Capital Account Liberalization, Risk Sharing and Asset Prices

In the month that the capital account is liberalized, all publicly traded firms experience a 7 percent stock price revaluation. Firms whose shares become eligible for purchase by foreigners experience an additional revaluation that is directly proportional to their firmspecific reduction in aggregate risk— the covariance of the typical firm’s stock return with the local market is on average 30 times larger than its covariance with the world market. The statistical significance of this proportionality persists after controlling for the firm-specific effects of liberalization on expected future profits in this sample of 411 firms from 11 countries. These findings suggest that capital account liberalization facilitates international risk sharing. Anusha Chari: University of Michigan Business School; 701 Tappan Street; Ann Arbor, MI 48109 [email protected]. **Peter Blair Henry: Stanford University, Graduate School of Business; Stanford, CA 94305-5015; [email protected]. We thank Paul Romer, Andrei Shleifer and Jeremy Stein for helpful conversations. Seminar participants at Chicago, the Hoover Institution, Michigan, NBER, North Carolina, Ohio State, Stanford, and Virginia also provided helpful feedback. All remaining errors are our own.