Working Paper: NBER ID: w14795
Authors: Michael B. Devereux; Gregor W. Smith; James Yetman
Abstract: Standard models of international risk sharing with complete asset markets predict a positive association between relative consumption growth and real exchange-rate depreciation across countries. The striking lack of evidence for this link the consumption/real-exchange-rate anomaly or Backus-Smith puzzle - has prompted research on risk-sharing indicators with incomplete asset markets. That research generally implies that the association holds in forecasts, rather than realizations. Using professional forecasts for 28 countries for 1990-2008 we find no such association, thus deepening the puzzle. Independent evidence on the weak link between forecasts for consumption and real interest rates suggests that the presence of 'hand-to-mouth' consumers may help to resolve the anomaly.
Keywords: Consumption; Real Exchange Rates; Professional Forecasts; Risk Sharing
JEL Codes: F37; F41; F47
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| relative consumption growth (F62) | real exchange rate depreciation (F31) |
| hand-to-mouth consumers (D12) | consumption patterns (D10) |
| hand-to-mouth consumers (D12) | current income dictates consumption (D10) |
| real exchange rate changes (F31) | relative consumption growth (F62) |