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

34 Pages Posted: 29 Jul 2001 Last revised: 9 Sep 2002

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); University of Chicago - Booth School of Business

Pedro Santa-Clara

New University of Lisbon - 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 )

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John H. Cochrane

Hoover Institution ( email )

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National Bureau of Economic Research (NBER)

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Pedro Santa-Clara

New University of Lisbon - Nova School of Business and Economics ( email )

Lisbon
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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