What is the main difference between FDI and short run capital inflows/outflows? I feel like both are quite similar in their nature but I don't understand the distinction between the two fully. Many thanks!


1 Answer 1


The term FDI is generally reserved for foreign capital investment in domestic assets of the host country for business interests as opposed to hot flows which are generally aimed for quick capital gains.

Examples of FDI would include take-overs of firms, collaboration/merger with a domestic company, entry into a new market, etc. Such investment give returns over the years as profits or dividends.

Hot flows, on the other hand, include capital flows to take advantage of interest rate and currency rate arbitrage (such as investments in sovereign bonds, currency markets, etc.) and domeatic Stock market without taking the control of the management. Such investment give mainly capital returns after sale of assets.

There are some technical differences that emerge from the host country's central bank classification process but they are essentially to reflect the above economic differences. For example, in India, an investment may not be classified as FDI in until the shares are allocated to the investment firm and money has been invested by the host firm.

Further there are many rules imposed by host countries relating to capital mobility that differ for the two types of investment.


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