The Negative Growth-Volatility Relationship and the Gains from Financial Integration

2017-03-02

Speaker£ºDr NIE Jun(Senior Economist of the Federal Reserve Bank)

Time£º14:30-16:00 March 10,2017(Friday)

Site£ºB127

Abstract: We document a negative relationship between average growth and volatility in a cross-section of countries. We then provide an interpretation of this result using a robustness (RB) version of the Obstfeld (1994) model of financial diversification and openness. Incorporating a preference for robustness can generate the observed negative relationship between growth and volatility of real GDP. Furthermore, we show that RB reduces the expected growth rate in a diversified equilibrium (positive holdings of risk-free capital), while it could increase growth in an undiversified equilibrium. Using this framework, we calculate the growth and welfare gains associated with financial market openness, and show that international integration has a smaller effect on welfare gain under RB if the economy is in a diversified equilibrium.