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Relative factor endowments and international portfolio choice

Cunat, Alejandro and Fons-Rosen, Christian (2008) Relative factor endowments and international portfolio choice. CEPDP, 879. Centre for Economic Performance, London School of Economics and Political Science, London, UK. ISBN 9780853282860

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Identification Number: 879

Abstract

This paper presents a model of international portfolio choice based on the pattern of comparative advantage in goods trade. Countries have varying degrees of similarity in their factor endowment ratios, and are subject to aggregate productivity shocks. Risk averse consumers can insure against these shocks by investing their wealth at home and abroad. The change in relative prices after a positive shock in a particular country provides insurance to countries that have dissimilar factor endowment ratios, but is bad news for countries with similar factor endowment ratios, since their incomes will worsen. Therefore countries with similar comparative advantages have a stronger incentive to invest in one another for insurance purposes than countries with dissimilar comparative advantages. Empirical evidence linking bilateral international investment positions to a proxy for relative factor endowments supports our theory: the similarity of host and source countries in their relative capital-labor ratios has a positive effect on the source country’s investment position in the host country. The effect of similarity is enhanced by the size of host countries as predicted by the theory.

Item Type: Monograph (Discussion Paper)
Official URL: http://cep.lse.ac.uk
Additional Information: © 2008 the authors
Subjects: H Social Sciences > HG Finance
Sets: Collections > Economists Online
Research centres and groups > Centre for Economic Performance (CEP)
Date Deposited: 17 Jul 2008 09:35
Last Modified: 01 Oct 2010 09:12
URI: http://eprints.lse.ac.uk/id/eprint/19562

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