Capital flow (trade)

The flow of capital are the movements of money for investment purposes to and from other countries.

This definition is related to the balance of payments , where the operations of a country with the rest of the world are recorded. It is understood that the flow of capital contemplates the inflows and outflows of money from an economy.

In the flow of capital investments they include different kinds, such as participation in markets equity and income fixed . In general, the definition is not absolute and what is considered investment varies with the evolution of the complexity of financial operations. Similarly, definitions may vary between states. However, you can list some elements that make it up:

  • Directinvestment: These are investments made by a foreigner that allows him to take control or great influence over a national company.
  • Portfolioinvestment: These are investments made in the bond and stock market other than direct investment.
  • Other investments: These are the other investments that cannot be classified in the previous categories or in the reserves.
  • Reservations: International reservations of countries are also included.

Capital flow and depreciation

The flow of capital impacts the value of the currencies. This occurs because investors will move their investments towards economies with better returns . Taking into account the risk associated with said economy.

For example, consider the countries Alpha and Omega. The currency that circulates in Alfa is the dollar and in Omega the peso. Assume that the returns, affected by the risk rate, are higher in Alfa. The capitals will move towards Alfa in search of better returns, causing the dollar to appreciate. This happens because investors with pesos will have to demand dollars to be able to invest in Alfa. Also, if these are the only two countries, as a counterpart, the weight of Omega will depreciate due to the lower demand for pesos. In this way, the interest rate becomes a mechanism to attract foreign investors to foster economic growth.

Other factors that influence the flow of capital

There are elements that affect the flow of capital, both negatively and between countries. Some of those elements are:

  • Technology:The flow of capital increases as the barriers that contain it are released or reduced. Prior to the internet there was an infrastructure barrier to mobilize money internationally. With technological improvement and the reduction of economic barriers, capital flows more rapidly across borders.
  • Country risk:Economic and political stability are determinants in the flow of capital. This situation creates certainty for investors, who will be motivated to invest in a country with these characteristics. Few investors will be encouraged to invest in countries in economic crises or institutional problems. This, despite the high yields they can obtain.

Leave a Comment