Notes for 4.6.5 Relationship between the financial account and the exchange rate (HL only) - IB | RevisionDojo
4.6.5 Relationship between the financial account and the exchange rate (HL only) Notes
Definition
Financial Account
The financial account is the sum of foreign direct investment (FDI), portfolio investment, reserve assets and official borrowing.
The financial account is closelylinked to the exchangerate.
Financial Account Surplus and Currency Appreciation
Recall, a financial account surplus occurs when the inflow of financialcapitalexceeds the outflow of financial capital.
The additional or excess credits directly causes an increase in domestic currency demand.
Therefore, the domestic currency appreciates.
Financial Account Deficit and Currency Depreciation
Similarly, financial account deficit occurs when the outflow of financialcapitalexceeds the inflow of financial capital.
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Questions
Recap questions
1 of 5
Question 1
Recap question
Investors begin to expect a future depreciation of the domestic currency. How does this expectation itself trigger a current exchange rate change?
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Note
The financial account is a crucial component of a country's balance of payments that records all financial transactions between residents and non-residents. These transactions include:
Foreign Direct Investment (FDI): Long-term investments where foreign entities acquire significant ownership or control in domestic businesses.
Portfolio Investment: Investments in financial assets like stocks and bonds that do not confer control.
Reserve Assets: Official reserves held by the central bank, including foreign currencies and gold.
Other Investments: Loans, deposits, and other financial transactions.
DefinitionFinancial AccountThe financial account is the sum of foreign direct investment (FDI), portfolio investment, reserve assets and official borrowing.
AnalogyThink of the financial account as a bank statement that tracks all the money flowing in and out of a country's financial system, similar to how you track your own investments and savings.
