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# The debt crisis affecting many developing countries has had

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Joined: 28 Oct 2012
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Updated on: 21 Oct 2018, 21:24
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The debt crisis affecting many developing countries has had three causes: imprudent management and borrowing by debtor countries; imprudent lending by banks; and rising interest
rates. The rise in real interest rates to about 6 percent by 1982 increased the burden on borrowers and completely changed the nature of the debt problem. Such an increase had not been seen previously. In past debt crises, when loans were made at fixed rates, real interest rates rose with deflation. But once price levels stabilized, the interest burden would be higher only to the extent of the proportional decline in price levels. And it remained quite possible that inflation would eventually reduce the burden. In this crisis, though, the real interest rate has risen and stayed high, and inflation has brought no relief. During the 1980s, fear of financial loss led U.S. commercial banks to sharply curtail their lending activity in debtor countries. In 1982, nine large banks had over 250 percent of their capital in loans to developing countries; by mid-1986, the nine banks had reduced their activities to the
point where they had sufficient equity and reserves to withstand potential losses. Although banks have stabilized their positions, many continue to carry developing-country debt at face value.

Present bank strategies deal with the debt crisis by extending the effective maturity of loans. Although any method that reduces the flow of resources from debtor countries will help in the short run, further lending promises little relief to the debt problem. So long as real interest rates remain high, developing countries will remain in debt. There are two choices. Either the piecemeal approach continues, or some form of debt relief occurs. For years, developing countries have paid the price of low growth and significant falls in real wages while making cash transfers to service their debt. Citizens of developing countries are kept at low levels of income for the sake of capital gains for banks and their shareholders. With
sensible debt relief, developing countries and lending institutions can begin to formulate growth-oriented development policies. This should be possible without increasing burdens on
taxpayers in lender countries.

1. The primary purpose of this passage is to discuss

(A) the causes of the debt crisis and potential solutions to it
(B) the effects of rising interest rates
(C) American banking in the 1980s
(D) the future of banking in the U.S.
(E) economic conditions in developing countries

2. The passage provides information that helps to answer which of the following questions?
I. Did errors of economic management by developing countries contribute to the debt crisis?
II. Are steps currently being taken to alleviate the debt crisis?
III. Do taxpayers in lending countries support the notion of debt relief?

(A) I only
(B) II only
(C) I and II only
(D) II and III only
(E) I, II, and III

3. Which of the following characterized responses to the debt crisis in the 1980s?

(A) Increased pressure on debtor countries to pay interest due on loans
(B) An increase in the percentage of their total capital large banks devoted to foreign loans
(C) A decrease in the funds designated by banks to cover potential losses
(D) Reliance by banks on inflationary pressure to reduce debt levels
(E) A decline in bank lending and an increase in capital reserves

4. The author suggests that methods currently in place for dealing with the debt crisis are inadequate because they

(A) increase the upward pressure on real interest rates without allowing any opportunity for reduction
(B) allow real wages to rise at the expense of economic growth in debtor countries
(C) fail to address problems of mismanagement in debtor and creditor countries
(D) do not promote long-term growth
(E) sacrifice a reduction of real interest rates for a short-term increase in loan maturity

5. In the passage, the author identifies all of the following as contributing to the current debt crisis EXCEPT

(A) careless borrowing by developing countries
(B) sustained high real interest rates
(C) unwillingness of banks to transfer the burden of loans to other countries
(D) unwise decisions made by commercial lending institutions
(E) failure of inflation to reduce the interest burden

Originally posted by kapil1990 on 28 Oct 2012, 11:25.
Last edited by workout on 21 Oct 2018, 21:24, edited 1 time in total.
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28 Oct 2012, 11:40
The answers as per me should be:
1. A
2. C
3. E

@kapil: kindly let me know OA.
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28 Oct 2012, 12:58
OA1. A
2. C
3. E
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25 Oct 2014, 06:21
1
What could possibly be wrong with Option A of Question 3 ??
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10 Feb 2015, 05:07
earnit wrote:
What could possibly be wrong with Option A of Question 3 ??

This is not being explicitly mentioned in the passage.
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05 Sep 2015, 19:39
A
C
D
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12 Nov 2015, 10:47
1.-A
2.-C
3.- E
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21 Aug 2018, 02:54
Official Explanation of Q2? - how is 1) inferred from passage
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21 Aug 2018, 03:43
1
PearlRay wrote:
Official Explanation of Q2? - how is 1) inferred from passage

The debt crisis affecting many developing countries has had three causes: imprudent management and borrowing by debtor.

Consider kudos if that helped.

Sent from my ONEPLUS A3003 using GMAT Club Forum mobile app
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17 Sep 2018, 09:34
1
workout, can you add these two missing questions?

4. The author suggests that methods currently in place for dealing with the debt crisis are inadequate because they
(A) increase the upward pressure on real interest rates without allowing any opportunity for reduction
(B) allow real wages to rise at the expense of economic growth in debtor countries
(C) fail to address problems of mismanagement in debtor and creditor countries
(D) do not promote long-term growth
(E) sacrifice a reduction of real interest rates for a short-term increase in loan maturity
OA:

5. In the passage, the author identifies all of the following as contributing to the current debt crisis EXCEPT
(A) careless borrowing by developing countries
(B) sustained high real interest rates
(C) unwillingness of banks to transfer the burden of loans to other countries
(D) unwise decisions made by commercial lending institutions
(E) failure of inflation to reduce the interest burden
OA:
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12 Oct 2018, 23:09
Why isnt A the right answer choice, and E ?
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20 Oct 2018, 03:29
1
Hi workout here's another RC that has actually has 4 Questions, would you want me to make a better onw with explanation and more details or I can just post the explanations on this post itself.

Let me know

Thanks
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20 Oct 2018, 17:05
saviofernanz wrote:
Hi workout here's another RC that has actually has 4 Questions, would you want me to make a better onw with explanation and more details or I can just post the explanations on this post itself.

Let me know

Thanks

saviofernanz

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Updated on: 21 Oct 2018, 04:09
1
workout wrote:
saviofernanz wrote:
Hi workout here's another RC that has actually has 4 Questions, would you want me to make a better onw with explanation and more details or I can just post the explanations on this post itself.

Let me know

Thanks

saviofernanz

Here you go workout, please add these Questions to the RC also the Question no 2 in this post is not from the book Kaplan 800 Advanced seems to be made up, if your keeping that Question please make it Question no 5 cause it won't match the answers and explanations i put up.

3. The author suggests that methods currently in place for dealing with the debt crisis are inadequate because they
(A) increase the upward pressure on real interest rates without allowing any opportunity for reduction
(B) allow real wages to rise at the expense of economic growth in debtor countries
(C) fail to address problems of mismanagement in debtor and creditor countries
(D) do not promote long-term growth
(E) sacrifice a reduction of real interest rates for a short-term increase in loan maturity
4. In the passage, the author identifies all of the following as contributing to the current debt crisis EXCEPT
(A) careless borrowing by developing countries
(B) sustained high real interest rates
(C) unwillingness of banks to transfer the burden of loans to other countries
(D) unwise decisions made by commercial lending institutions
(E) failure of inflation to reduce the interest burden
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Originally posted by GmatWizard on 21 Oct 2018, 04:00.
Last edited by GmatWizard on 21 Oct 2018, 04:09, edited 1 time in total.
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21 Oct 2018, 04:03

The Debt Crisis.

The concept of a debt crisis is not in and of itself too off-putting, but the passage gets quite dense, especially in paragraph 2, and the questions tend to focus on the most complicated pieces of the passage. What is most challenging about this passage is its use of financial terms such as "capital reserves" and "developing-country debt" without explaining them in any real detail. Also, it throws a lot of numbers and percents at you. The real danger posed by a passage like this is that it will lead unwary test takers to spend an unreasonable amount of time sorting out the details. The writing in the passage itself is not too bad, so it shouldn't take too long to get what you need from the passage and proceed to the questions. An 800 test taker doesn't try to memorize all the details in a passage. He only wades into the details when a question requires him to do so.

Key Points of the Passage Purpose and Main Idea

: The author's purpose is to describe the causes of the debt crisis. Her main idea is that the rise in real interest rates has prolonged the debt crisis, limiting the effectiveness of measures to diminish it.

Paragraph Structure:

Paragraph 1 outlines three causes of the current debt crisis. It blames debtor countries, U.S. banks, and the increased interest rate. It also explains why this debt crisis has been more difficult to resolve than those before it.
Paragraph 2 outlines bank strategies for dealing with the debt crisis in the 1980s. Initially, banks scaled back on their loans to debtor countries and, although they are no longer cutting back on loans, the banks haven't increased them either. The banks still do not lend out more than they can cover with their own capital.The criticism of banking strategies continues into paragraph 3. The paragraph describes one potential solution attempted by the banks (extending the maturity date on the loans) but notes its long-term limitations. An 800 test taker jots down a roadmap for every passage, knowing that it's difficult and unnecessary to keep all of the key information in her head.
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21 Oct 2018, 04:06

1.A,

1

. (A) This is a standard "primary purpose" question so you should already have a sense of what the right answer should say. An 800 test taker uses his roadmap to answer "global" (primary purpose or main idea) questions. As we noted in the roadmap, the author's purpose is to describe the causes of the debt crisis, and that's what answer choice (A) says. Notice that this answer choice throws in a curve: instead of using the familiar term (by this point, at least) "debt crisis," (A) defines the debt crisis. Hopefully you saw through this minor effort to confuse you.
(B) focuses only on a detail in the passage: while the passage does mention the harmful effects of rising interest rates, it does so only in the first paragraph. The author did not write this passage with the primary intent to describe those effects, so (B) is not the passage's primary purpose.
(C) is another detail, this time contained in paragraph 2. Again, it is factually correct to say that the author describes American banking in the 1980s and its impact on debtor nations, but the passage does not primarily intend to describe such facts. An 800 test taker always keeps track of the question that was asked.
(D) was not mentioned at all. While paragraph 3 contains a prediction that the problem will continue, it doesn't mention what U.S. banks will do in response. (E) is touched on indirectly in the passage, but even if it were discussed directly that still wouldn't make (E) the right choice. You're not looking for something that's merely true according to the passage, but rather for the passage's main idea. (E) isn't it.

2.

(E) This question asks you to look for general patterns: based on the information in the passage, which of the answer choices fairly summarizes the responses to the debt crisis in the 1980s? You know from your roadmap or from a quick skim that the events of the 1980s are discussed in paragraph 2. Reread that paragraph, focusing on the responses to the debt crisis, and you'll see that banks primarily responded by cutting back on their loans. (E) is closest to this prephrase; while the passage doesn't directly say that banks increase their capital reserves, you can safely infer that they did so based on the information in paragraph 2. (A) is plausible (if banks shrank their loans then it is certainly possible that they pressured debtor countries to pay back some of those loans), but plausible is useless here. The passage doesn't describe pressure for repayment as characteristic of the 1980s, so (A) doesn't cut it.
(В) is exactly the opposite of what we're looking for. Just because (B) deals with the right subject matter, don't overlook the fact that its content is severely off track. An 800 test taker is not fooled by wrong answer choices that use the same words or phrases as the passage. He focuses on what the answer choices mean, not on the individual words they use.
(С) is the opposite of the inference contained in choice (E). Banks appear to have increased, not decreased, the funds they've made available to cover potential losses.
(D) is not mentioned, well, anywhere in the passage, and certainly not in paragraph 2, so we can safely rule it out.

3.

(D) This Inference question asks what the author sees as the problems with the current "solutions" to the debt crisis and is therefore quite specific. We've read about only two solutions: the first is that banks have decreased their loans to debtor nations, and the second is that banks have extended the maturity of the loans to those nations. If you didn't consider the first as a solution, you have a point; it doesn't really solve anything. Still, banks did limit loans in order to decrease the severity of their problem. Regardless, the author doesn't critique the first solution but does comment on the second: extended maturity periods offer only short-term benefits, or answer choice (D).
An 800 test taker prephrases answers to questions whenever possible. While Inference questions are not generally friendly to prephrasing, she takes advantage of those very specific ones that are.
(A) gives banks too much responsibility for the problems that have befallen debtor countries. While the author does say that real interest rates have risen and that inflation hasn't decreased them, she does not blame the banks' attempted solutions for such problems. Indeed, the author says that the interest rates rose because of deflation.
(B) We didn't read anything about the real wages in debtor countries so we certainly can't infer anything about them.
(C) While the skeptical reader may have wondered why the "imprudent management and borrowing by debtor countries" mentioned in paragraph 1 wasn't addressed again in the passage, the fact remains that such problems are not mentioned again, regardless of the reason. The author does not suggest that the debtor and lender countries' solutions have failed; she only specifically blames the attempted solutions of the lender country, or the United States. (E) is contradicted by the passage. It may be tempting at first because it uses the term "short-term," familiar from the passage. Also, it's confusing, particularly at the beginning, but if you took the time to unravel it then you saw that it is inaccurate. Banks have extended, not restricted, loan maturity.

4.

(C) "EXCEPT" detail questions can be cumbersome to answer, but this one is pretty focused. Go back to the passage, especially paragraph 1, and find the causes of the debt crisis (rise in real interest rates, debtor nations' financial mismanagement, U.S. banks' excessive loans, etc.) and then move to the answer choices.
(A) is suggested by the first sentence: debtor countries have had imprudent management and borrowing practices. The implication is surely that they have borrowed more money than they should have.
(B) is clearly stated in the first paragraph, and it's even mentioned a few times later on.
(C) is the correct answer because it's not mentioned in the passage. Aside from the fact that this choice is illogical (other countries would undoubtedly not appreciate the opportunity to carry the loans of debtor countries), it's also unsupported by the passage.
(D) paraphrases one of the problems discussed in paragraph 1, specifically the "imprudent lending by banks." If the loans were imprudent, then it's fair to say that the banks (or "commercial lending institutions"—hopefully you picked up on the rephrasing without much effort) have made "unwise decisions."
(E) is directly expressed at the end of the first paragraph. Inflation normally helps the interest rate to lower, but this time inflation hasn't worked. An 800 test taker reads through all of the answer choices in the Verbal section before making his final choice.

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