DP8593 | Interstate Risk Sharing in Germany:1970-2006

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We study the channels of interstate risk sharing in Germany for the time period 1970 to 2006, estimating the degrees of smoothing of a shock to a state?s gross domestic product by factor markets, the government sector, and credit markets, respectively. Within the government sector, we pay special attention to Germany's fiscal equalization mechanism. For pre-unification Germany, we find that about 19 percent of a shock is smoothed by private factor markets, 50 percent is smoothed by the German government sector, and a further 17 percent is smoothed through credit markets. For the postunification period, 1995 to 2006, the relative importance of the smoothing channels has changed. Factor markets contribute around 50.5 percent to consumption smoothing. The government sector?s role is diminished, but still economically significant: it smoothes around 10 percent of a shock