State about the international capital flow

An international capital flow is defined as movement of money for the purpose of speculation or investment between countries. It includes selling one currency and buying currency of the country into which flow of funds is moving.

In recent decades, a form of international capital flow called as a speculative 'hot money' has grown in significance. A 'hot money' flow takes place when a very rich person or institution decides to switch funds between currencies. A factor influencing these flows is interest rate differences in different countries. Suppose for instance the Bank of England cuts Bank Rate to a rate significantly below dollar or euro interest rates. In response to Bank Rate falling, owners of 'hot money' sell the pound and buy dollars and euros so as to benefit from higher return on these currencies. Selling of pounds causes the pound's exchange rate to fall. Hot money flows are hypothetical in the sense that owners of hot money also move funds into currencies whose exchange rates the speculators believe are going to rise.