XVI. Structure and Characteristics of the Capital and Financial Account (2024)

Coverage

313. The foreign financial assets of an economy consist of holdings of monetary gold, SDRs, and claims on nonresidents. The foreign liabilities of an economy consist of indebtedness to nonresidents.

314. To determine whether financial items constitute claims on, or liabilities to, nonresidents, the creditor and debtor must be identified as residents of different economies. The unit in which the claim or liability is denominated—whether the national currency, a foreign currency, or a unit such as the SDR—is not relevant. Furthermore, assets must represent actual claims that are legally in existence. The authorization, commitment, or extension of an unutilized line of credit or the incurrence of a contingent obligation does not establish such a claim, and the pledging or setting aside of an asset (as in a sinking fund) does not settle a claim or alter the ownership of the asset.

315. However, options and other financial derivatives are included among financial items, in accordance with the treatment of these items in the SNA. These instruments can be valued by reference to the market prices of the derivatives or to the market prices of the commitments underlying the derivatives. Thus, both parties to a derivative contract recognize a financial instrument; one party recognizes a liability and the other recognizes a claim. Alternatively, this value could be viewed as the amount that one party must pay to the other party in order to extinguish the contract. As a result, derivatives satisfy the definition (see paragraph 314) of foreign financial assets and liabilities. A full discussion of derivative instruments appears in Chapter 19.

316. The conventions stated in this Manual result in ownership of some nonfinancial assets being construed as ownership of financial assets (claims). The following specific cases are examples.

• The ownership of immovable assets, such as land and structures, is always attributed to residents of the economies in which the assets are located. (See paragraph 64.) Therefore, when the owner of such assets is a nonresident, he has, in effect, a financial claim on a resident entity that is considered the owner.

• An unincorporated enterprise operating in a different economy from the one in which the owner of the enterprise resides is considered a separate entity; that entity is a resident of the economy in which it operates rather than a resident of the economy of the owner. All nonfinancial as well as financial assets attributed to such an enterprise are regarded as foreign financial assets for the owner of the enterprise. (See paragraph 205.)

• Any goods transferred under a financial leasing arrangement are presumed to have changed ownership. This change in ownership is financed by a financial claim (i.e., an asset of the lessor and a liability of the lessee). At the time the imputed change in ownership occurs, the market value of the good is recorded under goods in the current account, and an offsetting entry is made in the financial account. In subsequent periods, the actual leasing payment must be divided into interest, which is recorded in the current account as investment income payable or receivable, and debt repayment, which is recorded in the financial account and reduces the value of the lessor’s asset and the lessee’s liability. The financial asset should be classified as a loan. (See paragraph 206.)

  See Also

  Current vs. Capital Accounts: What's the Difference?Legal CapitalCost of Capital: What It Is, Why It Matters, Formula, and ExampleBank Capital: Meaning and Classifications

Transactions in assets

317. Transactions in assets (specifically, changes of ownership, including the creation and liquidation of claims) most often reflect exchanges of economic values. Financial items may be exchanged for other financial items or for real resources. However, one party to a transaction may provide a financial item and not receive any economic value in exchange. The offset to this latter type of provision of an asset is a transfer.

318. To establish whether a transaction involving a foreign asset is a transaction between a resident and a nonresident, the compiler must know the identities of both parties. The information available on transferable claims constituting foreign assets may not, however, permit identification of the two parties to the transaction. That is, a compiler may not be able to ascertain whether a resident, who acquired or relinquished a transferable claim on a nonresident, conducted the transaction with another resident or with a nonresident, or whether a nonresident dealt with another nonresident or with a resident. Thus, a recommendation that the balance of payments be confined solely to asset transactions between residents and nonresidents would be difficult or impossible to implement. Also, the introduction, in this Manual, of a domestic sectoral breakdown for the portfolio investment and other investment components of the financial account makes it necessary to record certain transactions between resident sectors within the economy—although such transactions cancel each other for the total economy. As a result, recorded transactions may include not only those that involve assets and liabilities and take place between residents and nonresidents but also those that involve transferable assets of economies and take place between two residents and, to a lesser extent, transactions that take place between nonresidents. (See paragraph 334.)

319. Because the credit and debit entries for most components of the financial account are—according to the rules of this Manual (see paragraphs 324 through 327)—generally net, many transactions between residents and between nonresidents will offset each other and thus will not actually appear as entries in the balance of payments statement. The most prevalent types of transactions that do not cancel each other are, for assets, those transactions between resident creditors classified in different functional categories or domestic sectors. For liabilities, the identity of the nonresident creditor is a factor only in a few instances (for example, in differentiating between direct investment and other types of capital and in determining regional allocation).

320. Net recording can also result in a transaction between a resident and a nonresident being offset by a transaction between residents or by a transaction between nonresidents. For instance, a resident may acquire a claim against a nonresident and, during the same recording period, transfer the claim to another resident classified in a different sector. The first resident’s transaction with a nonresident is canceled by the same resident’s subsequent transaction with another resident (if the value of the claim does not change). So, in the balance of payments, only the increase in the second resident’s holdings, which are actually acquired through a transaction with the first resident, are recorded. The effect is the same as if the second resident dealt directly with the nonresident.

Reinvested earnings

321. The reinvested earnings of a direct investment enterprise (which accrue to a direct investor in proportion to participation in the equity of the enterprise) are recorded in the current account of the balance of payments as being paid to the direct investor as investment income-income on equity and in the financial account as being reinvested in the enterprise. Thus, these reinvested earnings increase the value of the stock of foreign assets of the direct investor’s economy. In a similar way, the distribution to direct investors of earnings (in the form of stock dividends) included in investment income-income on equity results in an increase, shown in the financial account, in the investors’ equity.

Borderline cases

322. In some cases, questions may arise as to whether transactions have taken place; for example—when the maturity of a debt instrument is extended (and thereby changed from a nominally short-term claim to a nominally long-term claim) or when a government takes over an obligation for liabilities incurred by the private sector and the sector of the domestic debtor is altered. As a change in the original terms of a contract requires the assent of both parties, the existing claim is considered to be satisfied by the creation of a new one. (That is, a pair of transactions between a resident and a nonresident has occurred.) Changes in contractual terms for existing assets are thus construed as constituting transactions to be included in the balance of payments statement.

323. Another borderline case arises when a transactor intends to dispose of a certain asset at virtually the same moment that ownership of the asset is acquired. (Examples are arbitrage and certain other dealings in financial assets.) The issue may be viewed two ways. (i) If two changes of asset ownership have occurred, any profit or loss could be regarded as the realization of a holding (capital) gain or loss and could be entered, like any other realization of a holding gain or loss, in the appropriate component of the financial account. (ii) If no change of ownership has effectively taken place, the profit or loss could be seen as a fee for a service. It is recommended that the treatment described in (i) be used because entries in the financial account may reflect, without regard to the fact that some items may have been owned only briefly, the holding gain or loss realized on the purchase and sale of financial items at different market prices.

Net recording

324. Two or more changes in a specific asset, or changes in two or more different assets classified in the same standard component, are consolidated in a single entry. This entry reflects the net effect of all the increases and decreases that occur during the recording period in holdings of that type of asset. For example, purchases (by nonresidents) of securities issued by resident enterprises of an economy are consolidated with sales (by nonresidents) of such securities, and the net change is recorded for that item. Net decreases in claims or other assets and net increases in liabilities are recorded as credits; net increases in assets and net decreases in liabilities are recorded as debits.

325. Net recording for standard components distinguished in the capital and financial account is specified partly because gross data for transactions often are not available. Changes derived from records showing amounts outstanding at the beginnings and ends of reporting periods, for example, always represent net changes. In addition, net recording generally is of more interest than gross recording, which would give added prominence to the transactions—between residents and between nonresidents—that are covered in the statement. Nonetheless, gross entries may be a relevant factor in analyzing aspects of the payments positions or financial markets (e.g., securities transactions) of economies, and such data can be utilized in supplementary presentations when appropriate.

326. For direct investment, particularly for reasons of analytic usefulness, it is suggested in this Manual that separate totals for liabilities to, and claims on, direct investors on the part of affiliated enterprises (and vice versa) be recorded for the appropriate components of direct investment (i.e., equity capital and other capital) in addition to the net figures for each.

327. In the totaling of net credits and debits for two or more separate components, the net approach is always favored. For instance, if equity securities and debt securities are combined to show a net figure for these two components, the net for each should be totaled—not net credits and debits separately.

Classification

328. The primary purpose of the classification of items in the financial account is to facilitate analysis by distinguishing categories that exhibit different patterns of behavior. Changes in financial items recorded in the balance of payments occur for a wide variety of reasons. Such changes may occur to settle actual imbalances or to deal with prospective imbalances; to influence or react to exchange rate movements; to make holding (capital) gains (or avoid losses) on past or future valuation changes, including those resulting from exchange rate changes; to take advantage of interest rate differentials; to establish, acquire, or expand enterprises; to obtain or provide additional real resources in connection with commercial and financial activities; and to diversify investments. In the collection of data, it is usually not feasible to inquire into the underlying causes and motivations for changes in holdings. However, behavior is also associated to a considerable degree with such attributes as type of asset and sector of holder. Characteristics of this kind are readily observable and can thus be used as a basis for developing a classification scheme.

329. In this Manual, several bases are utilized for classifying financial items; functional type; assets and liabilities; type of instrument; domestic sector; original contractual maturity; and, in the case of direct investment, direction of investment (i.e., inward or outward). The primary basis for the classification of components of the financial account is functional type. Further classification levels in these categories are based upon factors relating to general analytical usefulness and compatibility with other statistical systems. The components can, of course, be rearranged to meet specific analytic requirements and to include, when appropriate, subordinate and supplementary classification.

Functional types of investment

330. Four broad categories of investment, each of which is dealt with in a subsequent chapter, are distinguished.

Assets and liabilities

331. The distinction between assets and liabilities is always of interest. Even for financial intermediaries, which in effect borrow and relend abroad the same funds, the terms of the borrowing and lending are usually different. Thus, the two offsetting flows may have different implications for the balance of payments.

Type of instrument

332. For portfolio investment, the type of instrument is the primary classification (i.e., equity and debt securities). Debt securities are subdivded into bonds and notes, money market instruments, and financial derivatives. Although the sectoral subdivision for portfolio investment is secondary, there is no implication that, in certain instances, it may not be of equal interest to the compiling economy. The same holds true for other investment.

Domestic sector

333. For assets, the institutional sector of the domestic (resident) creditor and, for liabilities, that of the domestic debtor often are factors that influence transactions in financial items. The sectoring also improves links with the IMF and other statistical systems, including the SNA. This Manual distinguishes four sectors—monetary authorities, general government, banks, and other sectors8—for both portfolio investment and other investment.

334. Because the domestic creditor is always the owner of the asset, the creditor is invariably one party to any change of ownership of the asset. Therefore, for assets, sector attribution by creditor and by transactor coincide. A claim on a domestic debtor, however, may change ownership between a domestic creditor and a foreign creditor so that the domestic sector of the debtor may not coincide with that of the transactor. Nevertheless, the sector of the debtor is the one that determines the classification of the change of ownership that has occurred because the original nature of the liability is generally considered more significant than the identity of the present holder of the claim. However, in those instances in which the nonresident creditor or transactor may be of particular interest (e.g., in the context of international banking and external debt statistics), a supplementary breakdown by nonresident sector would be most useful for the compiling economy.

335. For determination of the domestic sector to which a transaction is attributed, guarantees and financial intermediation in which the intermediary is not actually the legal creditor or debtor are not taken into account. Although these aspects undoubtedly have an influence on the behavior of investment, they seem unlikely to constitute the main motivation of the financial flow in question. For instance, while the availability of government credit insurance could be a factor in the extension of a trade credit, the private exporter’s decision to undertake the underlying transaction in goods and to arrange the financing for it is presumably a more basic consideration. Government-insured trade credits are thus treated as private trade credits rather than as government lending.

Long- and short-term investment

336. For assets and liabilities in the category of other investment, this Manual retains the traditional distinction, which is based on the formal criterion of original contractual maturity, between long- and short-term investment. Long-term investment is defined as investment with an original contractual maturity of more than one year or with no stated maturity (e.g., equity securities). Short-term investment, which includes currency, is investment payable on demand or with an original contractual maturity of one year or less. These definitions are consistent with those in the SNA.

337. Although the traditional maturity distinction has been retained, it is widely recognized that innovations in financial markets (e.g., floating rate notes, rollovers, etc.) have diminished the usefulness of such a distinction for many purposes. In fact, a creditor and a debtor could, for example, have different views as to whether a particular instrument represents access to medium-term financing even though it is nominally a short-term instrument. Also, in many instances, original maturity may have no bearing on the length of time that an investment will be held. (Original maturity does appear to be one factor taken into account by investors and may tend to influence the behavior of the investment concerned.) In any event, the distinction is one that is still widely employed and can be applied without posing major problems of compilation. However, in the Manual and the SNA, maturity distinction is accorded lesser importance as a classification criterion.

338. Nonetheless, there are examples of the significance that continues to be assigned to the original maturity (e.g., for the analysis of external liabilities, particularly in relation to those of heavily indebted economies). In other instances, such as analyses of banks’ liquidity positions, a residual maturity basis may be appropriate and can be accommodated in supplementary disaggregations.

339. In the categories of direct investment, portfolio investment, and reserve assets, long- and short-term investment are not formally distinguished. For direct investment, such a distinction is not made because it is essentially determined by arbitrary enterprise decisions and because of the fact that there is no meaningful analytic distinction between the two maturities for intercompany flows. For portfolio investment and reserve assets, formal maturity is not likely to be a significant factor affecting the behavior of the components of the categories.