As the various countries in world interact with each other through the means of exchange of goods and services, it gives rise to an exchange of monetary units between them which is better known as capital flows homework answers. The various transactions between the countries are recorded with the help of the Current and Capital accounts of the respective countries.
Getting to the core of this subject:
What is the Balance of Payments Method?
To assess the transactions undertaken by a country with foreign countries the method of Balance of Payments (BOP) is used. The Balance of Payments method monitors the outflow and inflow of economic benefits of a country. In the theoretical sense, the balance of payments of a country should be zero, as the inflow and outflow of economic benefits in a particular year should be the same. But in practice, this is hardly ever the case.
The BOP of a country is calculated for every 3 months and then at the end of each financial year. A deficit or surplus in the BOP represents the financial position of the country in terms of ownership of assets. It is the summarization of the various capital flows homework answers.
What are the components of BOP method?
The components of the BOP method have been described in detail below:
- Current Account
The Current Account shows the inflow and outflow of goods and services between residents and non-residents. They comprise of the primary and secondary income of such residents. The primary income of the residents of a country represents the amount receivable or payable abroad for the exchange of goods, performance of services, acquisition or purchase of capital resources.
The secondary income of the residents refers to the transfer of monetary benefits from one country to another. In this type of current transfers the cash and cash equivalents or simply any form of financial resources are transferred between residents and non-residents.
The financial resources so transferred are consumed within a short period of time, without the exchange of any commodity having economic value. This account primarily records the imports and exports of a country.
- Capital Account
The Capital Account in a BOP method represents the recording and summarization of the Capital Flows which arise from the trade relation between various countries. The transactions referred to the acquisition of assets like land, buildings, natural resources or the purchase of goodwill, trademarks, patents, brands, inheritance of capital assets, writing off long term debts among other similar transactions.
- Financial Account
The Financial Account records the inflow and outflow of monetary transactions that residents and non-residents undertake in the form of income from investments, real estate, share markets, bonds and other financial resources. They represent the assets owned by the residents and on-residents in other countries.
What is capital flows?
The capital flows homework answers comprise of the inflow and outflow of cash and cash equivalents from one country to another. As the residents and non-residents of one country interact with another country for the exchange of goods and services, it results in the flow of monetary benefits between them. This flow of monetary benefits is known as Capital Flows.
In simple terms, the import and export of goods and services give rise to the Capital Flows. These imports and exports influence the demand and supply curves of the countries which in turn affect the capital flows homework answers.
Capital flows represent the total capital investment by a country in another country. They help economists evaluate the infrastructure and indicators of the economic health of the country. A positive Capital Flow shows that a large amount of investments have taken place in the country from foreign sources which are greater than the domestic investments made into foreign sources.
While a negative capital flows homework, answers represent the excess of foreign investment than the investment done in the domestic country from foreign sources.
What are the different types of capital flows?
The Capital Flows can be described into different types. Some of them have been listed below:
- Foreign Investment
Investment refers to the act of the lending of one’s financial resources to another company or holding in return of interest. Foreign Investment can be divided into two types of investment-
- Foreign Direct Investment
In this type of investment, a foreign company sets up operations in another country for the purpose of exchange of goods and services. Foreign Direct Investment involves the total control over the operations of the company while operating in a foreign country.
They enjoy total voting power over the handling of the operations of the company. Such an investment cannot be easily liquefied in times of financial crisis. This is a major source of capital flows homework answers.
- Foreign Portfolio Investment
In this type of investment, the investors have a certain percentage of the holding of the company and not the total control over the operations of the company. The investors enjoy a return on such an investment in the form of dividends. The investments comprise of stock and equity investments.
- Trade Flows
The purchase of goods and services from another country by payment of cash and cash equivalents (import) results in the outflow of funds. When goods and services are sold to another country, they result in inflow of funds. This outflow and inflow of funds are cumulatively called Trade Flows. They are an important part of capital flows.
- External Commercial Borrowings and External Assistance
External Commercial Borrowings refer to loans or undertakings from foreign or international banks and financial institutions. Such loans are taken by private individuals or companies where the interest rate is higher and the maturity period is longer.
External Assistance is commonly extended by foreign governments in times of calamity or a crisis in the domestic country. The interest rate is lower and maturity period is longer.
- Financial Derivatives
Financial Derivatives include financial instruments or commodities which are linked to various particular trading risks which can be traded in different markets and sectors. Financial Derivatives include option type contracts or forward type contracts like forwarding rate contract, foreign exchange contracts among others. They consist of the various instruments used by private individuals to take part in the uptrends and down trends of the market. Financial Derivatives are an essential part of capital flows.
Solving outflow and inflow of Capital Flows
The outflow of capital flows homework answers represents the total outflow of investments from the domestic country to a foreign country. Such investment can be in the form of acquisition of assets, financial resources or infrastructure. When the outflow of Capital Flows is positive, it represents that the residents of the domestic country are investing more in foreign assets while the residents of the foreign country are investing lesser in our assets.
The inflow of Capital Flows represents total inflow of investments from the foreign country to the domestic country. When the inflow of Capital Flows is positive, it represents that the inflow of foreign investment is higher than the outflow of investments by domestic residents in foreign resources.
The accumulation of such inflows and outflows of Capital Flows result in capital flows.