The Home Bias of the Poor: Terms of Trade Effects and and Portfolios across the Wealth Distribution
Title: The Home Bias of the Poor: Terms of Trade Effects and and Portfolios across the Wealth Distribution
Author: BROER, Tobias
Publisher: European University Institute
Series/Report no.: EUI ECO; 2008/28
Wealthier people generally hold a larger part of their savings in risky assets. Using the US Survey of Consumer Finances, I show that wealthier households also have a higher portfolio share of foreign assets. This relative home bias of the poor does not seem to be explained by xed participation costs alone, as the portfolio share of foreign assets increases with nan- cial wealth even among participants in foreign asset markets. This paper shows how both biases of poorer agents' portfolios, towards safe and home assets, can arise in a simple 2 country economy with income and port- folio heterogeneity. Poor investors are naturally biased against domestic equity when wages and capital returns are positively correlated, making equity a bad hedge against uctuations in labour income relative to bonds. Moreover poor investors prefer home to foreign bonds if equilibrium terms of trade movements systematically lead to a fall in the purchasing power of domestic assets in periods of high wages. I show that this is likely to be the case if aggregate supply shocks at home are more important than abroad. Finally, the model shows that aggregate home bias in the country portfolio implies relative home bias of the poor and vice versa.
Subject: F36; G11; E21; D11; D31; Heterogeneous Agents; Home Bias; Inequality; International Asset Diversification; Portfolio Choice
Type of Access: openAccess