What are net foreign assets (NFA)?
Net foreign assets (AFN) determine whether a country is a creditor or debtor country by measuring the difference between its external assets and liabilities. Net foreign assets (AFN) refer to the value of foreign assets held by a country, less the value of its domestic assets owned by foreigners, adjusted to take account of changes in valuation and rates of exchange.
Key points to remember
- Net foreign assets (AFN) determine whether a country is a creditor or debtor country by measuring the difference between its external assets and liabilities.
- A country’s net foreign assets (AFN) position is also defined as the cumulative change in its current account, which is the sum of the trade balance, net income over time and net current transfers over time. time.
- The measurement of net foreign assets (AFN) can be affected by the valuation and changes in the exchange rate.
Understanding net foreign assets (NFA)
A country’s net foreign assets (AFN) position is also defined as the cumulative change in its current account, which is the sum of the trade balance, net income over time and net current transfers over time. time. The net position of foreign assets indicates whether the nation is a net creditor or a debtor to the rest of the world. A positive NFA balance means that it is a net lender, while a negative NFA balance indicates that it is a net borrower.
Another definition of the World Bank’s “net foreign assets” is that it is the sum of foreign assets held by monetary authorities and deposit banks, minus their external liabilities.
It is conceptually easy to understand the relationship between a nation’s NFA position and its cumulative change in its current account, since an entity’s debt at any time is the sum total of its borrowing and lending activities past. If an entity’s loans total $ 500 but it has loaned $ 1,500, it is a net creditor of $ 1,000.
Likewise, if a country has a current account deficit of $ 10 billion, it must borrow that amount from foreign sources to finance the deficit. In this case, the $ 10 billion loan would increase its foreign liabilities and reduce its net foreign asset position by that amount.
Exchange rate valuation and effect on net foreign assets
In addition to the current account position, changes in valuation and exchange rates should be taken into account to get a true picture of the NFA position. For example, foreign governments hold trillions of dollars in US government bonds. If interest rates went up and the price of US government bonds fell, this would reduce the overall value of the US government bond holdings in that country, and therefore their net foreign assets.
Exchange rate fluctuations can also have a significant effect on the NFA position. The appreciation of a country’s currency relative to that of other countries will decrease the value of assets and liabilities denominated in foreign currencies, while depreciation will increase the value of these assets and liabilities abroad. Thus, if the nation is a net debtor, the depreciation of the currency will increase its debt burden in foreign currency.
The NFA position itself can lead to changes in exchange rates, as chronic current account deficits can prove to be unsustainable over time. The currencies of countries with a significantly negative NFA position and growing current account deficits can be attacked by currency speculators who may seek to lower it.