Discussion paper
DP20067 Who Carries?
In representative agent models, consumption growth risk explains currency carry trade returns only when risk aversion is very high. Yet, a highly risk-averse agent would not hold a carry trade portfolio. Heterogeneity helps by allowing a risk-tolerant minority of agents to hold carry trade portfolios while a risk-intolerant majority does not. We show that with heterogeneous risk aversion, standard models of international macroeconomics can produce carry traders in economies with domestic bias in aggregate portfolios and low aggregate portfolio returns, as observed in Germany, Japan, and the United States, together holding half of global debt.
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