Capital outflow is when domestic assets are moved out of a country with no return generated, which can lead to economic and political disturbances. Capital controls are laws enacted to minimize capital flight, but they can also negatively impact the rate of capital inflows.
Capital outflow is a term used to describe the flow of domestic assets out of a nation and into other countries. In general, the term is not used to describe the export of various types of goods and services, as there is some anticipated return from this type of commercial activity. With capital outflows, these resources leave the country with no kind of equitable return generated, effectively removing these assets from use in the domestic economy. This type of activity can lead to economic or political disturbances that have long-term effects.
There are several reasons why capital outflows can occur. One of the most common is a concern with developing political conditions within a given nation. If an investor believes that their assets will significantly decrease in value or become compromised in some way, there is a good chance that those assets will be moved out of the country. This means currency held in domestic banks can be transferred to offshore banking institutions, business operations can close and reopen in another country, or property is sold and proceeds invested in real estate outside the country. In any case, the domestic economy no longer benefits from the presence of these assets and is adversely affected by the loss of this capital.
To minimize the potential for capital outflows, many countries have enacted laws that are sometimes referred to as capital controls. The idea behind these laws is to decrease the incidence of capital flight by allowing the economy more time to adjust to the loss of assets. At the same time, the laws create a period for lawmakers and economists to identify the underlying causes of capital outflows and take steps to correct these problems. The assumption is that if the underlying reasons for asset withdrawals are addressed and eliminated, capital outflows will decrease and the economy will stabilize.
One of the disadvantages of these capital controls is that they can have a negative impact on the rate of capital inflows. As the enactment of these types of laws tends to send a clear signal that something is wrong with the economy, foreign investors and companies may start to limit their investments in that particular country. This is particularly distressing if the economy depends on an influx of assets from foreign companies to remain stable. For this reason, care must be taken to ensure that the nature of capital outflow restrictions does not cause concern among those providing capital inflows, a balance that can sometimes be very difficult to achieve.
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