Partially Odious Debts

I INTRODUCTION The despotic ruler of a poor nation borrows extensively from foreign creditors. He spends some of those funds on building statues of himself, others on buying arms for his brutal secret police, and he places the remainder in his personal bank accounts in Switzerland. The longer the despot stays in power, the poorer the nation becomes. Although the secret police are able to keep pro-democracy protests subdued by force for many years, eventually there is a popular revolt. The despot flees the scene with a few billion dollars of his ill-gotten gains. The populist regime that replaces the despot now has to pay the debts to the foreign creditors of the old regime. In effect, the populace suffers the costs of a despotic rule twice: first, when the despot was in power, depleting the resources of the nation and reducing the populace to penury; second, when the creditors whose funding sustained the despot collect payment for the debts of the despot. The foregoing scenario will strike some as unfair. Others might be less sympathetic, invoking the need for the populace to bear collective responsibility for the contractual obligations incurred by the state. The legal rule here, a creature of public international law, is an unforgiving one that supports the notion of strict collective responsibility for state contractual obligations. Governments inherit the debts of prior governments, regardless of their differing characters, philosophies, or populist bona fides. (1) So the ANC-led government in South Africa inherited the debts of the predecessor apartheid regime. Corazon Acquino's populist government in the Philippines inherited the debts of the Marcos dictatorship. The Islamic Revolutionary government in Iran inherited the debts of the Shah. And so on and so forth. Unwilling to pierce the veil of the state entity and to separate the state from its government, sovereign-debt law views the state as strictly liable for debts accumulated by its prior despotic rulers. This situation poses a dilemma for international law that private law has been tackling in a variety of settings: who among the innocent parties should bear the loss created by a culprit that can no longer be held accountable? Surely, neither the creditors nor the populace are the primary "wrongdoers"--they did not steal any money or commit any violation. Still, the greater blameworthiness of the ex-dictator's intentional actions should not blur the different shades of fault for the less-guilty parties. If their relative fault can be compared, it might provide a formula for dividing liability among them. (2) Thus, the purpose of this article is to borrow from a rich private-law tradition to explore the treatment of odious debt as a problem analogous to allocation of liability in private law. The framework this paper adopts is economic. Drawing on the economic analysis of private law, it develops insights as to the structure of an optimal liability scheme. Under this approach, liability is imposed not on the basis of some intrinsic judgment as to the parties' relative blameworthiness, but rather in a forward-looking fashion, on parties who are best suited to take actions to prevent the loss. In addition, liability is imposed on a magnitude tailored to induce an optimal level of precautionary measures. According to this approach, whether the people of a nation should bear responsibility for the debts of their despotic leaders, even when they have no control over those leaders and their borrowing decisions, cannot be resolved merely by invoking presumptions regarding collective responsibility and the legal entity of the state. From an economic perspective, a basic question is whether the people of a nation have cost-effective means to prevent the accumulation of insolvent odious debt. Are they better positioned than the creditors to take such harm-prevention measures? And if both sides--the people of the nation and the creditors--could have taken some steps to reduce the harm, how should liability be tailored to induce them to do so? …