Risk sharing from international factor income: Explaining cross-country differences

Access to world capital markets and net investment income flows between countries help protect national income from country-specific output shocks. I empirically study what factors explain cross-country differences in the extent of risk sharing from international factor income. An index of investor protection is the leading causal variable for the estimated amount of risk sharing over the 1985 to 2004 period. Improving investor protection in Russia to Denmark's level implies five times larger risk sharing compared to the sample average. These results indicate one possible way to reap large potential benefits from international risk sharing.