Ning Zhang (University of Glasgow) - Asset Home Bias in Debtor and Creditor Countries

Ning Zhang (University of Glasgow) - Asset Home Bias in Debtor and Creditor Countries

Abstract
A workhorse two-country portfolio model that embeds net foreign asset (NFA) imbalances rationalizes the following observation: debtor countries have on average a less diversified international portfolio than creditor countries. Abstracting from NFA imbalances, the model would feature a symmetrically home-biased portfolio in the two countries. The presence of NFA imbalances gives rise to a new hedging motive of net external positions that implies a short (long) position of both home and foreign assets in the debtor (creditor) country. Marginally, the debtor (creditor) country loses (gains) the NFA as a diversified portfolio on top of the initially symmetrically biased one, which leads to a stronger (weaker) home bias in the debtor (creditor) country. An extended model with both equity and bond assets also yield global two-way capital flows that are in consistent with the data. The theory helps understand the financial capital flows between the debtor developing and creditor developed countries over the last few decades of financial globalization, and receives empirical support.

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