Question

What economic transactions give rise to the receipt of dollars from foreigners? What transactions give rise to payments to foreigners?

Short answer

Receipt of dollars from foreigners often comes from exports, investment income from abroad, foreign direct investment in our country, and remittances from citizens working abroad. Payments to foreigners often happen when we are importing goods and services, paying investment income to foreign investors, investing in foreign countries, and sending remittances to citizens living domestically from foreign workplaces.

Step-by-step solution

Transactions Earning Dollars from Foreigners

Economic transactions that may earn an individual, a company, or a country, dollars from foreigners could include exports of goods and services, investment income received from abroad (like dividends or profits from companies owned partly or completely by domestic entities), foreign direct investment (where foreign entities invest in the domestic market), and remittances from citizens working abroad.

Transactions Causing Payments to Foreigners

Economic transactions that often cause payments to foreigners include import of goods and services (when a domestic entity buys products or services from a foreign entity), investment income payments to foreigners (when domestic companies pay dividends or profits to foreign investors), foreign direct investments in other countries (when a domestic entity invests money in a foreign country), and remittances to citizens living domestically from foreign workplaces.

Key concepts

Exports and Imports

Exports and imports are fundamental components of international trade. When a country exports goods and services, it sells them to buyers in other countries. This transaction results in an inflow of foreign currency, typically in the form of dollars, to the exporting country.

In contrast, imports occur when a country buys goods and services from abroad. This leads to an outflow of currency, as the buying country pays the foreign entity.

It is important for countries to balance their exports and imports to maintain a healthy economy. A surplus in exports over imports can result in a positive trade balance, bringing more financial resources into the country. On the other hand, excessive imports can lead to a trade deficit, which might require external borrowing to finance the gap.

• Export Example: If the United States sells aircraft to a European country, it receives payments in dollars.
• Import Example: If the US buys electronics from Japan, it pays in dollars.

Foreign Direct Investment

Foreign direct investment (FDI) involves a long-term investment by a foreign entity into the economy of another country. This can be in the form of setting up a business, acquiring assets, or expanding operations in the host country.

FDI brings capital, technology, and management knowledge, which can boost the economic growth of the receiving country. It typically involves significant control and influence by the investor over the company in which they are investing.

When foreigners invest in the domestic market, it results in an inflow of capital, represented by dollars. Conversely, when domestic firms invest abroad, it results in an outflow of dollars.

• Incoming FDI Example: A European car manufacturer establishes a factory in the US, bringing in capital in dollars.
• Outgoing FDI Example: A US-based tech company builds a branch in India, resulting in a dollar outflow from the US.

Remittances

Remittances are funds transferred by expatriates back to their home country. These payments often support families and contribute significantly to the income of many developing nations.

When citizens work abroad and send money back home, it results in an inflow of foreign currency, often in dollars, to their home country.

These transactions provide a critical source of income for families in the recipient country, fostering financial stability and economic activity.

• Example: An engineer working in the US sends a portion of their salary back to their family in the Philippines, resulting in dollar inflow into the Philippines.

Investment Income

Investment income refers to the earnings from owning investments such as stocks, bonds, or real estate. This can include dividends from shares, interest payments from bonds, or rental income from property.

When domestic investors earn income from foreign investments, this results in a receipt of dollars. On the flipside, when foreign investors earn returns on investments in the domestic economy, it leads to a payment of dollars to these investors.

Understanding investment income is crucial for both individual and country-level economic planning as it impacts the net international investment position.

• Receiving Investment Income Example: A US company receives dividends from a UK corporation, resulting in a dollar inflow to the US.
• Paying Investment Income Example: A German investor earns dividends from an American company, causing a dollar outflow from the US.