Document Type

Working Paper

Date of This Version

12-1-2018

Keywords

Backus-Smith, international portfolio choice, overlapping generations, risk sharing

JEL Classification

D52, F21, F41, G11, H55

Abstract

We present a solution to the Backus-Smith puzzle that, instead of relying on extreme parameter values or complex modeling assumptions, simply switches the framework from infinitely lived agents to overlapping generations. Young agents face non-diversifiable wage risk that leads to a low degree of risk sharing within each country. Subsequently, international price movements are not sufficient to achieve the high consumption-real exchange rate correlation produced in standard infinitely lived agent DSGE models.

Working Paper Number

1806

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