DP16443 Sharing Asymmetric Tail Risk: Smoothing, Asset Pricing and Terms of Trade

Author(s): Giancarlo Corsetti, Anna Lipinska, Giovanni Lombardo
Publication Date: August 2021
Keyword(s): Asymmetry, Fat Tails, International Risk Sharing, Welfare
JEL(s): F15, F41, G15
Programme Areas: International Macroeconomics and Finance
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=16443

Crises and tail events have asymmetric effects across borders, raising the value of arrangements improving insurance of macroeconomic risk. Using a two-country DSGE model, we provide an analytical and quantitative analysis of the channels through which countries gain from sharing (tail) risk. Riskier countries gain in smoother consumption but lose in relative wealth and average consumption. Safer countries benefit from higher wealth and better average terms of trade. Calibrated using the empirical distribution of moments of GDP-growth across countries, the model suggests significant quantitative effects. We offer an algorithm for the correct solution of the equilibrium using DSGE models under complete markets, at higher order of approximation.