4.

Public Debt LH 8
Concept and Need of Public Debt
4.2 Sources and Structure of Public Debt
4.3 Burden of Public Debt
4.4 Principles of Debt Management
 Concept and Need of Public Debt
• public debt in practice started from nineteenth century.
• government borrow money to fulfill deficit financing.
• a temporary source of government revenue.
• it should be repaid with interest after maturity.
• government borrow money from banks, business
organization.
• according to Musgrave and Musgrave, " borrowing
involves a withdrawal made in return from the
government's promise to repay at future date and to
pay interest in the interm".
• borrowing means flow concept where debt is a stock
concept.
 issue
issue:
• maturity structure: select the term structure
of the debt so as to minimize interest cost.
• behaviour of interest rates
• question of liquidity
• constant purchasing powrer bond
classification
internal and external
productive and unproductive
short term and long term
 need
• bridging gap between revenues and
expenditure
• financing public works programme
• reduction of inflaction
• financing economic development
• financing the public sector
• war financing
 causes of growth of public debt ratio
• Reasons: (a) growth in debt ratio might lead to
crowding out of private investment. (b) government
spending out of borrowed funds might be
unproductive (Singh, 2014:269).
• Necessary: (a) for somoothening out the tax rate (b)
for macroeconomic stabilization (c) for financing part
on investment project (d) remunerative capital in
public sector and for lending and equity investment.
 Source and structure of Public Debt
• source of public debt is issue of public discussion and
political controversy. additionally, interest rates,
spending behaviour, control over the liquidity, debt
management, monetary policy.
• structure: the total debt is divided into public issues
available to private sectors and federal system.
• gross federak debt by types of issues:
• Public issues: marketable (bills, notes, bonds),
nonmarketable (savings bonds, foreign issues,
convertible bonds).
• Special issues:
• Total gross debt: it inclues a small amount of
matured debt and debt bearing no interest.
 source of borrowing
• there are four principal techniques of sources of
borrowing.
• Market borrowing: it means funds borrowed by the
sale to the public of negotiable government securities
and bills. capital and money market.
• non market borrowing: non negotiable instruments
which cannot be transacted in the market. eg long
term government bonds. purpose is to meet the needs
of current expenditure.
 Internal and External Debt
• the debt taken from people and institutions of a
country by floatation of public debt instrument is
called internal debt.
• Market borrowing
• non market borrowing: borrow from non transferable
instruments.
• (i) public sector: public enterprises, insurance
companies, postal saving bank, provident fund and
central bank.
• (ii) private sector: commercial banks, finance
companies, insurance companies, mutual fund,
investement companies, pension fund.
 external debt
• external debt should be defined as liabilities
on which a contractual obligation to repay
exist.
• the debt taken with foreign government,
individuals, institutions and international is
called foreign debt. IMF, World Bank, ADB,
OPEC, developed countries,
 2. Productive and Unproductive Debt
• productive: obtain profit from the use of
sufficient to repay annual interest and repay
principal after maturity and. irrigation,
electricity and transport.
• unproductive: used in a way not earned income
to repay principal and interest.
3. Redeemable and Unredeemable Debt: should be
redeemed by government along with interest in fixed
period.
A bond which the issuer has the right to redeem prior to
its maturity date, under certain conditions. When
issued, the bond will explain when it can be redeemed
and what the price will be. In most cases, the price will
be slightly above the par value (The nominal dollar
amount assigned to a security by the issuer) for the
bond and will increase the earlier the bond is called.
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the debt which need not be redeemed but interest should
be paid regularly in unredeemable. also known as
perpetual loan.
• funded and unfunded or floating loan: funded is
long term debt borrowed to create permanent
assets. unfunded is short term taken to meet
current needs. government should redeem within
six months.
• compulsory and voluntary debt: individuals and
institutions purchases government debt
instruments voluntarily. later on government
should purchase later on compulsorily.
• Dead Weight, active and passive debt: the debt
which does not increase the productive capacity
of the country is dead weight. if increase capacity
active and neither increase nor provide income is
passive debt.
 4.3 Burden of Public Debt
• first consider nature and purpose of public debt.
• if debt is taken for productive purpose, it will not mean
any burden.
• if debt is taken for unproductive, it will impose both
money burden and real burden on the community.
• Issue:
• concept of the burden of public debt and to the shifting
of the burden to future generation.
• classist view: fuller utilization of resources and war
finances.
• modern view: Keynes, deficit budget is essential for
effective demand. other word, to increase in output,
income and employment. and post Keynesian view is
debt mgt. i.e. public debt and the supply of money.
 effect of public debt
• public debt can be measured based on internal or
external burden.
• effect of internal debt:
effect on consumption, production, desire to work and
save, use of resources, investment and distribution
of income.
• effect of external debt:
effect on consumption and investment.
• the debt indicator is ratio of debt service ratio
and debt GNP ratio which measure the debt in
short run.
 4.4 Principles of Debt Management
• the government act of maintaining national debt
may be called the management of public debt.
• principle:
• no undue coercion (the action or practice of
persuading someone to do something by using force
or threats): loan should be taken in low interest from
people to meet deficit or to substitute matured
securities without undue coercion. tapping loanable
fund, freedom that provides terms according to the
demand of the market, proper support of monetary
authority.
• serve economic growth: the system of taking loan
from the market and making repayment should not
disappoint but serve the economic objective of
sustained economic growth.
• minimize the need to enter the market: debt should
be maintained so as to minimise the need to enter
the market in the time of inconvenience. its aim is
lengthening the time of maturity of public debt.
Public debt management is the process of establishing and executing a
strategy for managing a governments' debt in order to raise the
required amount of funding, achieve its risk and cost objectives,
and to meet any other debt management goals
 problems of debt management in developing
countries
• attraction of sufficient funds into government issues,
• minimum interest costs,
• maintenance of a suitable structure of maturity, and
• mainenance of economic stability.