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      Question

      If a government defaults on the value of its debt by

      3/4, this is the same as imposing a ____ tax on interest and repayment of the principal.
      A 60% Correct Answer Incorrect Answer
      B 75% Correct Answer Incorrect Answer
      C 45% Correct Answer Incorrect Answer
      D 90% Correct Answer Incorrect Answer
      E 80% Correct Answer Incorrect Answer

      Solution

      I borrow 100 euros from you and promise to pay you back next year the principal and 10%. That means I owe you 110 euros next year. I now unilaterally declare that I will only honour 25 euros of debt to you. Next period I pay you 27.5 euros [25 + 1/4(10)]. That is the same amount as though announcing to you next period that I would tax your 110 euros 75% (i.e., you keep only .25*110=27.5)

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