National debt, or government debt, is the total amount of money that the government has borrowed from any source. Every level of government, from the federal to the municipal levels can have its own debt. All these debts are included in the total national debt.
There are two types of national debt: internal and external. Internal debt is funds borrowed from sources within the country. The money for this type of debt is raised by selling securities, government bonds, and bills. External debt is funds borrowed from foreign lenders. This can include private sources, other countries, and the International Monetary Fund (IMF).
When a country is planning a large amount of spending or is anticipating a shortfall in revenue, it looks to borrow funds to meet the budgetary needs. Small cities and municipal governments often report on their credit rating. They are allowed to take out loans or mortgages to fund specific types of activity. The security for the loan is provided by the state, which will honor the debt, should the city be unable to pay as expected.
Revenue or income for the government is in the form of tax collection and provision of services. Governments cannot go bankrupt, as they would have to stop providing services and another government would be required to take over those obligations. Instead, governments must report their spending and borrowing activities to the federal government. They have the right to refuse to sign loans, cancel debts, and remove the government leadership from office.
Anyone who owns government bonds or securities is lending money to the government. Those financial instruments are issued as an investment, with a fixed interest payment. The interest rate on government bonds is typically lower than the private sector, but they are guaranteed.
Foreign investors have two options: purchase government bonds or buy government debt. The purchases of government bonds by foreign investors have specific rules and guidelines. This type of activity is a combination of wealthy individuals, investment groups, and foreign governments.
Purchasing government debt is usually restricted to other governments. In this type of financing, the foreign investor reviews the details of the debt and the terms. They have the resources to purchase large amounts of debt and to provide an income stream to the issuing country. As with all debt, the risk of relying too heavily on debt is that you are committing a significant portion of future income to paying down this national debt. The only methods available to a government to raise money are to increase tax or sell assets.