What are the forces behind capital flows across countries?

Expert Solution

The flow of capital between nations is majorly a function of the relative interest rates prevailing. Investors observe the interest rate on various assets denominated in different currencies. They look for the assets against which they can earn a significant rate of return and this is influenced by the rate of interest being provided on assets denominated in different currencies.

There are some other factors as well including the legal environment in the destination country, capital mobility, taxes and other regulations in the nation, policies of the government towards the foreign investors, macroeconomic environment of the nation, etc.

Countries where economic policies are not conducive, and the legal environment is weak, capital flow is generally sluggish. As against it, countries that provide significant tax reliefs, strict legal environment and enforcement of laws, are able to attract more capital from foreign investors.

Rahul Sunny answered 1 year ago

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