Consumption Risk-sharing And The Real Exchange Rate: Why Does The Nominal Exchange Rate Make Such A Difference?
A basic prediction of efficient risk-sharing is that relative consumption growth rates across countries or regions should be positively related to real exchange rate growth rates across the same areas. The authors investigate this hypothesis, employing a newly constructed multi-country and multi-regional data set. Within countries, they find significant evidence for risk sharing: episodes of high relative regional consumption growth are associated with regional real exchange rate depreciation. Across countries however, the association is reversed: relative consumption and real exchange rates are negatively correlated. They identify this failure of risk sharing as a border effect.