Corruption can affect government debt through a number of channels. Tanzi and Davoodi (2002) argue that corruption leads to an increase in public expenditure. As observed by Kaufmann (2010) in order to maximize rent-seeking, government officials could be more inclined towards large capital investments at the cost of labor-intensive ones. Accordingly, if a government finances its expenditure through increased debt, in the event of corruption, there is need for a higher stock of debt leading to higher costs of servicing that debt. Corruption can not only increase the size of public expenditure but also change the composition of public expenditure away from vital sectors such as health and education (Mauro 1998, Wei 2001) towards sectors which involve greater secrecy and less transparency such as defence. Military expenditure may not be closely monitored by tax and customs authorities or be subject to the usual auditing and other legalities (Gupta et al. 2001a). In the event that large scale investment projects and public expenditures such as 1 There is a literature which investigates the issue of corruption and institutions: See for example, La Porta et al (1999), Shleifer and Vishny. (1993). defence are financed by borrowing, public debt and debt servicing costs could increase (Kaufmann 2010). Corruption is additionally associated with a larger shadow economy. A large shadow economy reduces the ability of a government to raise tax revenues (Schneider et al. 2010, Kaufmann 2010). A government has to resort to borrowing to finance projects when there is a fall in tax revenues. Therefore the more corrupt a government, a larger proportion of tax revenues would go into bribe payments which can reduce revenues requiring more borrowing. This can lead to a vicious cycle of corruption and borrowing. Therefore a second contribution of the study is to see if the size of the shadow economy, government expenditure and military expenditure increase the negative effect of corruption on public debt. This will be examined by introducing interaction terms between and these variables and corruption. Question 1. Paraphrase this to avoid plagiarism