The responsibility for long-term borrowing and debt management is critical in public agencies. Particularly in developing countries such as Kenya, imprudent decisions can lead to serious financial problems. Because of this, it is very important for the government officials that oversee borrowing and debt management to have a general understanding of and a degree of familiarity with the different types of debt, the structure of debt, debt instruments, and the process by which bonds are bid and sold.
Debt financing takes place at all levels of government. Despite this reality misunderstanding about the scope and nature of public debt is common, due perhaps to the minimal amount of information that is exchanged about public financial undertakings. Another contributing factor is the unwise attempt to equate public and private debt. Additionally; there has long been an antipathy against borrowing, suggested by the following comment: "It (borrowing) is a system which tends to make us less thrifty-to blind us to our real situation.”
Borrowing is a substitute for taxing citizens immediately, replacing present taxes with future taxes and thus necessitating the payment of interest on the debt. In essence, "public borrowing is a means by which people with relatively low preference for present consumption lend to those with relatively high preference for present consumption. Until the late 1930s government borrowing was considered a very abnormal event. It was referred to as "extraordinary” finance, suggesting that it was a method that was used only during extraordinary times such as war and depression.
Government borrowing can be classified as either current or capital, depending on the purposes for which it is being used. Goods and services to be consumed in a period of a year or less are viewed as current, while those that will be consumed over longer periods (a year or more) are capital expenditures, typically for long-lived physical assets such as schools, utility plants, and highways. Because of the long time span for capital projects, benefits generated and outlays made cannot be easily synchronized.
While the government may run deficits as a permissible policy to fund current spending, this option is closed to local government and to most other not-for-profit agencies. Borrowing for current operations is not permitted for periods longer than a year. Such borrowing typically coincides with tax revenue inflow for the period or with grants from other governmental units. Short-term debts so created are known as tax or revenue anticipation loans.
Besides the restrictions on current borrowing, most countries have constitutional provisions limiting their debt-creating capacity. They require a constitutional amendment beyond a specified debt limit. State restrictions on local government debt are quite specific and stringent. Usually there are stipulations regarding the following:
The purposes of the borrowing,
Methods indicating how the debt should be incurred
The amount of local debt,
The interest rate,
The term of the debt,
The retirement provisions, and
The form of the debt.