Pierre-Olivier Gourinchas

with Olivier Jeanne. The textbook neoclassical growth model predicts that countries with faster productivity growth should invest more and attract more foreign capital. We show that the allocation of capital flows across developing countries is the opposite of this prediction: capital seems to flow more to countries that invest and grow less. We then introduce wedges into the neoclassical growth model and find that one needs a saving wedge in order to explain the correlation between growth and capital flows observed in the data. We conclude with a discussion of some possible avenues for research to resolve the contradiction between the model predictions and the data. Older versions: CEPR DP 6561, NBER WP 13602.

with Gita Gopinath, Chang-Tai Hsieh and Nick Li. To what extent do national borders and national currencies impose costs that segment markets across countries? To answer this question we use a dataset with product level retail prices and wholesale costs for a large grocery chain with stores in the U.S. and Canada. We develop a model of pricing by location and employ a regression discontinuity approach to estimate and interpret the border effect. We report three main facts: 1) The median absolute retail price and whole-sale cost discontinuity between adjacent stores on either side of the U.S.-Canada border is as high as 21%. In contrast, within-country border discontinuity is close to 0%; 2) The variation in the retail price gap at the border is almost entirely driven by variation in wholesale costs, not by variation in markups; 3) The border gap in prices and costs co-move almost one to one with changes in the U.S.-Canada nominal exchange rate. We show these facts suggest that the price gaps we estimate provide only a lower bound on border costs. CEPR DP 7281, NBER WP 14938.

with Nicolas Coeurdacier. Recent models of international equity portfolios exhibit two potential weaknesses: 1) the structure of equilibrium equity portfolios is determined by the correlation of equity returns with real exchange rates; yet empirically equities don't appear to be a good hedge against real exchange rate risk; 2) Equity portfolios are highly sensitive to preference parameters. This paper solves both problems. It first shows that in more general and realistic environments, the hedging of real exchange rate risks occurs through international bond holdings since relative bond returns are strongly correlated with real exchange rate fluctuations. Equilibrium equity positions are then\ optimally determined by the correlation of equity returns with the return on non-financial wealth, conditional on the bond returns. The model delivers equilibrium portfolios that are well-behaved as a function of the underlying preference parameters. We find reasonable empirical support for the theory for G-7 countries. We are able to explain short positions in domestic currency bonds for all G-7 countries, as well as significant levels of home equity bias for the US, Japan and Canada.

with Olivier Jeanne. Financial globalization is commonly viewed as a powerful force in constraining or disciplining domestic policies. This paper presents a model that captures various ways in which international capital mobility affects domestic policy incentives. Capital mobility supports reform in two ways: 1) capital inflows enhance the benefits of good policies; 2) liberalizing capital outflows may lock in political support for reforms. On the downside, capital mobility makes possible self-fulfilling capital flight that destroys the domestic investor basis and the political support for reform. More generally, individual investment decisions do not internalize their impact on policy incentives, opening some scope for second-best public intervention.

with Ricardo Caballero and Emmanuel Farhi. In this paper, we argue that the persistent global imbalances, the sub-prime crisis, and the volatile oil and asset prices that followed it, are tightly interconnected. They all stem from a global environment where sound and liquid financial assets are in scarce supply. Our story goes as follows: Global asset scarcity led to large capital flows toward the U.S. and to the creation of asset bubbles that eventually crashed. The crash in the real estate market was particularly complex from the point of view of asset shortages since it compromised the whole financial sector, and by so doing, closed many of the alternative saving vehicles. Thus, in its first phase, the crisis exacerbated the shortage of assets in the world economy, which triggered a partial recreation of the bubble in commodities and oil markets in particular. The latter led to an increase in petrodollars seeking financial assets in the U.S. Thus, rather than the typical destabilizing role played by capital outflows during financial crises, petrodollar flows became a source of stability for the U.S. The second phase of the crisis is more conventional and began to emerge toward the end of the summer of 2008. It became apparent then that the financial crisis would permeate the real economy and sharply slow down global growth. This slowdown worked to reverse the tight commodity market conditions required for a bubble to develop, ultimately destroying the commodity bubble.

An earlier version of this paper circulated under the catchy title "Financial `Whac-a-Mole': Bubbles, Commodity Prices and Global Imbalances." CEPR DP 7064, NBER WP 14521.

This paper surveys the recent empirical and theoretical literature on valuation effects. The increase in cross-border holdings of financial assets opens the door to significant adjustments in a country's external position in response to fluctuations in asset and currency prices. Access to better data on net and gross international investment positions for a broad range of countries permits careful measurement of these `valuation effects'. We distinguish between predictable and unpredictable valuation effects, and argue that they play separate roles in the adjustment process (for better or for worse). Finally, the paper discusses theoretical conditions under which predictable valuation effects can arise in equilibrium.

with Ricardo Caballero and Emmanuel Farhi. Three of the most important recent facts in global macroeconomics --- the sustained rise in the US current account deficit, the stubborn decline in long run real rates, and the rise in the share of US assets in global portfolios --- appear as anomalies from the perspective of conventional wisdom and models. Instead, in this paper we provide a model that rationalizes these facts as an equilibrium outcome stemming from the heterogenity in different regions of the world in their capacity to generate financial assets from real investments. In extensions of the basic model, we also generate exchange rate and FDI excess returns which are broadly consistent with the recent trends in these variables. Beyond the specific sequence of events that motivate our analysis, the framework is flexible enough to shed light on a range of scenarios in a global equilibrium environment. CEPR DP 5573, NBER WP 11996.

[Media coverage: Economic Principals, The Economist]

with Hélène Rey. We explore the implications of a country’s external constraint for the dynamics of net foreign assets, returns and exchange rates. Deteriorations in external accounts imply future trade surpluses (trade channel) or excess returns on the net foreign portfolio (valuation channel). Using a new dataset on US gross external positions, we find that stabilizing valuation effects contribute 27% of the cyclical external adjustment. Our approach has asset pricing implications: external imbalances predict net foreign portfolio returns one-quarter to two-years ahead and net export growth at longer horizons. The exchange rate is forecastable in and out-of-sample at one quarter and beyond. CEPR DP 4923, NBER WP 11155.

[Online Appendix: available here. Longer and more detailed working paper version available here]
[Media coverage: Financial Times, Il Sole 24 Ore, Handelsblatt, Le Monde, Reuters]
[Data: Gross positions and total nominal returns by asset class, flows, NXA are available here.]

with Hélène Rey. We analyze the structure of US external assets and liabilities since 1952 and break-up the "exorbitant privilege" in a return effect and a composition effect. This paper also contains a detailed description of the dataset that we constructed and used in International Financial Adjustment. CEPR DP 5220, NBER WP 11563.
[Media coverage: Bloomberg, Liberation, Le Figaro, Le Monde]
[Data: Gross positions by asset class, flows, and total nominal implicit returns are available here.]

with Olivier Jeanne. Standard theoretical arguments tell us that countries with relatively little capital benefit from financial integration as foreign capital flows in and speeds up the process of convergence. We show in a calibrated neoclassical model that conventionally measured welfare gains from this type of convergence appear relatively limited for the typical emerging market country. The welfare gain from switching from financial autarky to perfect capital mobility is roughly equivalent to a 1% permanent increase in domestic consumption for the typical non-OECD country. This is negligible relative to the welfare gain from a take-off in domestic productivity of the magnitude observed in some of these countries. CEPR DP 3902, NBER WP 9684.

with Aaron Tornell. This paper proposes a new explanation for the foreign exchange forward-premium and delayed-overshooting puzzles. It shows that both puzzles arise from a systematic distortion in investors' beliefs about the interest rate process. Accordingly, the forward premium is always a biased predictor of future depreciation; the bias can be so severe as to lead to negative coefficients in the ‘Fama’ regression. Delayed overshooting may or may not occur depending upon the persistence of interest rate innovations and the degree of misperception. We document empirically the extent of this distortion using survey data for G-7 countries against the U.S. and find that it is strong enough to account for these irregularities.

This is a much revised version of Exchange Rates Dynamics, Learning and Misperception, also available as CEPR DP 3725, NBER WP 9391.

with Angus Deaton and Chris Paxson. This paper examines the consequences of social security reform for the inequality of consumption across individuals. The idea is that inequality is at least in part the result of individual risk in earnings or asset returns, the effects of which accumulate over time to increase inequality within groups of people as they age. Institutions such as social security, that share risk across individuals, will moderate the transmission of individual risk into inequality. We examine how different social security systems, with different degrees of risk sharing, affect consumption inequality. We do so within the framework of the permanent income hypothesis, and also using richer models of consumption that incorporate precautionary saving motives and borrowing restrictions. Our results indicate that systems in which there is less sharing of earnings risk such as systems of individual accounts produce higher consumption inequality both before and after retirement. However, differences across individuals in the rate of return on assets (including social security assets held in individual accounts) produce only modest additional effects on inequality. NBER WP 7570.

with Jonathan Parker. This paper estimates a structural model of optimal life-cycle consumption expenditures in the presence of realistic labor income uncertainty. We employ synthetic cohort techniques and Consumer Expenditure Survey data to construct average age-profiles of consumption and income over the working lives of typical households across different education and occupation groups. The model fits the profiles quite well. In addition to providing reasonable estimates of the discount rate and risk aversion, we find that consumer behavior changes strikingly over the lifecycle. Young consumers behave as buffer-stock agents. Around age 40, the typical household starts accumulating liquid assets for retirement and its behavior mimics more closely that of a certainty equivalent consumer. Our methodology provides a natural decomposition of saving and wealth into its precautionary and life-cycle components. CEPR DP 2345, NBER WP 7271.
[Data: Final inputs into the estimation program are here (this includes the income and consumption profiles of figures 2-4).]

with Jonathan Parker. One of the basic motives for saving is the accumulation of wealth to insure future welfare. Both introspection and extant research on consumption insurance find that people face substantial risks that they do not fairly pool. In theory, the consumption and wealth accumulation of price-taking households in an economy without complete markets differs substantially from the behavior of these same households in the equivalent economy with complete-markets. The question we address in this article is whether we find this difference to be large in practice. What is the empirical importance of precautionary saving? We provide a simple decomposition that characterizes the importance of precautionary saving in the U.S. economy.. We use this decomposition as an organizing framework to present four main findings: (a) the concavity of the consumption policy rule, (b) the importance of precautionary saving for life-cycle saving and wealth accumulation, (c) the contribution of changes in risk to fluctuations in aggregate consumption and (d) the significant impact of incomplete markets on aggregate fluctuations in calibrated general equilibrium models. We conclude with directions for future research. CEPR DP 2737, NBER WP 8107.

with Rodrigo Valdes and Oscar Landerretche. Many theories of external crisis put lending booms at the root of financial collapses. Yet lending booms may be a natural consequence of economic development and fluctuations. So are lending booms dangerous? In this paper, we investigate empirically this question using a broad sample of lending boom episodes over 40 years, with a special eye for Latin America. Our results indicate that lending booms are often associated with a domestic investment boom; an increase in domestic interest rates; a worsening of the current account; a declines in reserves; a real appreciation; a decline in output growth. `Typical' lending booms, however, do not increase substantially the vulnerability of the banking sector or the balance of payments. Comparing Latin America and the rest of the world, we find that Latin America lending booms make the economy considerably more volatile and vulnerable to financial and balance of payment crisis. CEPR DP 2811, NBER WP 8249.
[Data: data and programs available here. All the data is available in Gauss matrix format (extension *.fmt) and as ASCII file (extension *.ASC). See the Readme.txt file.]
[Media Coverage: NBER Digest, September 2001.]

This paper evaluates the impact of exchange rate fluctuations on inter- and intra-sectoral job reallocation. First, a vintage model of factor reallocation in a small open economy facing real exchange rate fluctuations is developed. Movements in the real exchange rates affect the profitability of production units, and the pattern of entry and exit. The model predicts a ‘bunching' of entry and exit around the peak of predictable appreciation episodes, as less productive firms are cleansed and newcomers adopt more efficient technologies. The paper then investigates empirically the pattern of job creation and destruction in response to real exchange rate movements in France between 1984 and 1992, using disaggregated firm level data. Traded-sector industries are very responsive to real exchange rate movements. In the benchmark estimation, a 1% appreciation of the real exchange rate destroys 0.95% of tradable jobs over the next two years. Further, job creation is more volatile than job destruction. The results indicate the importance of large unanticipated changes in the real exchange rate.

Currency fluctuations provide a substantial source of movements in relative prices that is largely exogenous to the firm. This paper evaluates empirically and theoretically the importance of exchange rate movements on job reallocation across and within sectors. The objective is (1) to provide accurate estimates of the impact of exchange rate fluctuations and (2) further our understanding of how reallocative shocks propagate through the economy. The empirical results indicate that exchange rates have a significant effect on gross and net job flows in the traded goods sector. Moreover, the paper finds that job creation and destruction co-move positively, following a real exchange rate shock. Appreciations are associated with additional turbulence, and depreciations with a 'chill'. The paper then argues that existing non-representative agent reallocation models have a hard time replicating the salient features of the data. The results indicate a strong tension between the positive co-movements of gross flows in response to reallocative disturbances and the negative co-movement in response to aggregate shocks. NBER WP 6864.
[Appendix: Here is the appendix to the paper. This appendix is included in the NBER working paper version, but not in the final printed version]

This paper analyzes the case for fiscal federal transfers in a Monetary Union. Looking at the labor market structure, it emphasizes the incentive effect of any federal transfer scheme insuring workers against bad draws. When the wage negotiation process occurs at the national level and the federal government has incomplete information on the bargaining process, workers have an incentive to ask ex-ante for higher wages. This may negatively affect the macroeconomic performance in the federation. The first best solution consists in shifting the wage bargaining process from the national to the federal level. Looking at the issue of fiscal federalism, however, the paper shows that it is always optimal to keep federal transfers. Moreover, decentralized policies are only effective when access to financial markets are imperfect.