International Risk-Sharing and the Transmission of Productivity Shocks

By Giancarlo Corsetti, Luca Dedola, Sylvain Leduc. Social Science Research Network, 2004

778 citations recorded by the source corpus.

This paper shows that standard international business cycle models can be reconciled with the empirical evidence on the lack of consumption risk sharing. First, we show analytically that with incomplete asset markets productivity disturbances can have large uninsurable effects on wealth, depending on the value of the trade elasticity and shock persistence. Second, we investigate these findings quantitatively in a model calibrated to the U.S. economy. With the low trade elasticity estimated via a method of moments procedure, the consumption risk of productivity shocks is magnified by high terms of trade and real exchange rate (RER) volatility. Strong wealth effects in response to shocks raise the demand for domestic goods above supply, crowding out external demand and appreciating the terms of trade and the RER. Building upon the literature on incomplete markets, we then show that similar results are obtained when productivity shocks are nearly permanent, provided the trade elasticity is set equal to the high values consistent with micro-estimates. Under both approaches the model accounts for the low and negative correlation between the RER and relative (domestic to foreign) consumption in the data—the "Backus-Smith puzzle". Copyright 2008, Wiley-Blackwell.

Subfields: Economics and Econometrics, Finance

View Paper: https://www.semanticscholar.org/paper/7c25b723f023c1762099cba9fd1e809b9a2ed9e3

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Citations in the corpus

SIGMA: a new open economy model for policy analysis (2005, neutral): “…for long-run passthrough that is below unity, including models with a distribution sector for retail goods as in Corsetti and Dedola (2003), and Corsetti, Dedola, and Leduc (2005), such models do not allow enough variation in desired markups to come close to matching the low level of…”
How Do Fiscal and Technology Shocks Affect Real Exchange Rates? New Evidence for the United States (2008, positive): “Yet, as shown in a recent theoretical contribution by Corsetti et al. (2008a), to the extent that technology shocks appreciate the real exchange rate, country-specific consumption risk is actually amplified.”
Fiscal Stimulus with Spending Reversals (2009, neutral): “See Corsetti et al. (2008) for further discussion. (8)See Galı́ et al. (2001) or Eichenbaum and Fisher (2007) for further discussion of how real rigidities interact with nominal price rigidities in the context of the new Keynesian model.”
Productivity, terms of trade and the 'home market effect' (2007, neutral): “Note from (12) that the parameter in (10) plays a crucial role in the choice between consumption and leisure.”
Expenditure Switching vs. Real Exchange Rate Stabilization: Competing Objectives for Exchange Rate Policy (2007, neutral): “Devereux and Engel (2003) find that if exporters set prices according to LCP, a fixed exchange rate regime is the optimal monetary policy.”
Capital Flows and Foreign Exchange Intervention (2019, neutral): “For recent examples see Chari, Kehoe and McGrattan (2002), Corsetti et al. (2008) and Rigobon and Pavlova (2011).”