Working Paper: NBER ID: w18057
Authors: Tarek Alexander Hassan
Abstract: Differences in real interest rates across developed economies are puzzlingly large and persistent. I propose a simple explanation: Bonds issued in the currencies of larger economies are expensive because they insure against shocks that affect a larger fraction of the world economy. I show that differences in the size of economies indeed explain a large fraction of the cross-sectional variation in currency returns. The data also support a number of additional implications of the model: The introduction of a currency union lowers interest rates in participating countries and stocks in the non-traded sector of larger economies pay lower expected returns.
Keywords: No keywords provided
JEL Codes: F3; F31; F4; G12; G15
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Size of economy (O51) | Price of bonds (E43) |
| Size of economy (O51) | Currency returns (F31) |
| Currency union (F36) | Interest rates (E43) |
| Size of economy (O51) | Expected returns in non-traded sector (G19) |