International capital flows – Business Integrals

Capital Flows

Balance of Payments

A nation’s balance of payments comprises the current account and capital account.

The current account represents the net income / flow of money (like a P&L)
The capital account represents changes in assets and liabilities (like a balance sheet)

The Current Account balance and Capital Account balance offset each other
i.e. CAB = – KAB

Capital Flows

Current Account

Net income (short-term)

Trade balance (exports less imports)
Overseas income from work and investments
Income from overseas governments less taxes
Aid

Capital & Financial Account

Net investment and financing

Asset transfers (for no consideration)
FDI (buying assets)
Portfolio investment (buying shares)
Derivatives (risk rather than money)
RBA reserve assets
Trade credit
Inter-bank transactions

Current Account and Savings/Investment

In a closed economy, S = I
In an economy open to world trade, net capital inflows make up the difference
If the trade balance (exports less imports) is positive, i.e. surplus, the country is a net lender (financing needed to overseas buyers) so there are net capital outflows.