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Risk Sharing and Industrial Specialization: Regional and International EvidenceBy Bent Sorensen, Sebnem Kalemli-Ozcan, & Oved Yosha |
Abstract We provide empirical evidence that risk sharing enhances specialization in production.
To the best of our knowledge, this well-established and important theoretical proposition
has not been tested before. Our empirical procedure is summarized as follows. First, we
construct a measure of specialization in production, and calculate an index of
specialization for each of the European Community (EC) and non-EC OECD countries, U.S.
states, Canadian provinces, Japanese prefectures, Latin American countries, and regions of
Italy, Spain, and the United Kingdom. Then, we estimate the degree of capital market
integration (a measure of risk sharing) within each of these groups of regions: the EC
countries, the non-EC OECD countries, the United States, Canada, Japan, Italy, Spain, and
the United Kingdom (and rely on another author's estimate for Latin America). Finally, we
perform a regression of the specialization index on the degree of risk sharing,
controlling for relevant economic variables. We find a positive and significant relation
between the degree of specialization of individual members of a group of countries,
provinces, states, or prefectures, and the amount of risk that is shared within the group.
We perform regressions using variables such as shareholder rights and the size of the
financial sector (relative to GDP) as instruments for the amount of inter-regional risk
sharing. These regressions confirm that risk sharing--facilitated by a favorable legal
environment and a developed financial system--is a direct causal determinant of industrial
specialization.
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