How do Nations Borrow Money

It is amazing how many people strive every day for money, and yet have no idea of how money works. If you ask them what a piece of currency means, what a rate of exchange is, or how a depression is different from a recession, you often get a blank look. You would think, like any good hunter, one would take the time to get to know the prey thoroughly.
Take one issue that we often hear bandied about on the evening news - how does a nation borrow money? Because you hear about “national debts” all the time, but how does a nation get into debt?

The three primary ways nations do this is to either (a) issue bonds, which are a way to borrow money from its own citizens, (b) borrow from international banking organizations like the World Bank, the International Monetary Fund, or the Asian Development Bank, and (c) borrowing from another nation.

Government Treasury Bonds are simply sold to the citizens (or anybody else who cares to invest) and then purchased back on the date of maturity at a loss reflecting the minor interest. The interest earned can be very low, since the security is so high. The bonds are normally issues during times of great need, such as the World War 2 Bonds. These bonds are bought and sold in the open market and their yield also varies.

When a country borrows from an international banking institution, the country has to specify what the purpose of the funds are going to be and the inspectors from these institutions then may visit the country to appraise the project or otherwise audit the process. Keep in mind that these banks are businesses just like any other, and they must also be regulated by international law. It is easy to run into diplomatic problems. But once they are reasonably assured that they are making a choice both profitable and internationally legal, they can then set the loan amount, terms, and rate of interest, just like when you get a home loan at the bank.

The third way, borrowing from another country, is trickier. There are all kinds of ulterior motives involved when one country loans cash to another. Two countries might decide to ally their resources to fight a mutual natural disaster, or they might loan money to a country during war to gain an ally. They might do it just to protect a nearby foreign interest. It is not too far a stretch to see a country borrow money strictly for diplomatic reasons even when they don’t actually need the funds - after all, alliances work both ways. If you loaned half a trillion to Ecuador and then they got invaded, you’d send an army or two to see the country doesn’t get taken over, wouldn’t you?

In addition, a country may be obligated to do other favors in lieu of paying back a debt. For instance, you’d be more likely to let a country build a base on your soil if you were already indebted to them. You’re hardly in a position to argue there. For this reason, the United States consistently loans money to countries which it knows have no way of paying them back. Because even more valuable than getting cash back is knowing that, when you need a favor in that corner of the globe, you know who to call.

However, if you simply have a personal interest in borrowing money for your business, see Loans Only. It has helpful information on all kinds of loans and finance.

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