Difference Between Current Account and Capital Account
Every country is involved in some sort of foreign trade to meet the requirements of the country's general population. The current and the capital accounts are important components of a country’s balance of payments. Both types of accounts track transactions between a country’s residents and the rest of the world, precisely international trade. In this article, we will cover the difference between current account and capital account. 
Table of Content
- Comparison Table – Current Account vs Capital Account
- What is a Current Account?
- What is a Capital Account?
Comparison Table – Current Account vs Capital Account
The current account records a country’s net income over a period, while the capital account records the net change of assets and liabilities in a given year.
The following are the main differences between the current and capital accounts in the balance of payments:
| Current Account | Capital Account |
|---|---|
| Records trade in goods and services in the current period. | Records the movement of capital in and out of the economy. |
| Reflects the net income of the country. | Reflects the change in ownership of the nation’s assets. |
| Primarily concerned with receipts and payments of cash and non-capital items. | Carefully considers the sources and application of capital. |
| Key components – Export and import of goods and services, the investment of income, and current transfers. | Key components – Foreign direct investments, portfolio investment, and loans from the government of one country to the government of another country |
| Measured over a period of time. | Measured at a point in time. |
| A deficit in the current account shows that the inflow of foreign currency after exports is less than the outflow of foreign currency after the import of goods and services. | A deficit in the capital account shows that the inflow of foreign currency after foreign investments is less than the outflow of foreign currency after lending abroad. |
| Formula – Current Account = Export and Imports of Visible and Invisible Items + Current Transfers. |
Formula – Capital Account = Change in the Foreign Ownership of Domestic Assets – Change in Domestic Ownership of Foreign Assets. |
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What is a Current Account?
A current account records a country’s transactions with the rest of the world in goods, services, income, and transfers. It includes exports and imports of goods, exports and imports of services, income flows, and transfers. Most of the traditional forms of international trade are included in the current account. These transactions are usually more immediate and visible than those recorded in the capital account.
For example, the current account is affected immediately when US farmers sell wheat to Chinese consumers or when Chinese manufacturers sell computers to US consumers.
Current Account Components
The following sub-scales make up the total value of the Current Account Balance.
- Goods: Export and import of physical goods such as raw materials, consumer goods, and machinery.
- Services: Exchange of intangible services, like tourism, travel, freight services, insurance, repair, consulting, investment banking, brokerage, education, health care, accounting, etc.
- Income: Refers to the flow of income between residents of different countries, including wages, salaries, and dividends.
- Current transfers: Current transfers are one-way payments made without the expectation of receiving anything in return, such as foreign aid and remittances from workers abroad.
- Net exports: Refers to the difference between a country’s exports and imports of goods and services.
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What is a Capital Account?
Capital account inflows and outflows reflect changes in the value of an asset through investments, loans, bank balances, and property value. It is not as immediate and invisible as the current account. Many common misconceptions about international trade stem from a lack of understanding of the capital account.
Common forms of these account transactions include foreign direct investment or foreign government borrowing. The vast majority of global capital account transfers occur between the world’s wealthiest companies, banks and governments.
When there is an imbalance in trade in goods and services between two nations, these imbalances are financed by offsetting financial and capital flows. A country with a large trade balance deficit will have large investment surpluses from foreign countries and large demands on foreign assets.
Components of a Capital Account
- Domestic investment abroad: Includes investments made by residents of a country in foreign entities, such as FDI and portfolio investments.
- Additional Paid-in Capital: It represents the amount received from the stockholders over face value. It is also known as “stock premium.”
- Changes in reserves: Refers to changes in a country’s foreign exchange reserves held by the central bank to manage exchange rate fluctuations.
- Debt forgiveness: Refers to the cancellation of debt owed by a country to another country or international organization.
Conclusion
The main difference between current and capital accounts is that the former records a country’s short-term transactions related to trade and investment, while the latter records a country’s long-term financial transactions.
Both types of accounts are important indicators of a country’s economic health. They can impact its exchange rate, interest rates, and overall economic performance. We hope this blog helped you to understand the concepts better.
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FAQs - Current Account vs Capital Account
What transactions are included in the current account?
The current account includes international trade in goods (exports and imports), trade in services (like tourism and consulting), income from investments abroad, and unilateral transfers (gifts and foreign aid).
Which transactions are part of the capital account?
The capital account covers transactions like purchasing or selling assets like real estate, copyrights, patents, and even debt forgiveness.
What is the primary purpose of the current account?
The current account primarily reflects a country's economic health and ability to meet its short-term obligations. It assesses the flow of goods, services, and income in and out of a country.
What does the capital account reveal about a nation's financial position?
The capital account shows a nation's financial investments and liabilities with the rest of the world. It includes foreign direct investment (FDI), portfolio investment, and changes in foreign exchange reserves.
How does the current account balance affect a country's currency value?
A surplus in the current account, meaning a country exports more than it imports, can pressure the currency's value upward. Conversely, a deficit can lead to a weaker currency.
Why is it important to differentiate between the current and capital accounts?
Understanding the distinction helps policymakers and economists analyze a country's economic stability, investment attractiveness, and trade competitiveness more effectively.
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