Capital Movements Role

In traditional economic capital movements were treated merely as international balancing items in a country’s balance of trade. It was held that a creditor country having a surplus in its current account in order to balance out its total payments account will invest or lend capital to deficit or debtor countries. Apparently, debtor countries with deficit in currency account will borrow from the surplus countries in order to even out their balance of payments. Consequent upon foreign capital movements, thus a credit in current account of a surplus country, there will be a corresponding lender position or its capital account, while to a deficit country there will be a corresponding borrower posit on its capital account.

Modern economists, however, are of the view that capital movements are much more than merely balancing items. In reality, all international capital movements are not dependent upon the balance of payments deficit and surpluses. A significant portion of capital flow may also be independent of the balance of trade position which in face is based on the judgments, financial decisions and discretions of lenders and borrowers in the international money markets. Where a country has a surplus in its current account, there will be an outflow of capital funds to deficit countries, hence its holdings of short term capital and its foreign and banking reserves will be depleted, while a deficit country will find an improvement in these holdings on account of the inflow of capital.

Again, if a country has invested its capital abroad, it receives income in the form of interest dividends etc. which can be profitably used to finance its current deficits, which thus hello in balancing its balance of payments account. 

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