Beyond Home Bias: Heterogeneity in Foreign Holdings and Information Sets

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This paper investigates whether information frictions and the accuracy with which banks can forecast future growth in foreign countries can explain the heterogeneity in sovereign portfolios. First, using data from the European Banking Authority (EBA), we document that banks' sovereign portfolios are 'sparse', i.e. they invest only in a few countries, especially among small banks. Next we propose a general equilibrium model of information frictions to rationalize these stylized facts. The model implies that the heterogeneity in portfolios arises because of heterogeneity in the information banks possess about the different countries in which they could invest. Finally, we empirically test the key predictions of the model by matching the EBA portfolio data with forecasts from Consensus Economics.

Author(s):

Rosen Valchev    
Boston College
United States

Filippo De Marco    
Bocconi University
Italy

Marco Macchiavelli    
Federal Reserve, Board of Governors
United States