The overall balance of payments must add to zero since a country can only run a current account deficit if it is supplied with sufficient capital from overseas to cover that deficit.

Similarly a current account surplus would mean that capital would flow out of the country. It follows that the current account and the capital and financial accounts must offset each other (although given errors in collecting the statistics there is usually a balancing item).

Whereas the current account measures flows of goods and services, income and current transfers, the capital account measures capital movements including capital transfers, while the financial account records transactions involving the purchase or sale of foreign financial assets by UK residents and transactions in the UK by overseas residents.

These transactions directly add to, or subtract from, the stock of the UK’s foreign financial assets and liabilities.

The international investment position is summarised in a closely related set of statistics to the current account within the balance of payments.

These can be viewed as the balance sheet recording the UK’s stock of foreign assets (the value of foreign investment that the UK has acquired abroad) and liabilities (investments in the UK owned by foreign companies).

These figures reveal how open the UK economy has become. Among the world’s major economies, only the US has a bigger stock of foreign assets.

The values of UK assets and liabilities have both increased by a factor of more than three in the decade since 1998, with total assets standing at £7,135.1 billion and total liabilities at £7,042.1 in 2008.

These are huge values when set against GDP in 2008 of £1,446 billion. Starting in 1996, UK liabilities exceeded assets by a small margin until 2007 with the gap peaking in 2006. In 2008 UK assets once again moved ahead of liabilities, albeit by just £93 billion.

On the assets side, a surge of merger and acquisition activity by UK companies raised the proportion of direct investment (as a share of total assets) from 13% at the start of the 1990s to around 20% during the period 2000-2003.

Since then, the share has gradually eased back, standing at 15.1% in 2008. Over the same period, the share represented by portfolio investment also rose during the 1990s, peaking at 35% in 1999. That share has likewise declined in the past few years, standing at 25% in 2006.

‘Other investments’ – an unhelpful descriptor which comprises mainly bank deposits by UK residents and banks, and short-term loans overseas – accounted for 60% of all assets.

‘Reserve assets’ are held by central government, mainly in the form of foreign exchange bonds and notes.

Source: ONS

In terms of liabilities, direct investment in the UK by overseas companies accounts for about a tenth of the total and amounted to almost £680 billion in 2008.

Portfolio investment is an important element, representing about 28% of the total; the level of portfolio investment declined in 2001-2002 following the turbulence in global equity markets, but has since returned to growth.

TABLE 17.8: UK's INTERNATIONAL INVESTMENT, 1998-2008 (£ billion)

Foreign direct investment, (FDI) along with trade in goods and migration of people, is one of the most important aspects the phenomenon of ‘globalisation’; it is, moreover, often seen as the global market’s seal of approval on a country’s economic policies and prospects.

According to the United Nations, the UK is ranked second in the world (after the USA) in terms of the stock of foreign investment. At the end of 2007, the value of foreign investments was $1,347 billion, or about 9% of the world total.

This is still some way behind the USA, which had $2,093 billion of FDI (some 14% of the world total). The UK’s stock of FDI is by a considerable distance the largest in Europe, accounting for around 30% of the EU total.

In contrast to the stock of FDI, which reflects investments built up during previous years, the level of annual investment (known as the flow) is very volatile. In 2007, the United Nations figures show that Britain was on a par with the United States as the top destinations for FDI, with the annual inward flow rising above £220 billion.

Foreign direct investment has played an important role in the UK economy. Foreign companies are a source not only of capital but also of new technologies, ideas and skills. These can bring significant benefits to the domestic economy, boosting output and productivity, creating new jobs and safeguarding existing jobs.

UK Trade and Investment, the government agency responsible for the promotion of inward investment, reported 1,744 FDI projects in 2008/09 either locating or expanding in the UK. . During 2008/09 53 countries invested in the UK. The leading source remained the USA but with 108 projects during the period, 44% more than in the previous twelve months, India became the second most important source.

UK Trade and Investment estimated that the 1,744 projects would create over 35,000 new jobs but would safeguard a further 43.000. According to UKTI the investment covered a range of industries including advanced engineering, the creative industries, software and computer services, other business services and financial services and also involved the setting up of 251 headquarters or European headquarters.

The UK has been particularly successful in attracting investment in industries linked to the knowledge-driven economy such as computer software, internet related fields and telecommunications. Other major sectors for UK inward investment are the automotive sector, chemicals and pharmaceuticals and financial services. In terms of many key measures (such as investment per employee, exports/sales, productivity and average wages), the British subsidiaries of foreign parents outperform domestic companies.

A striking feature of investment flows is the importance of America, both as a source of and as a destination for, the UK’s investment flows.

In financial terms, according to United Nations figures, the USA accounts for about a fifth of the UK’s stock of overseas investment, and for nearly 40% of foreign-owned investments in the UK.

The latest UKTI report, meanwhile, shows that of the 1,744 inward FDI projects announced in 2008/09, over a third (621) were by US investors. There are several reasons for this transatlantic link up:

• There is a similar corporate ‘culture’ (i.e. they tend to do business in the same way)
• there is no language barrier
• since the 1980s, governments in the UK have looked admiringly at the US model.