A government pays interest on the debt it owes to foreigners. Which of the following is correct?
Answer & explanation
Correct answer: option 1
The correct answer is Option (1) → It is a burden, since goods must be sent abroad for the interest; it is factor income paid abroad in the current account
Debt owed to foreigners is a burden: goods must be sent abroad to pay the interest. Interest is factor income, recorded in the current account.
Option (1) It is a burden, since goods must be sent abroad for the interest; it is factor income paid abroad in the current account — Correct. Both parts hold.
Option (2) It is a burden only on future generations; it is not recorded in the balance of payments at all — Incorrect. Interest paid abroad is recorded, in the current account.
Option (3) It is no burden, since the government can print money; it is a transfer payment received from abroad — Incorrect. The interest is paid out, and it is a factor payment. A transfer is given for free.
Option (4) It is no burden, since purchasing power remains within the nation; it is recorded in the capital account — Incorrect. Purchasing power stays within the nation only for debt owed to ourselves. Interest is a current account item.
This question uses Government Budget and the Economy and Open Economy Macroeconomics together.
NCERT (2026-27): “Perspectives on the Appropriate Amount of Government Debt: … It has often been argued that ‘debt does not matter because we owe it to ourselves’. This is because although there is a transfer of resources between generations, purchasing power remains within the nation. However, any debt that is owed to foreigners involves a burden since we have to send goods abroad corresponding to the interest payments.” Open Economy Macroeconomics: “6.1.1 Current Account Current Account is the record of trade in goods and services and transfer payments. Figure 6.1 illustrates the components of Current Account. Trade in goods includes exports and imports of goods. Trade in services includes factor income and non-factor income transactions. Transfer payments are the receipts which the residents of a country get for ‘free’, without having to provide any goods or services in return. They consist of gifts, remittances and grants. They could be given by the government or by private citizens living abroad.” |