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Working Paper
International portfolios, capital accumulation and foreign assets dynamics
Despite the liberalization of capital flows among OECD countries, equity home bias remains sizable. We depart from the two familiar explanations of equity home bias: transaction costs that impede international diversification, and terms of trade responses to supply shocks that provide risk sharing, so that there is little incentive to hold diversified portfolios. We show that the interaction of the following ingredients generates a realistic equity home bias: capital accumulation, shocks to the efficiency of physical investment, as well as international trade in stocks and bonds. In our ...
Working Paper
When bonds matter: home bias in goods and assets
Recent models of international equity portfolios exhibit two potential weaknesses: 1) the structure of equilibrium equity portfolios is determined by the correlation of equity returns with real exchange rates; yet empirically equities don't appear to be a good hedge against real exchange rate risk; 2) Equity portfolios are highly sensitive to preference parameters. This paper solves both problems. It first shows that in more general and realistic environments, the hedging of real exchange rate risks occurs through international bond holdings since relative bond returns are strongly correlated ...