An Asset-Pricing View of External Adjustment

Anna Pavlova and Roberto Rigobon

No 13468, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: Recent evidence on the importance of cross-border equity flows calls for a rethinking of the standard theory of external adjustment. We introduce equity holdings and portfolio choice into an otherwise conventional open-economy dynamic equilibrium model. Our model is simple and admits a closed-form solution regardless of whether financial markets are complete or incomplete. We find that the excessive emphasis put in the literature on solving models with incomplete markets for the sole purpose of obtaining nontrivial implications for the current account is misplaced. We revisit the current debate on the relative importance of the standard vs. the capital-gains-based (or "valuation'') channels of the external adjustment and establish that in our framework they are congruent. Our model's implications are consistent with a number of intriguing stylized facts documented in the recent empirical literature.

JEL-codes: F31 F36 G12 G15 (search for similar items in EconPapers)
Date: 2007-10
New Economics Papers: this item is included in nep-cba and nep-dge
Note: IFM
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Citations: View citations in EconPapers (11)

Published as Pavlova, Anna & Rigobon, Roberto, 2010. "An asset-pricing view of external adjustment," Journal of International Economics, Elsevier, vol. 80(1), pages 144-156, January.

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Journal Article: An asset-pricing view of external adjustment (2010)
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