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The Risky Capital of Emerging Markets

Ina Simonovska, Espen Henriksen and Joel David

No 125, 2016 Meeting Papers from Society for Economic Dynamics

Abstract: Poor and emerging markets exhibit (1) high average returns to capital and (2) large exposures to movements in US returns, measured by the ‘beta’ of the returns to the foreign asset on the returns to its US counterpart. We document these facts in detail for two asset classes - stock market returns and the return to aggregate capital - and we provide further evidence from a third class - sovereign bonds. We use a series of endowment economies to explore whether consumption-based risk faced by a US investor can reconcile these findings. We find that long-run risk, i.e., risk due to uncertainty over economic growth rates abroad, is a promising channel - our calibrated model implies return disparities at least 55% as large as those in the data. From the perspective of the US investor, fact (2), although not a sufficient statistic, is informative about the extent of long-run risk in foreign assets, and so about fact (1).

Date: 2016
New Economics Papers: this item is included in nep-dge
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Working Paper: The Risky Capital of Emerging Markets (2014) Downloads
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