What is Debt and Equity?

The concepts of debt and equity are vital to the understanding of financial flows. Debt refers to the funds borrowed by an entity (could be a government or corporation), with an obligation to repay the principal amount along with interest. Entities enter into debt to finance their operations when their immediate cash reserves are low or unavailable. Alternatively, equity represents ownership in an asset (land, company, stocks, etc.), where the investor shares in the profits or losses. As such, debt and equity play vital roles in Australia's financial flows, through foreign investment, which can provide capital to Australian entities through instruments like bonds or loans.

The Recent Trends in Australia's Financial Flows

As of March 2024, Australia's international investment position (IIP) saw significant movements influenced by foreign debt and equity. Australia's net foreign equity asset position increased by $131.8 billion to $505.5 billion, while the net foreign debt liability position rose by $27.9 billion, reaching $1,235.7 billion.

Furthermore, the net international investment liability position of Australia decreased by $103.9 billion from the previous quarter, standing at $730.3 billion at the end of March 2024. This was due to significant net inflows of equity amounting to approximately $15.3 billion and a net outflow of debt totalling $7 billion.

Trends in Foreign Investment

In recent times, Australia has been an attractive destination for foreign investment, thanks to its stable political and economic environment, robust legal system, and abundant natural resources. In 2020, the total stock of foreign investment in Australia reached AUD $3.8 trillion, representing a 4.1% increase from the previous year. This growth in foreign investment has only been bolstered post-COVID, as Australia's economy continues to thrive. This is reflected in Australia's 2023 total stock exchange of foreign investment, reaching $4.66 trillion.

In recent years, the composition of foreign investment in Australia has changed significantly. While FDI remains a significant component, accounting for 26.4% of total foreign investment in 2020, portfolio investment has seen substantial growth. This is reflected in the current Australian economy as by the end of 2023, foreign investment in Australian debt securities had increased significantly, reaching $1.5 trillion. This growth in debt securities highlights the shift towards portfolio investments, contributing significantly to the overall growth of foreign investment in the country. This has come as a result of Australia's quick global economic recovery in light of the events of COVID-19, which in turn has increased the demand for safe assets. Thus, Australia's strong credit rating and stable political environment make its debt securities a preferred choice for risk-averse investors.

Shifting Patterns in Portfolio Flows:

Portfolio flows, which include transactions in equity and debt securities, have exhibited interesting patterns in recent years in light of dramatic global events. As of 2023, Australia's net portfolio investment position was presented by the following: The financial account recorded a net inflow of AUD $8.3 billion during the March 2024 quarter, driven by substantial inflows into equity and debt securities. Specifically, there was a net outflow of debt of AUD $7 billion, indicating a credit of $1.3 trillion of portfolio investments represented on Australia's balance of payments. This trend can be attributed to several factors, including Australia's relatively high credit rating and the perceived safety of Australian government bonds amidst global economic uncertainty.

Australia's External Financial Position:

As of December 2020, Australia's net international investment position was -$860.8 billion, indicating that its external financial liabilities exceeded its assets. This imbalance was driven primarily by significant debt liabilities, such as foreign holdings of Australian bonds. However, there was also a growing presence of Australian equity assets abroad, reflecting the global expansion and diversification of Australian investors' portfolios. By March 2024, Australia's external financial position had improved, with a net IIP of -$730.3 billion. The net foreign equity asset position rose significantly to AUD $505.5 billion, indicating stronger overseas investments by Australians. Meanwhile, the net foreign debt liability increased to AUD $1,235.7 billion, continuing the trend of rising debt liabilities. These changes, although positive in improving Australia's debt and investment positions, have highlighted the need for Australia to fund their economy through alternate methods.

This goal is, however, being achieved, represented by the following bar graph. It highlights Australia's Net Financial Investment by sector for 2023 and 2024.

This graph displays Australia's shift toward improving their external financial position as there is an overall trend of reducing net borrowing across sectors except for households, which increased their net saving. Although households were the only sector with a positive net financial investment, all other sectors showed improvement.