Essays in international finance and macroeconomics

Description

This thesis consists of three essays in international finance and macroeconomics. In Chapter 1, I introduce rare disasters into an otherwise standard open-economy general equilibrium model and allow the disaster probability to be both time-varying and mean-reverting, I then can explain several macroeconomics and international finance puzzles in a single model. The puzzles include the equity premium puzzle, the risk-free rate puzzle, the forward discount puzzle, the excess volatility puzzle and the volatility mis-match puzzle. The model, when calibrated with plausible parameter values, can replicate many salient features in the stock price and exchange rate data. Finally, the asset pricing implications of rare disasters under the Epstein-Zin-Weil preferences are studied. In Chapter 2, I study several leading asset-pricing models to gauge the welfare cost of consumption risks. I find that models that can generate sizable equity premia all indicate that the welfare cost of consumption risks is huge. When measured in terms of growth rate instead of levels of consumption, a simple rule of thumb emerges-eliminating all consumption risks is equivalent to increasing the economic growth rate by a half of the model-generated equity premium. This simple rule works quite well for all models studied in this paper, although the policy implications differ from model to model. n Chapter 3, Keyu Jin and I analyze a useful accounting framework that breaks down the current account to two components: a composition effect and a growth effect. We show that a severe omitted variable bias arising from the failure to account for both factors in the past has led to the erroneous conclusion that current account dynamics are driven by portfolio growth. In contrast to previous conclusions that the portfolio share of net foreign assets to total assets is constant, both our theoretical and empirical results support a highly persistent process or a unit root process, with some countries displaying a trend. Finally, we reestablish the composition effect as the quantitatively dominant driving force of current account dynamics, at least in the past data.

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