What Are Net Foreign Assets (NFA)?
Let me explain net foreign assets (NFA) to you directly: they measure the difference between a country's external assets and liabilities, showing whether it's a net creditor or debtor nation. NFA is the value of overseas assets owned by a nation minus the value of its domestic assets owned by foreigners, with adjustments for valuation and exchange rate changes.
You should also know that a nation's NFA position is defined as the cumulative change in its current account, which sums up the balance of trade, net income over time, and net current transfers over time.
Key Takeaways
- Net foreign assets (NFA) determine whether a country is a creditor or debtor nation by measuring the difference in its external assets and liabilities.
- A nation's NFA position is also defined as the cumulative change in its current account, which is the sum of the balance of trade, net income over time, and net current transfers over time.
- The NFA metric can be impacted by valuation and exchange rate changes.
Understanding Net Foreign Assets (NFA)
The NFA position tells you if the nation is a net creditor or debtor to the rest of the world. If it's positive, the country is a net lender; if negative, it's a net borrower.
There's another way to look at it from the World Bank: NFA is the sum of foreign assets held by monetary authorities and deposit money banks, minus their foreign liabilities.
Relating a nation’s NFA to its cumulative current account changes is straightforward. An entity’s debt position is the total of its past borrowing and lending. For instance, if borrowings are $500 but loans out are $1,500, it's a net creditor by $1,000.
Similarly, if a nation has a $10 billion current account deficit, it borrows that from foreign sources, increasing foreign liabilities and reducing its NFA by that amount.
Valuations and Exchange Rates Effect on Net Foreign Assets (NFA)
Beyond the current account, you need to consider valuation and exchange rate changes for a true NFA picture. For example, if foreign governments hold trillions in U.S. government bonds and interest rates rise, causing bond prices to drop, this reduces the value of those holdings and thus their NFA.
Exchange rate fluctuations matter too. If a nation’s currency appreciates against others, it decreases the value of foreign currency-denominated assets and liabilities; depreciation increases them. So, if the nation is a net debtor, currency depreciation raises its foreign debt burden.
The NFA position can even influence exchange rates. Chronic current account deficits with a negative NFA can become unsustainable, leading currency speculators to attack and drive the currency lower.
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