By: Bikal Dhungel
Debt as defined by Oxford Dictionary simply means 'A sum of money
that is owed or due'. You borrow some money from your friend and
promise to return tomorrow means that you acquired debt that you
have to pay back in the future. It can be the original sum or
interest charged in it. In this article we will have a look at a
macro level about debt; what is it, how it effects our life in
national and international level and the world economy.
At a first glance, debt sounds terrible than it actually is.
Imagine you want to buy a book today but your salary will be paid at
the end of the month. So you borrow $10 from a friend and agreed to
pay $11 at the end of the month. You have a win-win situation here
because you could read the book earlier and your friend got $1 more
than the original sum after you paid. From here comes the first
conclusion of either debt is a good thing or a bad thing. Yes, it
depends actually. In this case when you bought a book, it was a good
debt. Or when you borrow from your aunt to pay your university
tuition fee and pay her back later when you have a good job, debt is
a good thing. But imagine, your neighbour borrowed some money from
you with a promise to pay 5% interest at the end of the year and went
to the casino right after hoping to make it more but unfortunately
lost all the money and now cannot pay you back. Or imagine you borrow
money from your aunt to study but used that money to buy a Buggati,
an exotic car. This is not a good debt.
In a country level, governments are also same as people as you and
me. Governments also have income and expenditures. If their income is
higher than expenditures, there is no need to borrow from public or
other countries but if they spend more than they earn, they have to
acquire debt. Same as in personal level, when government acquire debt
to build infra-structures, to finance health services or for the
education of its citizens, such debts are healthy because it will
have a good return in the future. But if the government spends money
for weapons or a nice car for the president or build unnecessary
villas, this debt is a bad thing. The only difference with a
government incontrast with personal level is that, a person will be
liable for his own mis-management or wrong decision but in the case
of government, every citizen should bear the burden of the debt.
Now imagine a country called Absurdistan. This country was
colonized by another country called Cleverland. Absurdistan is rich
in natural resources, hence Cleverland made a huge profit by
extracting its resources for 70 years. Later when there was an
independence movement, Cleverland finally agreed to go away but then
secretely financed the election campaign of an army general called Mr
Sicktator. Sicktator won the election and established the army rule
strictly controlling the media and freedom of expression. Slowly he
was successful in dividing important ministries to his brothers and
cousins. They also owned main industries and ruled the country as a
dictatorship for 30 years until his death. In these years they made
huge money and deposited in their bank accounts in Switzerland and
Caymen Islands. They never built and roads and schools fearing their
own rule when people are educated. Despite huge personal wealth, they
borrowed a lot of money from international organisations like the IMF
and World Bank to finance government expenditure, a portion of which
they kept for themselves. When Mr Sicktator died, there was a
political turmoil in the country and some freedom fighters found an
excellent opportunity to capture the rule. They were successful but
the brothers and cousins of Mr Sicktator have managed to escape to a
foreign country and bring their huge wealth with them. Democracy was
re-installed but the balance sheet of the country showed that they
have acquired about $45 billion of external debt, which was
equivalent to 1.5 times their total GDP per year. There was also
interest rate on it. The international community wanted to have the
money back but the democratic government of Absurdistan said, ' that
money was never used to build any infra-structures or other public
projects, the brothers of the dictator stole that and deposited in
foreign bank account ', but the international community says ' I dont
care, it is your problem, I want my money back otherwise we will
impose trade embargo on you '. So, fearing economic consequences, the
government of Absurdistan agreed to pay back certain amount every
year with some interest. Because it has to pay back the debt, it has
little left to invest in healthcare, education, infrastructure etc.
When economic crisis hit, it was not even able to pay only the
interest. So, even 10 years after democratic transition, the amount
of debt remained the same or it even became more and more.
Absurdistan is now in debt trap. As it owe money to foreign
countries, they seek influence in its internal policies, for example
access to its resources. Absurdistan is rich in Coltan, a material
used to build Laptop Computers. So, it had to let foreign
multi-national companies to extract the resources. This is the story
of most developing countries today, the story of debt trap.
But not only developing countries are hugely indebted, but also
developed countries have huge debts. Looking at some figures, among
the rich countries, Japan has a national debt of 226% of its GDP, or
in real numbers, roughly $11 trillion. France, UK, Germany and the US
have a national debt of respectively 93.4, 91.1, 79.9 and 71.8% of
their GDP (Source: IMF 2012 data). However, it is a different thing
when the government borrows from its own citizens ( the public ) or
from international lenders or institutions. Borrowing from the own
citizens is less risky as it is less likely that they will demans the
repayments in an uneven time. International debt is more risky for a
country. But who are the lenders to the government ? It can be
companies or individuals who have money and want to earn some
interest. The government sells so called 'government bonds' in which
it gives you a certificate that you have given a certain amount of
money to the government with a promise to get certain interest rate
and you lend to your government. However, the government does not
come to your home and asks for money rather it takes place in capital
markets. The brokers in capital markets or stock markets like ' New
York Stock Exchange ' remain between you and the government and help
if you want to acquire bonds. It can also be your bank, which pools
the fund to buy government bonds and the interest it gets, it pays
you back according to the amount you have. It is the same principle
as in the stock market when you deal about companies shares and
stocks. But this is not the issue of this article. It is only about
debt. So, why do governments need debts ?
The Iraq War for example was fully debt financed, which means the
US government borrowed the money to launch war. The direct cost of
the war has been slightly over $700 billion but the indirect costs
can be as high as $3 trillion as some economists estimated. $700
billion is also the amount of money used to rescue banks during the
financial crisis of 2007/2008. These two incidents increased the US
government debt massively. Similarly, other hundreds of billions was
used to rescue financial institutions in Europe during the crisis.
Then it comes the issue of fairness with it. When these banks were
making profit, the managers got handsome bonuses, sometimes hundreds
of millions but when they were in crisis, they had to be rescued by
the government using tax payers money because in the case of not
doing so, the consequences in the economy would have been much
bigger. In case of inadequate liquidity, the crisis will take the
form of Great Depression as in 1929. So, because there was a
contraction in the economy and to help the banks, governments had
only little left. So, they had to cut costs somewhere else. This
somewhere else was then in schools, like fewer new teachers were
hired, they had to cut costs of public hospitals by firing more
people, infra-structures were not repaired, university fundings were
reduced or even heavy tuition fees were introduced like in the UK,
social support was reduced, unemployment benefits or other benefits
were reduced, so at the end of the day, the cuts hit the poorest of
the society who had nothing to do with the crisis or who did not
create the crisis. This was in the time of war or economic crisis.
In peaceful times, governments often offer tax cuts for the rich
or to corporations and reduce their own source of income. This is
because the rich were may be the sponsors of their election campaign.
Moreover, a bad social policy, that incentivises staying home rather
than going to work would also acquire debt in longer term. Hence, for
a government, the best social policy is a good economic policy.
However, the issue of debt is an important but also a frustrating
matter for developing countries and their economic development. As it
was illustrated in the scenario above, dictators or kings acquired
huge debts without investing it properly and today their governments
have to pay back their debts. Most of the developing countries are
only paying the interest rates of these days. Actually, many of them
already paid back the total amount they had borrowed but when you
mess up with compund interest, your borrowed amount will sky-rocket
in a very short time. Taking an example, some countries were
dictatorships in 1960. If the dictator had borrowed just 1 billion $
in that year with 5% annual interest, today, you have to pay back
$15.5 billion. If your great great grandpa had deposited only $10
once in a bank account with 5% interest rate, today you get
$215,735.75. So, dont try to guess with compound interest, you
cannot, human mind cannot deal with the exponential growth of
compound interest. Lets not go deeper in it. The issue here is,
developing countries have to pay back their debt, as a result of
which they are unable to finance essential factors like health and
economic development. So, in order to get out of this trap, developed
countries should grant so called debt relief. Philanthropists like U2
singers Bono and Bob Geldhof or Jeff Sachs, Angelina Jolie and others
are campaigning for debt relief. This has worked to some extent.
Today, a part of development aid also consist of debt repayment. Some
countries government have also declined to pay back the debt acquired
by dictators. Indirectly, developing countries are subsidising the
rich by debt repayment.
Concluding everything, debt itself is not a bad thing. It depends
why you acquired debt. Debt can be the reasonof your success or
failure. The issue of debt in combination with development is the
most critical and if developed countries are seriously interested in
the development of poor countries, debt cancellation or debt relief
are two powerful instruments.
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