris XII - Department of Economics ( email )

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Creteil cedex, 94010
France

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

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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