DP15550 Is there consumer risk-pooling in the open economy? The evidence reconsidered

Author(s): Patrick Minford, Zhirong Ou, Zheyi Zhu
Publication Date: January 2021
Date Revised: January 2021
Keyword(s): consumer risk-pooling, full-model test, indirect inference, Open economy, UIP
JEL(s): C12, E12, F41
Programme Areas: International Macroeconomics and Finance
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=15550

We revisit the evidence on consumer risk-pooling and uncovered interest parity. Widely used single equation tests are strongly biased against both. Using the full-model, Indirect Inference test, which is unbiased and has Goldilocks power by Monte Carlo experiments, we find that both the risk-pooling hypothesis and its weaker UIP version are generally accepted as part of a full world DSGE model. The fact that the risk-pooling hypothesis, with its implication of strong cross-border consumer linkage, has passed this test with generally the highest p-value, suggests that it deserves serious attention from policy-makers looking for a relevant model to discuss international monetary and other business cycle issues.