FORGOTTEN DEFAULT
On February 18, 1935, the Supreme Court announced its decisions. In each case, justices ruled 5-4 in favor of the government – and against investors seeking compensation. According to the majority opinion, the Roosevelt administration could invoke “necessity” as a justification for annulling contracts if it would help free the economy from the Great Depression. A key question, then, is whether governments seeking to adjust contracts Justice James Clark McReynolds, a Southern lawyer who was U.S. Attorney General during President Woodrow Wilson’s first term, wrote the dissenting opinion – one for all four cases. In a brief speech, he talked about the sanctity of contracts, government obligations, and repudiation under the guise of law. He ended his presentation with strong words: “Shame and humiliation are upon us now. Moral and financial chaos may be confidently expected.” Most Americans have forgotten this episode, as collective amnesia has papered over an event that contradicts the image of a country where the rule of law prevails and contracts are sacred. retroactively may once again invoke the legal argument of “necessity.”
But good lawyers still remember it. Today, the 1935 ruling is invoked when attorneys are defending countries in default (like Venezuela). And, as more governments face down new debt-related dangers – such as unfunded liabilities associated with pension and health-care obligations – we may see the argument surface even more frequently. According to recent estimates, the U.S. government’s unfunded liabilities are a staggering 260% of GDP – and that does not include conventional federal debt and unfunded state and local government liabilities. Nor is this a problem only for America... In many countries, pension and health-related liabilities are increasing, while the ability to cover them is diminishing. A key question, then, is whether governments seeking to adjust contracts retroactively may once again invoke the legal argument of “necessity.” The 1933 abrogation of the gold clause provides abundant legal and economic reasons to consider this possibility. The U.S. Supreme Court agreed with the “necessity” argument once before. It is not far-fetched to think that it may happen again. © Project Syndicate Sebastián Edwards is a Professor of International Economics at UCLA, and author, most recently, of American Default: The Untold Story of FDR, the Supreme Court, and the Battle over Gold .
American Consequences 93
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