Matt and Melinda are American residents. Matt buys stock issued by a German corporation. Melinda opens a shoe factory in Panama. Whose purchase, by itself, increases the U.S.’s net capital outflow?

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BlackTom AI · Accepted Answer

To tackle this question, we first recall the definition of net capital outflow (NCO): it is the flow of funds that results when domestic residents purchase foreign assets minus foreign residents’ purchases of domestic assets. With that in mind, let’s evaluate each option.

Option 1: Matt’s. Matt, a U.S. resident, buys stock issued by a German corporation. This is a purchase of a foreign financial asset by a resident of the United States, which, all else equal, increases U.S. NCO because it represents sending capital abroad to acquire a foreign asset. However, the prompt asks whose purchase, by itself, increases NCO, and we must consider Melinda’s action as well. Therefore, while Matt’s purchase does contribute to NCO, this option alone does not capture the full picture if Melinda’s action also increases NCO.

Option 2: Melinda’s. Melinda opens a shoe factory in Panama. This is a foreign direct investment by a U.S. resident in another country, which is a capital outflow from the United States and hence increases NCO. Yet, similar to the first option, if we observe only Melinda’s action, we are not acknowledging that Matt’s purchase also affects NCO. So this option, while true in isolation, is not the complete answer when both actions are considered.

Option 3: both Matt’s and Melinda’s. This option recognizes that both actions involve a U.S. resident transferring capital to foreign assets or foreign operations: Matt buys a German stock (foreign financial asset) and Melinda invests in a Panama-based factory (foreign direct investment). Each of these transactions, on its own, would contribute to a higher NCO, and together they certainly imply an increase in U.S. NCO. This aligns with the standard accounting identity for NCO.

Option 4: neither Matt’s nor Melinda’s. This would claim that neither action affects NCO, which is incorrect because both transactions involve U.S. residents allocating capital abroad to acquire foreign assets or establish foreign productive capacity, thereby increasing NCO.

In sum, the reasoning shows that while options 1 and 2 describe actions that do increase NCO, they do so without accounting for the presence of the other action. Only option 3 correctly reflects that both purchases increase the U.S. net capital outflow, and option 4 is plainly false. The nuanced takeaway is that NCO rises when residents acquire foreign assets, whether those assets are financial instruments like stocks or real assets like manufacturing facilities abroad.

2254 ECON 0103 SEC2020 ECON 103 Homework 5

Matt and Melinda are American residents. Matt buys stock issued by a German corporation. Melinda opens a shoe factory in Panama. Whose purchase, by itself, increases the U.S.’s net capital outflow?

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