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# Capital account

In macroeconomics and international finance, the capital account is one of two primary components of the balance of payments, the other being the current account. Whereas the current account reflects a nation's net income, the capital account reflects net change in ownership of national assets.

A surplus in the capital account means money is flowing into the country, but unlike a surplus in the current account, the inbound flows effectively represent borrowings or sales of assets rather than payment for work. A deficit in the capital account means money is flowing out of the country, and it suggests the nation is increasing its ownership of foreign assets.

The term "capital account" is used with a narrower meaning by the International Monetary Fund (IMF) and affiliated sources. The IMF splits what the rest of the world calls the capital account into two top-level divisions: financial account and capital account, with by far the bulk of the transactions being recorded in its financial account.

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### International Monetary Fund

The above definition is the one most widely used in economic literature,[10] in the financial press, by corporate and government analysts (except when they are reporting to the IMF), and by the World Bank. In contrast, what the rest of the world calls the capital account is labelled the "financial account" by the International Monetary Fund (IMF), by the Organisation for Economic Co-operation and Development (OECD), and by the United Nations System of National Accounts (SNA). In the IMF's definition, the capital account represents a small subset of what the standard definition designates the capital account, largely comprising transfers.[11][12][13] Transfers are one-way flows, such as gifts, as opposed to commercial exchanges (i.e., buying/selling and barter). The largest type of transfer between nations is typically foreign aid, but that is mostly recorded in the current account. An exception is debt forgiveness, which in a sense is the transfer of ownership of an asset. When a country receives significant debt forgiveness, that will typically comprise the bulk of its overall IMF capital account entry for that year.

The IMF's capital account does include some non-transfer flows, which are sales involving non-financial and non-produced assets—for example, natural resources like land, leases and licenses, and marketing assets such as brands—but the sums involved are typically very small, as most movement in these items occurs when both seller and buyer are of the same nationality.

Transfers apart from debt forgiveness recorded in the IMF's capital account include the transfer of goods and financial assets by migrants leaving or entering a country, the transfer of ownership on fixed assets, the transfer of funds received to the sale or acquisition of fixed assets, gift and inheritance taxes, death levies, and uninsured damage to fixed assets.[12][13] In a non-IMF representation, these items might be grouped in the "other" subtotal of the capital account. They typically amount to a very small amount in comparison to loans and flows into and out of short-term bank accounts.

## Capital controls

Capital controls are measures imposed by a state's government aimed at managing capital account transactions. They include outright prohibitions against some or all capital account transactions, transaction taxes on the international sale of specific financial assets, or caps on the size of international sales and purchases of specific financial assets. While usually aimed at the financial sector, controls can affect ordinary citizens, for example in the 1960s British families were at one point restricted from taking more than £50 with them out of the country for their foreign holidays.[6] Countries without capital controls that limit the buying and selling of their currency at market rates are said to have full capital account convertibility.

Following the Bretton Woods agreement established at the close of World War II, most nations put in place capital controls to prevent large flows either into or out of their capital account. John Maynard Keynes, one of the architects of the Bretton Woods system, considered capital controls to be a permanent part of the global economy.[14] Both advanced and emerging nations adopted controls; in basic theory it may be supposed that large inbound investments will speed an emerging economy's development, but empirical evidence suggests this does not reliably occur, and in fact large capital inflows can hurt a nation's economic development by causing its currency to appreciate, by contributing to inflation, and by causing an unsustainable "bubble" of economic activity that often precedes financial crisis. The inflows sharply reverse once capital flight takes places after the crisis occurs.[13][15][16] As part of the displacement of Keynesianism in favor of free market orientated policies, countries began abolishing their capital controls, starting between 1973–74 with the US, Canada, Germany and Switzerland and followed by Great Britain in 1979.[17] Most other advanced and emerging economies followed, chiefly in the 1980s and early 1990s.[15]

An exception to this trend was Malaysia, which in 1998 imposed capital controls in the wake of the 1997 Asian Financial Crisis.[18] While most Asian economies didn't impose controls, after the 1997 crises they ceased to be net importers of capital and became net exporters instead.[6] Large inbound flows were directed "uphill" from emerging economies to the US and other developed nations.[6][16] According to economist C. Fred Bergsten the large inbound flow into the US was one of the causes of the financial crisis of 2007-2008.[19] By the second half of 2009, low interest rates and other aspects of the government led response to the global crises had resulted in increased movement of capital back towards emerging economies.[20] In November 2009 the Financial Times reported several emerging economies such as Brazil and India have begun to implement or at least signal the possible adoption of capital controls to reduce the flow of foreign capital into their economies.[18]

## Notes and references

1. ^ a b c Sloman, John (2004). Economics. Penguin. pp. 556–58.
2. ^ a b Orlin, Crabbe (1996). International Financial Markets (3rd ed.). Prentice Hall. pp. 430–42. ISBN 0-13-206988-1.
3. ^ Wilmott, Paul (2007). "1". Paul Wilmott Introduces Quantitative Finance. Wiley. ISBN 0-470-31958-5.
4. ^ By the law of supply and demand, reducing the supply of currency available by buying up large quantities on the forex markets tends to raise the price.
5. ^ Izabella Kaminska (2013-09-04). "Beware the EM central bank FX swap trend". The Financial Times. Retrieved 2013-09-09.
6. Wolf, Martin (2009). "passim, esp chp 3". Fixing Global Finance. Yale University Press.
7. ^ However, in late 2011 China also had periods when it was selling foreign reserves to prevent depreciation, this was due to surges of funds leaving the country through the private sector component of the capital account.
8. ^ Sweta C. Saxena; Kar-yiu Wong (1999-01-02). "Currency Crises and Capital Controls: A Selective Survey" (PDF). University of Washington. Retrieved 2009-12-16.
9. ^ J. Onno de Beaufort Wijnholds and Lars Søndergaard (2007-09-16). "RESERVE ACCUMULATION - Objective or by-product?" (PDF). ECB. Retrieved 2009-12-16.
10. ^ Though with a few exceptions, e.g. International economics by Krugman and Obstfeld which uses the IMF definition in at least its 5th edition.
11. ^ Colin Danby. "Balance of Payments: Categories and Definitions". University of Washington. Retrieved 2009-12-11.
12. ^ a b "Balance of Payments and International investment position manual, Chs.5,13" (PDF). International Monetary Fund. 2008-12-12. Retrieved 2009-12-11.
13. ^ a b c Heakal, Reem. "Understanding Capital And Financial Accounts In The Balance Of Payments". Investopedia. Retrieved 2009-12-11.
14. ^ Dani Rodrik (2010-05-11). "Greek Lessons for the World Economy". Project Syndicate. Retrieved 2010-05-19.
15. ^ a b Ravenhill, John (2005). Global Political Economy. Oxford University Press. pp. 185, 198.
16. ^ a b Eswar S. Prasad; Raghuram G. Rajan; Arvind Subramanian (2007-04-16). "Foreign Capital and Economic Growth" (PDF). Peterson Institute. Retrieved 2009-12-15.
17. ^ Roberts, Richard (1999). Inside International Finance. Orion. p. 25. ISBN 0-7528-2070-2.
18. ^ a b A Beattie; K Brown; P Garnham; J Wheatley; S Jung-a; J Lau (2009-11-19). "Worried nations try to cool hot money". The Financial Times. Retrieved 2009-12-15.
19. ^ C. Fred Bergsten (Nov 2009). "The Dollar and the Deficits". Foreign Affairs. Retrieved 2009-12-15.
20. ^ Arvind Subramanian (2009-11-18). "Time For Coordinated Capital Account Controls?". The Baseline Scenario. Retrieved 2009-12-15.