Portfolio Choice in a Monetary Open-Economy DSGE Model

Charles Engel and Akito Matsumoto

No 12214, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper develops a two-country monetary DSGE model in which households choose a portfolio of home and foreign equities, and a forward position in foreign exchange. Some goods prices are set without full information of the state. We show that temporarily sticky nominal goods prices can have large effects on equity portfolios. Home and foreign portfolios are not identical in equilibrium. In response to technology shocks, sticky prices generate a negative correlation between labor income and the profits of domestic firms, biasing portfolios in favor of home equities. In contrast, under flexible prices, labor income and the profits of the domestic firms are positively correlated. Even a small amount of nominal price stickiness can generate these portfolio differences, depending on the diversification role played by the terms of trade. Returns on human capital and equities may be positively correlated under sticky prices when the source of shocks is monetary, but this risk is hedged through nominal assets rather than through equities.

JEL-codes: F31 F41 G11 (search for similar items in EconPapers)
Date: 2006-05
New Economics Papers: this item is included in nep-cba, nep-dge, nep-fin, nep-fmk, nep-ifn and nep-mac
Note: IFM
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (105)

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Working Paper: Portfolio Choice in a Monetary Open-Economy DSGE Model (2005)
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