What We Are Missing in the Analysis of Intranational Consumption Risk Sharing: Empirical Evidence from South Korea

Abstract

Purpose - This study theoretically points out that when measuring the degree of intranational consumption risk sharing, the cross-sectional variance decomposition method developed by Asdrubali, Sørensen and Yosha (1996) can result in biased estimates. This occurs because the method does not classify money flows for risk sharing into intranational and international categories. To overcome these limitations, the study proposes the use of Asdrubali and Kim So-Young’s (2011) method. Design/methodology - This study investigates, first, that analyzing intranational consumption risk sharing based on the variance decomposition method will inevitably produce biased estimation. Second, it examines how Asdrubali and Kim So-Young’s (2011) method estimates the effects of risk sharing by separating the domestic sources of money from overseas ones. As empirical evidence for these theoretical discussions, a comparative analysis is performed by using both methodologies to estimate South Korea’s intranational and international consumption risk sharing. Findings - The empirical results confirm that the variance decomposition method produced a biased estimation of the degree of intranational consumption risk sharing. Specifically, in South Korea, the degree of consumption risk sharing via capital and credit markets was overestimated, and that via the tax-transfer system was underestimated. The results also prove that Asdrubali and Kim So-Young’s (2011) method is effective not only in reducing the bias of the estimation results but also in measuring the degree of international consumption risk sharing for individual countries. Originality/value - Despite numerous studies that have capitalized on the variance decomposition method, little scholarly attention has been paid to the occurrence of bias in the method. Hence, this study makes a noteworthy academic contribution by addressing this under-researched area. Additionally, it stands out as the first of its kind to pioneer the utilization of Asdrubali and Kim So- Young’s (2011) method, offering a groundbreaking analysis of intranational and international consumption risk sharing.