A note on risk sharing versus instability in international financial integration: When Obstfeld meets Stiglitz

International risk sharing is one of the main arguments in favor of financial libera- lization. The pure risk sharing mechanism highlighted by Obstfeld (1994) implies that liberalization is growth enhancing for all countries as it allows the world port- folio to shift from safe low-yield capital to riskier high yield capital. This result is obtained under the assumption that the volatility figures for risky assets prevailing under autarky are not altered after liberalization. This note relaxes this assump- tion within the standard two-country model with intertemporal portfolio choices, formally incorporating the instability effect invoked by Stiglitz (2000). We show that putting together the pure risk sharing and instability effects in the latter set-up enriches the analysis and delivers predictions more consistent with the contrasted related empirical literature.