The Gains from International Risk-Sharing

Keith Sill is a senior economist in the Research Department of the Philadelphia Fed. Our economy has become increasingly global. We import and export more than ever before. Yet, three facts about international financial transactions, when taken together, pose a puzzle. First, financial capital moves freely across country borders, at least in the case of the developed countries. Returns on similar dollar-denominated assets in different countries are very close to each other — differences in returns have essentially been eliminated because some investors buy and sell assets internationally. Second, residents of most major industrialized countries hold most of their wealth in domestic assets, forgoing the benefits of diversifying their portfolios by including foreign assets. A fundamental tenet of finance o residents of different countries trade financial assets to insure themselves against country-specific risks? In this article, Keith Sill examines the degree of such risk-sharing and whether there could be further gains from increased risk-sharing across borders.