Partially odious debts?

Law and Contemporary Problems

Volumn 70, Issue 4, 2007, Pages 47-80

  Ben Shahar, Omri ^a   Gulati, Mitu ^b  

^a UNIVERSITY OF MICHIGAN   (United States)

^b DUKE UNIVERSITY   (United States)

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EID: 43049159458     PISSN: 00239186     EISSN: None     Source Type: Journal    
DOI: None     Document Type: Article

References (86)

1. See ERNST FEILCHENFELD, PUBLIC DEBTS AND STATE SUCCESSION (1931);
2. M.H. Hoeflich, Through a Glass Darkly: Reflections Upon the History of International Public Debt in Connection With State Succession, 1982 U. ILL. L. REV. 39 (1982).
3. For a contemporary overview, see Lee C. Buchheit et al., The Dilemma of Odious Debts, 56 DUKE L.J. 1201, 1208-24 (2007).
4. Although we have not found analysis of this comparative-fault perspective among contemporary commentators on the odious debt subject, it appears to have been considered over a century ago in the context of the repudiation of debts by the various American states. See WILLIAM A. SCOTT, THE REPUDIATION OF STATE DEBTS (1902). The state debts that Scott was analyzing had often been incurred by corrupt legislatures and governors, sometimes in violation of the state's own laws. The question then was how to allocate liability between the "State and the innocent bondholders" once the corrupt legislature or governor was gone.
5. Id. at 201. And part of the answer to the question was framed in negligence terms - that is, whether the bondholders had inadequately investigated the legal legitimacy of the bond issuance in question.
6. Id. at 202.
7. Although not always articulated in these terms, the insight that creditors are often in a better position to prevent the harm in question appears to drive many of the calls for increased creditor liability for odious debts. See, e.g., Kunibert Raffer, Risks of Lending and Liability of Lenders, 21 ETHICS AND INT'L AFFAIRS 85 (2007) (making a similar point about the inefficiency of a system that does not require creditors in the sovereign-lending context to exercis due cafe);
8. JOSEPH HANLON, OPEN UNIVERSITY, DEFINING ILLEGITIMATE DEBT AND LINKING ITS CANCELLATION TO ECONOMIC JUSTICE 11 (2002), available at http://www.odiousdebts.org/odiougdebts/publications/ DefiningIllegtimateDebt.pdf (discussing creditor responsibility on account of its negligence in the making of many of these loans).
9. On the relationship between odious debt liability and priority, see also Adam Feibelman Contract, Priority and Odious Debt, 85 N.C. L. REV. 727 (2007) (suggesting that the issue of odious debt liability is best understood as a matter of inter-creditor priority);
10. Buchheit et al, supra note 1, (suggesting the application of a version of Veil Piercing doctrine to the odious debt context and arguing that implicit in Veil Piercing is a notion of priorities based on relative levels of innocence of the various investors).
11. See generally Paul D. Carrington, Law and Transnational Corruption: The Need for Lincoln's Law Abroad, 70 LAW & CONTEMP. PROBS. 109 (Autumn 2007).
12. Among the articles in this symposium that emphasize the foregoing point are Albert H. Choi & Eric A. Posner, A Critique of the Odious Debt Doctrine, 70 LAW &. CONTEMP. PROBS. 33 (Summer 2007);
13. Anna Gelpern, Odious, Not Debt, 70 LAW & CONTEMP. PROBS. 81 (Summer 2007);
14. Tom Ginsburg & Thomas S. Ulen, Odious Debt, Odious Credit, Economic Development, and Democratization, 70 LAW. & CONTEMP. PROBS. 115 (Summer 2007).
15. The recent decision by the U.K. government to shut down its corruption probe of an arms deal between a U.K. company and the Saudi government in response to the threat by the Saudi government to scuttle a potential arm deal illustrates the general point being made in the text. See Saudi Defense Deal Probe Ditched, BBC NEWS, Dec. 15, 2006, available at http://news.bbc.co.uk/1/hi/business/6180945.stm (last visited Sept. 5, 2007), in which Lord Goldsmith, the Attorney General, justifies the dropping of the probe as a matter of balancing domestic public interests (presumably the arms contracts that would produce domestic jobs) versus the rule of law.
16. The intellectual history of this topic has been described in detail by a number of articles (including many in this symposium) and we will not reinvent the wheel by including citations for every historical fact. Interested readers who want citations for the factual assertions made in the subsection can look to Buchheit et al., supra note 1;
17. Tai-Heng Cheng, Renegotiating the Odious Pebt Doctrine, 70 LAW & CONTEMP. PROBS. 7 (Summer 2007);
18. James Feinerman, Odious Debts, Old and New: The Legal Intellectual History of an Idea, 70 LAW & CONTEMP. PROBS. 193 (Autumn 2007);
19. ASHFAQ KHALFAN, JEFF KING & BRYAN THOMAS, CTR. FOR INT'L SUSTAINABLE DEV. LAW, ADVANCING THE ODIOUS DEBT DOCTRINE (2003), http://www.odiousdebts.org/odiousdebts/publications/ Advancing_the_Odious_Debt_Doctrine.pdf.
20. See Buchheit et al., supra note 1.
21. See Kris James Mitchener & Marc Weidenmier, SUPERSANCTIONS AND SOVEREIGN DEBT REPAYMENT (2005), http://papers.ssrn.com/sol3/ papers.cfm?abstract_id=760165 (describing the importance of "gunboat diplomacy" as a sanctioning mechanism in the 1870-1913 period).
22. Although contemporary writers in the odious debt literature have not plumbed Sack's own motives, they are perhaps worth investigating given his contemporary revolutionary status among at least some of those who are urging the adoption of a Sackian doctrine. Examining Sack's motives might cast suspicion on the value of the version of the doctrine he proposed. Sack was a Russian émigré to France at the time that he articulated his odious debt doctrine; he had fled the communist regime, having been closely tied to the Tsarist regime. In France at the time, there was a financial crisis because the communist regime that took over Russia was refusing to pay the Tsar's debts. A large portion of the lending to the Tsar had come from the bond purchases of the French public. And the French public was incensed at the refusal of the communist regime to pay the Tsar's debts. Viewed in this light, one might ask whether Sack's articulation of a highly narrow odious debt doctrine (Sack's writings confirm that he was no friend of the communist overthrow of the Tsar) was done with the goal of ensuring that none of the Tsarist bonds held by Sack's French hosts could be deemed uncollectible under an odious debt doctrine. Cf. Gunter Frankenberg & Rolf Knieper, Legal Problems of the Overindebtedness of Developing Countries: The Current Relevance of the Doctrine of Odious Debts, 12 INT'L J. SOC. L. 415, 427 (1984) (noting that the French commentators of the 1920s, notably Jèze (1921) and Sack (1927), were at the extreme end of the spectrum in terms of their eagerness to protect creditor claims).
23. See Charley Cheney Hyde, The Negotiation of External Loans with Foreign Governments, 16 AM. J. INT'L L. 523, 531 (1922).
24. See Andy Metzger, A Mission Accomplished, LEGAL TIMES, Apr. 10, 2006, at 1.
25. For a fuller discussion of the odious debt doctrine and its modern reincarnation in the context of Iraq, see Jai Damle, The Odious Debt Doctrine After Iraq, 70 LAW & CONTEMP. PROBS. 139 (Autumn 2007).
26. See also Anna Gelpern, What Iraq and Argentina Might Learn from Each Other, 6 CHI. J. INT'L L. 391 (2005).
27. See Kunibert Raffer, Odious, Illegitimate, Illegal, or Legal Debts-What Difference Does it Make for International Chapter 9 Arbitration?, 70 LAW & CONTEMP. PROBS. 221 (Autumn 2007) (discussing the Norwegian initiative).
28. See Lester Pimentel & Jeb Blount, Ecuador Calls Foreign Debt "Illegitimate," May Default on 60%, Jan. 19, 2007, BLOOMBERG NEWS (BLOOMBERG.COM), http://www.gata.org/node/4722 (last visited Sept. 5, 2007).
29. See Buchheit et al., supra note 1, at 55-56.
30. Seema Jayachandran & Michael Kremer, Odious Debt, 96 AM. ECON. REV. 82, 90-91 (2006);
31. see also Patrick Bolton & David Skeel, Odious Debt or Odious Regimes?, 70 LAW & CONTEMP. PROBS. 83 (Autumn 2007) (proposing a workable definition of what an odious regime might be ).
32. Jonathan Shafter, The Due Diligence Model: A New Approach to the Problem of Odious, Debts, 21 ETHICS & INT'L AFF. 49, 50-51(2007).
33. The numerous institutional barriers to the setting up of an international regime to govern and police odious debts are discussed in Paul Stephan, The Institutionalist Implications of an Odious Debt Doctrine, 70 LAW & CONTEMP. PROBS. 213 (Summer 2007).
34. See Bolton & Skeel, supra note 18, at 98-99;
35. see also Stephania Bonilla, A LAW AND ECONOMICS ANALYSIS OF ODIOUS DEBTS 22-29 (2006), http://papers.ssrn.com/sol3/ papers.cfm?abstract_id=946111.
36. For another proposal to base international trade liability on the "buyer in good faith" doctrine, see Leif Wenar, Property Rights and the Resource Curse (Apr. 5, 2007) (unpublished manuscript, on file with authors).
37. This appears to be the basic idea behind the Publish What You Pay (PWYP) iniative. Under the PWYP, a group of thirty NGOs have requested companies doing business in resource-rich developing countries to disclose publicly what they are paying for resources such as oil, gas, and minerals - the idea being that the sovereigns will be less likely to misbehave if they are more accountable. For details, see Welcome to the Publish What You Pay Website, http://www.publishwhatyoupay.org/english/ (last visited Mar. 27, 2007).
38. Along these same is the Extractive Industries Transparency Initiative (EITI) that aims to attack the "resource curse" by improving transparency and accountability. An EITI report is a publicly accessible external audit of extractive resource sales (for example sales of oil, copper, and diamonds) that the government in question implements so that the citizens can see how much the government has generated in income from the sale of the state's natural resources. For details, see EITI: About EITI, http://www.eitransparency.org/section/abouteiti (last visited Sept. 5, 2007).
39. See, e.g., George G. Triantis & Ronald J. Daniels. The Role of Debt in Interactive Corporate Governance, 83 CAL. L. REV. 4, 1073, 1079, 1085-88 (1995).
40. That is, unless the lender is explicitly colluding with the despot to enable the stealing from the populace. But this is the extreme case in which the creditor's fault in the matter is readily apparent.
41. Actions that creditors could take in terms of contract-based governance are discussed in Feibelman, supra note 4. Feibelman differs from us in that he is optimistic that creditors are likely to, on their own or with the assistance of the official sector, make these contractual reforms to police odious debt even in the absence of a legal scheme that pushes them to coordinate such a reform. Id.
42. U.C.C. § 2-609 (2007).
43. See David Gray, Devilry, Complicity, and Greed: Transitional Justice and Odious Debt, 70 LAW & CONTEMP. PROBS. 137 (Summer 2007) (emphasizing that despots rarely, if ever, act in isolation; usually, at least a portion of the local populace and the international community supports them).
44. For such a proposal, see Wenar, supra note 22 (suggesting that loss should lie on buyers who paid the dictators for the right to extract natural resources).
45. In this sense, the liability regime proposed here differs from proposals to place liability on creditors and credit card issuers in domestic markets for what some commentators view as "reckless lending." See, e.g., John A.E. Pottow, Private Liability for Reckless Consumer Lending, 2007 U. ILL. L. REV. 405 (2007).
46. On the "crushing" effect of strict liability, see STEVEN SHAVELL, ECONOMIC ANALYSIS OF ACCIDENT LAW 108 (1987).
47. The possibility that this borrowing made it possible for the dictator to steal from other sources, such as tax revenues, is discussed below. See infra Part IV.A.
48. See Buchheit et al., supra note 1, at 16.
49. See id.
50. The modern literature on odious debt follows this all-or-nothing approach, with some taking the position that there should be no odious debt liability ever for creditors and the others proposing full forgiveness under a certain set of conditions (or at least, burden shifting to the creditors to have to prove non-odiousness). More specifically, even if some of these commentators implicity envision a partial-odiousness scheme, we are not aware of any discussions of it. For examples of contemporary commentators calling for the implementation of something akin to the Sackarr all-or-nothing scheme, see PATRICIA ADAMS, ODIOUS DEBTS: LOOSE LENDING, CORRUPTION AND THE THIRD WORLD'S ENVIRONMENTAL LEGACY (1991);
51. NOREENA HERTZ, THE DEBT THREAT: HOW DEBT IS DESTROYING THE THIRD WORLD 129-41 (2004). This all-or-nothing feature is also characteristic of agency law, which some modern commentators have proposed be used (at least by analogy) in the contemporary odious debt context.
52. See Deborah DeMott, Agency by Analogy: A Comment on Odious Debt, 70 LAW & CONTEMP. PROBS. 157 (Autumn 2007) (suggesting that the all-or-nothing characteristic of agency law makes it an unattractive tool in many contexts).
53. This intercreditor perspectiveis discussed also in Feibelman, supra note 4.
54. 11 U.S.C. § 510(c) (1994).
55. The subject of why governments are reluctant to tax and instead prefer to borrow has, as one might expect, been much discussed in the tax literature. See, e.g., Neil Buchanan, Social Security, Generational Justice, and Long-Term Deficits, 58 TAX L.REV. 3, 275 (2005);
56. Daniel Shaviro, Reckless Disregard: The Bush Administration's Policy of Cutting Taxes in the Face of an Enormous Fiscal Gap, 45 B.C. L. REv. 5, 1285 (2003-2004).
57. With Iraq, private credits made up approximately $20 billion of the $120 billion in unpaid debts that the Saddam regime had accumulated at the time of his overthrow. See Gelpern, supra note 6, at 89.
58. The populace may be relatively powerless under the despot, but the despot is always going to be worried that something will happen to solve the collective-action problem and produce an uprising. More sophisticated expositions of the basic idea that what despots fear is being overthrown look to the types of groups that are most likely to lead an uprising (for example, the military or some political party) and the question of how the despot either co-opts or suppresses them to stay in power. See, e.g., BUENO DE MESQUITA, ET AL., THE LOGIC OF POLITICAL SURVIVAL (2003).
59. In response to our draft, a leading expert in sovereign lending estimated for us that approximately eighty percent of what would qualify as odious lending was likely in the form of funding for military spending. E-mail from Lee C. Buchheit (Dec. 25, 2006) (on file with authors). There is, of course, a long history of scholarship pointing to the involvement of large banks in the funding of wars around the globe. The classic work on this topic is H.C. ENGELBRECHT & F.C. HANIGEN, MERCHANTS OF DEATH: A STUDY OF THE INTERNATIONAL ARMAMENT INDUSTRY (1934).
60. See also T. Hunt Tooley, Merchants of Death Revisited: Armaments, Bankers and the First World War, 19 J. LIBERTARIAN STUD. 1, 37 (2005).
61. Military spending is potentially problematic for at least three reasons. First, the items are typically big-ticket matters (jet planes, warships, tanks) that have no clearly defined market price. The lack of a visible market price means that outside observers will find it hard to tell, for example, whether a warship really cost $800 million or just $600 million. Second, the government has the ready excuse of "national security" for keeping matters secret from both the creditors and the public. So, if the planes are second-rate and keep crashing into the ocean, the public might never know that the $80 million plane was really an $8 million bucket of bolts. Vis-à-vis the hypothetical bank issuing, for example a letter of credit, it is likely that the invoice for arms will not specify "poison gas," but will rather say something vague along the lines of "special equipment." Third, this is an item that can always be used to harm the populace. Chicken farms or children's hospitals, by contrast, do not present similar dangers.
62. For example, in the scheme set out by Buchheit, Gulati, and Thompson, lenders for military spending would probably find themselves immune because of the lack of clear evidence of wrongdoing. See Buchheit et al., supra note 1.
63. Eighty-five years ago, Charles Cheney Hyde made precisely this point in his admonition to lenders, explaining to lenders that allowing ambiguity in the use of proceeds was an invitation to later repudiation by debtors. See Hyde, supra note 12, at 531-32.
64. Hyde was not saying that lenders should bear such a burden, rather that the climate of the time was such that a failure to exercise care might result in repudiation. He then goes on to lecture creditors on the prudent measures they should take when arranging the loans. Id. at 539-41.
65. Richard Craswell & John E. Calfee, Deterrence and Uncertain Legal Standards, 2 J.L. ECON: & ORG. 279 (1986);
66. STEVEN SHAVELL, ECONOMIC ANALYSIS OF ACCIDENT LAW 79-83 (1987).
67. Intermediaries who are in the business of ascertaining compliance with contract standards exist in similar settings. For example, firms operating in today's global economy often have to outsource portions of their production into countries where traditional enforcement mechanisms such as courts are underdeveloped. These firms have to use alternative mechanisms to ensure that they receive high quality products and that their suppliers comply with matters such as labor practices and pollution. To provide the necessary ongoing monitoring, an entire "assurance" industry has developed that is a combination of private assurance providers and NGOs. See Margaret Blair et al., Assurance Services as a Substitute for Law in Global Commerce 4-5 n. 12 (Vanderbilt Univ. Law School, Law and Econ. Working Paper No. 07-06, 2007), http://papers.ssrn.com/sol3/papers.cfm?abstract_id=976895, (observing that one of the earliest uses of "assurance" services may have been, in a sovereign context, where boards of state accountants verified state revenues and expenditures in ancient Athens 500 to 300 B.C.
68. (citing George J. Costouros, Auditing the Athenian State of the Golden Age (500-300 B.C.), ACCT. HISTORIAN'S J. 41, 41-50 (Spring 1978)). What creditors would be looking for in our regime are the services of similar, assurance firms - firms who would monitor the use of the money.
69. See Damle, supra note 14, at 154 (describing the recent efforts by the World Bank to police state corruption by restricting funds in circumstances in which corruption levels are deemed high).
70. See George Triantis & G. Mitu Gulati, Nineteenth Annual Corporate Law Symposium: Debt as a Lever of Control: The Economics of Creditor Control: Sovereign Versus Corporate Debt, 75 U. CIN. L. REV. 977 (2007).
71. For the foregoing to happen effectively, though, the World Bank would have to work at engineering at least four actions: First, provide reasonably clear guidance on its policies regarding lending to governance-challenged countries; second, promise to be more transparent for its reasons for disapproval of a borrowing request; third, promote action by private-sector lenders (perhaps with the assistance of trade associations) to include in debt contracts (a) a condition precedent to drawdown that the country not have been refused a drawing under an MDB facility based on governance problems and possibly (b) an event of default triggered by an inability to draw from the MDBs for, say, a period of nine months as a result of governance issues; and fourth, the event-of-default point would be strengthened significantly if the Bank were to itself have a similar event of default in its own debt contracts. If the coverage were widespread enough in the market, sovereigns would have a huge incentive to clean up corruption. They could no longer play off the official and private lenders against each other, which is what happens now.
72. Kremer & Jayachandran, supra note 18, at 90.
73. The Oil-for-Food program illustrates the point. Misbehaving creditors cooperated with the rogue regime to fool others into believing that the resources Iraq was receiving were going only to further vital humanitarian goals. Now, in retrospect, we see that only a small fraction of those funds that were supposed to go for food and health actually went to those purposes. We are grateful to Jeffrey Meyer, one of the investigators of the Oil-for-Food program, for this point. For additional details, see JEFFREY A. MEYER & MARK G. CALIFANO, GOOD INTENTIONS CORRUPTED: THE OIL-FOR-FOOD SCANDAL AND THE THREAT TO THE U.N. (2006).
74. There is an argument that the current regimes in South Africa and Iraq could affirmatively sue some of the creditors and corporations that engaged in corrupt dealings that helped prop up the prior regimes in those countries. And yet, in neither of these cases have the current regimes been willing to bring these actions. And this is true even where there was concrete evidence produced by a neutral, external body that could have been the basis for suits against a number of foreign corporations - as in the case of Iraq as a result of the Oil-for-Food program investigations. See Mark Turner, et al., Iraq's Oil-for-Food Scandal Perpetrators Go Unpunished, FIN. TIMES, Dec. 8, 2006, at 6 available at http://search.ft.com/ ftArticle?queryText=oil+for+food&aje=true&id=061208006300.
75. For an explication of this problem, see Carrington, supra note 5.
76. Id.
77. The idea that some bad creditors engage in actions that potentially reduce economic growth and the likelihood of the good creditors being repaid is one that has been in the news recently. In the United Kingdom, in a case involving the Republic of Zambia, a vulture fund allegedly bribed officials in the goverranent to refuse a restructuring offer that would have riduced the nation's debt dramatically and instead allow the sale of the debt to a vulture fund that planned to sue Zambia for the full amount. See Alan Beattie, 'Vulture Fund' in Zambia Case Gain, FIN. TIMES, Feb. 16, 2007, at 6, available at http://www.ft.com/cms/s/23104b92-bd5e-11db-b5bd-0000779e2340.html. Also illustrative is the ongoing litigation in New York involving the Republic of Congo, where a different vulture fund is alleging that the Congolese government has been colluding with certain other bad creditors to corruptly siphon out assets in a manner that has restricted payment to the good creditors.
78. See John Donnelly, In Oil-Rich Nation, Charges of Skimming, BOSTON GLOBE, Nov. 25, 2005, at A1.
79. See Joseph Stiglitz, Odious Rulers, Odious Debts, ATLANTIC MONTHLY, Nov. 2003, at 39, 42, available at http://www.theatlantic.com/doc/prem/200311/stiglitz.
80. See Stephen J. Choi & G. Mitu Gulati, Innovation in Boilerplate Contracts: An Empirical Examination of Sovereign Bonds, 53 EMORY. L.J. 929, 930 (2004);
81. Anna Gelpern & Mitu Gulati, Public Symbol in Private Contract, WASH. U. L. REV. (forthcoming 2007), available at http://www.ssrn.com (manuscript at 18-25).
82. See Feibelman, supra note 4.
83. See Raffer, supra note 15 (citing Hanlon on this point). In the discussion that follows, we do not use the term laundering because to us that connotes illegal conduct under current domestic U.S. and other laws. The conduct being described, though, is not clearly illegal under current domestic laws.
84. Ecuador, in its current threat to repudiate certain of its debts, has targeted loans made to the military rulers from the 1970s. Those loans have subsequently been refinanced using new loans. Ecuador is asserting that all of the refinancings are tainted by the original bad purpose for the loans and, therefore, will not get repaid. For our purposes, the point is that creative refinancing does not appear to have worked with Ecuador - at least, not yet. See Pimentel & Blount, supra note 16.
85. Odiousdebt.org, News Articles - Kenya, http://www.odiousdebts.org/ odiousdebts/index.cfm?DSP=content&ContentID=16728 (last visited Feb. 15, 2007) (full opinion on file with authors).
86. See Odiousdebt.org, News Articles - Kenya, http://www.odiousdebts.org/odiousdebts/index.cfm?DSP= content&ContentID=16728 (last visited Feb. 15, 2007). Note that the failure of the businessman to successfully argue a restitution claim may have in part been a function of the failure to adequately argue it. Our purpose in using the example, though, is to make a conceptual point.