Page 130 - DECO503_INTERNATIONAL_TRADE_AND_FINANCE_ENGLISH

International Trade and Finance

Notes There is no repayment obligation attached to these transfers because they are not borrowings and
lendings but gifts and grants exchanged between government and people in one country with the
governments and peoples in the rest of the world.
Long-Term Capital Accounts
It includes the amount of capital that has moved into or out of the country in a year. Any capital that
has moved in or out of the country for a period of one year or more is regarded as long-term capital
movement. The long-term capital account includes the following categories :
Private direct investment : These investments are done by home country citizens and firms in foreign
countries (debit) and by foreigners in the home country (credit). This type of capital movement is
induced by differences in profit rate between the home country and the rest of the world.
Private portfolio investment : These investments are done by home country citizens and firms in
foreign securities or stocks or bonds or shares (debit) and by foreigners in home country securities,
stocks, bonds, shares, etc. (credit). This type of movement in and out of a country is induced by
differences in interest rate, dividends or rate of return on capital between the home country’s financial
assets and those of the foreign nations.
Government loans to foreign governments : These loans are given by home country’s government
(debit) and to the home government by foreign governments (credit).
If the foreign multinational corporations are investing heavily in our country, we receive capital
inflow in the form of direct private investment. It has a favourable effect on our BOP. But when the
foreign investors in our country start repatriating profits to their home country, there will be a capital
outflow from our country to foreign countries. This goes into our service account as investment
income outflow or capital service (debit). When the home country lends out long term capital to
foreign countries, we experience capital outflow and hence a debit on our long-term capital account.
But when we begin to receive reverse flow in the form of interest on lent out capital or profit on
overseas investment the amount will be credited in our BOP as investment income receipt in service
account. Capital lending countries would experience deficits on long-term capital account : and capital
borrowing countries, like the LDCs, experience surpluses in their long-term capital account.
It is important to note that the long-term capital account includes new capital flows into and out of the
country; the capital services item in the service account would include the amount of foreign receipts
and payments on the cumulative total of past long-term capital investments. It is, therefore, possible
for a creditor nation that is investing heavily overseas (like the USA) to incur debit or deficits in long-
term capital account in the current year while at the same time running capital service item credits or
surpluses in service account of equal or even larger magnitude than capital account outflows. A
borrowing country, on the other hand receiving credits at present and therefore enjoying surpluses
on long-term capital account must soon expect to lose a sizable sum as capital service obligations
and, therefore, be ready to suffer deficits on service account. LDCs often experience investment income
outflows (capital service account debits) exceeding new long-term capital inflows. The United States,
a mature creditor country, regularly earns more from its past investments than it ‘loses’ in the form of
new capital investment outflow. In this sense it is necessary to note that the long-term capital account
bears a special relationship to one of the items (investment income item) in the Service Account.
Short-Term Capital Account

The fifth main account in the BOP, is the Short Term Capital Account. Bank deposits and other short
term payments and credit arrangements fall into this category. Short term capital items fall due on
demand or in less than one year, as opposed to long-term capital flows which have maturity after one
year or thereafter. The vast majority of short term capital transactions basically represents bank
transfers that finance trade and commerce. It is interesting to note that when Malaysian exporter
exports rubber worth $5 million to an importer in the United States, it generates a credit of $5 million
to the Malaysian merchandise account; but if the US importer pays this sum of $5 million into the

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