Government Borrowing, Low Interest Rates, and Inflation Policy

Introduction to Government Borrowing and Interest Rates

Government borrowing refers to the debt held under the jurisdiction of a country. It represents money belonging to the public that is owed by the central bank within the country's economy. The primary source of government funds is taxation of citizens, which makes government debt an indirect obligation of the public. In some economic contexts, government borrowing is referred to as public or national debt. In the current state of most economies, public debt is rising in most nations. The instruments through which governments borrow from the public include bonds, securities, and bills.

Interest rates refer to the amount of interest that accompanies debt repayment, as well as the rate at which central banks and commercial banks are willing and able to lend money to individuals or companies. When interest rates are extremely low, total revenue collection by the government is reduced. Government debt and interest rates are therefore crucial variables in any macroeconomic analysis of the public economy.

Consequences of High Public Debt

An increase in government debt places an extra burden on taxpayers. The government debt of Canada, as a case in point, stood at approximately $543,022,147,241.02 (Country Intelligence, 2012). This figure places Canada among countries experiencing considerable governmental debt. In such circumstances, the government may be unable to raise sufficient funds to repay the debt, shifting the burden to citizens in the form of higher taxation. This increase in taxation can manifest as rising commodity prices or inflation. One of the primary consequences of high government debt is therefore an increase in prices — that is, inflation. Consumers pay more for the same quantity of products compared to previous financial years. Inflation erodes consumers' real income and diminishes the overall economic power of society.

With rising public or national debt, a country also faces financial challenges that impair its ability to borrow effectively from international monetary bodies. A further consequence is the potential decline in the strength of the national currency. Countries with high levels of public debt have a high probability of losing some of the value of their currency in the international market. Lower currency values create a trade imbalance: the country's exports become cheaper for foreign buyers, while imports — often essential to domestic needs — become significantly more expensive. This imbalance between exports and imports compounds the nation's financial difficulties. Government debt also has a tendency to push up interest rates, as central banks raise rates in an attempt to reduce financial burdens. However, this mechanism does not apply uniformly across all economies. In Canada, for instance, government debt has continued to rise while interest rates have remained unusually low (Midthjell, 2011).

Conclusion

Public debt is the money owed by the government and, indirectly, by the citizens of the nation. Higher government borrowing results in increased taxation, higher interest rates, inflation, and a decline in the value of currency. In order to address massive public debt, the government can raise interest rates, which increases the volume of funds available for debt repayment and encourages investment in the securities and bonds markets due to improved returns on capital. Public gift contributions — whether in money or tangible commodities — can also raise funds to assist with debt repayment. Finally, increasing taxation on imports has the potential to reduce public debt levels and ease the burden on ordinary citizens.