Question

4. How would the following transactions affect your country's net capital outflow? Also, state whether each involves direct investment or portfolio investment. a. A local mobile phone company establishes an office in the Czech Republic. b. Harrod's of London sells shares to a pension fund in your country. c. The Swedish car company, Volvo, expands its factory in your country. d. A local mutual fund sells its Volkswagen shares to a French investor.
10. A can of iced tea costs 1 ringgit in Malaysia and 10 baht in Thailand. What would the baht-ringgit exchange rate be if purchasing- power parity holds? If a monetary expansion caused all prices in Thailand to double, so that iced tea rose to 20 baht per can, what would happen to the baht-ringgit exchange rate?

Answer 1

The Net capital outflow represents the net flow of funds invested abroad by a country during a certain period of time. A direct investment refers to those investments in a foreign nation where the ownership of business in one country is owned by an entity in another country. It includes mergers and acquisitions, building new facilities, reinvesting profits earned from overseas operations and intra company loans. A portfolio investment includes the investment of group of assets including enquiry transactions, securities such as stock and debt, bonds and debentures.

a)The case (a ) represents a direct investment since an office is being established. Here, since a company is being established by my country in a foreign destination, the net capital flow is advantageous to my country as the net income is expected to route back in to the current economy rather than the foreign economy. Thus a direct investment and a positive net outflow may be the result.

b) The sales of a share represents a portfolio investment. Here, a direct control is invisible. Since the company is selling its shares to the pension fund, it means that the pension funds are not having much returns a and hence the capital outflow is positive for the nation under consideration and negative for my country as the benefits of these shares are expected to go out of the nation.

c) This is an example of direct investment. Here the Swedish firm is expanding its industry in my country and hence the purchase of land and other requirements flow reaches my nation and the net income goes to the Swiss firm. Thus, the net capital outflow would be advantageous to the foreign destination.

d) Here, it represents a portfolio investment made by my country in a foreign investing company. Here, the mutual fund is now being owned by the French investor and thus the profits are expected to flow out of the nation and hence would be advantageous to the foreign destination.