An Equilibrium Model of Global Imbalances and Low Interest Rates

55 Pages Posted: 20 Jan 2006

See all articles by Ricardo J. Caballero

Ricardo J. Caballero

Massachusetts Institute of Technology (MIT) - Department of Economics; National Bureau of Economic Research (NBER)

Emmanuel Farhi

Harvard University - Department of Economics; National Bureau of Economic Research (NBER)

Pierre-Olivier Gourinchas

University of California, Berkeley - Department of Economics; University of California, Berkeley - Economic Analysis & Policy Group; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

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Date Written: January 14, 2006

Abstract

Three of the most important recent facts in global macroeconomics - the sustained rise in the US current account deficit, the stubborn decline in long run real rates, and the rise in the share of US assets in global portfolio - appear as anomalies from the perspective of conventional wisdom and models. Instead, in this paper we provide a model that rationalizes these facts as an equilibrium outcome of two observed forces: a) potential growth differentials among different regions of the world and, b) heterogeneity in these regions' capacity to generate financial assets from real investments. In extensions of the basic model, we also generate exchange rate and FDI excess returns which are broadly consistent with the recent trends in these variables. Unlike the conventional wisdom, in the absence of a large change in (a) or (b), our model does not augur any catastrophic event. More generally, the framework is flexible enough to shed light on a range of scenarios in a global equilibrium environment.

Keywords: Current account deficits, capital flows, interest rates, global portfolios and equilibrium, growth and financial development asymmetries, exchange rates, FDI, intermediation rents

JEL Classification: EO, F3, F4, G1

Suggested Citation

Caballero, Ricardo J. and Farhi, Emmanuel and Gourinchas, Pierre-Olivier, An Equilibrium Model of Global Imbalances and Low Interest Rates (January 14, 2006). MIT Department of Economics Working Paper No. 06-02. Available at SSRN: https://ssrn.com/abstract=877003 or http://dx.doi.org/10.2139/ssrn.877003

Ricardo J. Caballero (Contact Author)

Massachusetts Institute of Technology (MIT) - Department of Economics ( email )

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National Bureau of Economic Research (NBER)

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Emmanuel Farhi

Harvard University - Department of Economics ( email )

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National Bureau of Economic Research (NBER) ( email )

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Pierre-Olivier Gourinchas

University of California, Berkeley - Department of Economics ( email )

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Berkeley, CA 94720-3880
United States

HOME PAGE: http://sites.google.com/view/pgourinchas

University of California, Berkeley - Economic Analysis & Policy Group ( email )

Berkeley, CA 94720
United States

HOME PAGE: http://sites.google.com/view/pgourinchas

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

HOME PAGE: http://www.nber.org/people/pierre-olivier_gourinchas

Centre for Economic Policy Research (CEPR)

London
United Kingdom

HOME PAGE: http://cepr.org/active/publications/discussion_papers/authorlist.php?ident=136737

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