Balance of payments issues - Theme 4

Components of the balance of payments:

Capital account - records payments for purchase of goods, services, investment income and current transfers.

Capital and financial accounts is where flows of money assosciated with saving, investment, speculation and currency stabilisation are recorded.

Capital account - largest transfer recorded are those of immigrants and emigrants bringing or taking financial capital.

Financial account - FDI (flows of money to purchase a controlling interest in a foreign firm) and  Foreign Portfolio Investment ( speculative movement of money between countries as exchange rates and interest rates change.

Reasons for international capital flows:

• Speculators looking for quick profits. Trying to spot which currency will appreciate and which will fall in value.
• Capital flows are an essential part of the finance of trade.
• Banks in one country are finding it increasingly profitable to lend to economic agents in another country on a short-term.
• FDI occurs because a firm in one country can see that it can make profit by investing in the longer term in a firm in another country.
• Portfolio investment may occur for same reasons as FDI ir may be more speculative in motivation.

Advantages of capital flows:

• Facilitates growth in world trade.
• Provides capital for firms that would otherwise not be able to secure finance within their own country.
• FDI leads to transfer of technology and information between countries.

Disadvantages of capital flows:

• 2007-2008 finanical crisis showed how vulnerable the world's financial system were.
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