International risk sharing and capital mobility

Under certain assumptions, Pareto-efficient risk sharing implies that changes in consumption across nations will be perfectly correlated. This result leads to an indicator of the welfare loss due to imperfect sharing of consumption risks across nations. This indicator is used to evaluate the welfare implications of restrictions on various components of the international capital flow, holding constant other components of the flow and domestic investment. We find that variability in national consumption growth rates would have been considerably greater if capital flows had been restricted, and that welfare would have been reduced significantly.