Types of Public Debt

What is Public Debt?

Public Debt can be defined as the loan taken by the government from its public and foreign countries. The government can take loans from its public, financial institutions, banks, business organisations, etc., and from foreign countries as well. Public debts are subject to a fixed interest and are repaid by the government to the creditors after the expiry of the stipulated period.

According to J.K. Mehta, “Public debt is a comparatively modern phenomenon and has come into existence with the development of democratic form of governments in the world.”

Types of Public Debt

1. Short-term, Medium-term, and Long-term Debts: Treasury bills are short-term debt instruments that mature in less than a year, typically ranging from a few days to a year. Unlike bonds, T-bills do not provide regular interest payments, instead, they are sold at a discount to their face value. Treasury notes are intermediate-term debt instruments, falling between bonds and T-bills in terms of maturity. They have fixed interest payments and maturity that typically range from two to ten years. Bonds are long-term debt securities with fixed interest rates and maturity periods. Investors who purchase government bonds are essentially lending money to the government and receiving periodic interest payments until the bond’s maturity, at which they receive the principal amount back.

2. Funded Debts and Unfunded Debts: Funded debts are the debts, for the repayment of which government forms a separate fund. Each year, the government adds some amount into that fund, which is used to repay the principal amount of debts. Funded Debts are generally for some productive purpose and are long-term debts. Unfunded debts are the debts taken by the government to cope with short-term financial needs. There is no fund maintained by the government to repay such debt amounts. The government repay these debts out of their regular income.

3. Voluntary Debts and Forced Debts: Voluntary debts are taken by the government from the public as per their wish only. When the public is fully ready to lend loans to the government, the loan will be known as ‘Voluntary Debt’. Whereas, a loan taken against the will of the public is known as ‘Forced Debt’. For instance, the government of India in 1964 decided to take a forced loan from the public under the ‘Compulsory Deposits Scheme’. The rate of interest on forced debts is generally lower than the rate of interest on voluntary debts.

4. Redeemable Debts and Non-redeemable Debts: Redeemable debts are the debts taken by the government that it intends to pay back on the maturity period. The government pays interest on these debts till the maturity period and after the maturity period, the principal amount gets repaid. However, non-redeemable debts are the opposite of redeemable debts. Non-redeemable debts are never repaid by the government. The government just keeps paying interest on these debts for an indefinite period.

5. Internal Debts and External Debts: Internal debt can be defined as money borrowed by the government from inside the country. Sources for internal debts can include citizens, the country’s banks, the country’s financial institutions, business houses, etc. Internal debts are voluntary and/or compulsory in nature. Internal debts are mostly used by the government for the betterment of education and health within the country. Whereas, External debt can be defined as the debt borrowed by the government from outside the country. Sources for external debts can include foreign governments, International Monetary Funds (IMF), World Bank, Foreign Direct Investments (FDI), Foreign Portfolio Investments (FPI), etc. The government is forced to borrow funds from external sources when the internal sources do not have adequate funds to support the operations of the government.

6. Productive Debts and Unproductive Debts: Productive debts are the debts the government takes to spend on productive purposes like irrigation system, education, health, etc. These productive activities in turn can increase government revenue, which can help in the payment of interest and repayment the debts. Productive debts help in increasing the production capacity of the country, making it easy for the government to repay the debts. Unproductive debts are the debts taken by the government to spend on non-productive activities, like prosecuting the war or facing any natural calamities like floods, epidemics, pandemics, etc. These expenses do not contribute to the production capacity of the country. Repayment of unproductive debts is thus tough for the government. Unproductive debts are also known as ‘Dead Weight Debt.’