Question

Public debt arises as a result of financing successive budget deficits through borrowing. The public debt stock as at March 2020 stood at GHC 236.1 billion according to the Bank of Ghana. There have been arguments for and against borrowing by government and the opposition all these years depending on where they find themselves. As a student of Public Finance, is borrowing good or bad? Justify your position by coming out with all the relevant arguments for and against your decision

Answer 1

Borrowing can be good at certain times and it can also be bad at certain times and there should be various factors which should be kept in mind at the time of the borrowing-

A) cost of debt-the cost of debt should be adequately lower and hence it will be helpful in companies growth because in company would be able to make a higher rate of return on the debt financing.

B)when the rate of return of the company is higher than the cost of debt, the differential is used as a growth opportunity for the company and it will be helpful for the company in the overall expansion

C)when there is a high level of corporate rate tax, it will mean that the deduction on the cost of debt would be higher, because interest payable on debt financing is always tax deductible in nature and hence would be higher due to a higher rate of corporate tax

D) benefits which are associated with interest rate reduction is always traded off with cost of financial distress in order to determine whether to take a large amount of debt or not.

E) A compan which is having a higher amount of cash will always you preferring a high amount of debt because its liquidity would be higher in able to fund the debt repayment