Equilibrium Portfolio and External Adjustments under Incomplete Markets
Speaker
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 it admits an exact closed-form solution regardless of whether financial markets are complete or incomplete. 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. We demonstrate how countries' portfolio compositions affect the dynamics of their external accounts and argue that a description of the international adjustment mechanism is incomplete if it does not encompass asset price fluctuations and portfolio choice. |
| The Erasmus Finance Seminar is jointly sponsored by ERIM and the Tinbergen Institute. |
| Contact information: |
| Viorel Roscovan |
