Not all government debt is created equal. Some governments get a much better deal than others, and no one gets a better deal than the United States.The United States borrows in its own currency, and it borrows at extremely low interest rates. It also borrows under its own laws, an often overlooked advantage.
The perils of not having that flexibility became clear 80 years ago.
In 1933, when Franklin D. Roosevelt became president, the world was in the Great Depression and many countries were devaluing their currencies in a desperate attempt to stimulate exports and growth. That left the United States at a disadvantage, and one of the first things the president did was to persuade Congress to devalue the dollar.
The United States, like other countries, was on the gold standard. A dollar was worth 25.8 grains of gold, and anyone with a dollar bill could turn it in for that much gold. President Roosevelt and Congress redefined the dollar as being worth 15.238 grains and made it illegal for Americans to own gold coins. They were required to turn in their old gold coins for dollars at the new rate.
United States government bonds of that era specified that the payment of interest and principal was to be made in gold dollars, at the old rate. Many private bonds had similar provisions. Congress overruled all those provisions.
Was that legal?
In 1935, the Supreme Court answered. Chief Justice Charles Evans Hughes, with the support of four of his colleagues, concluded that the government could change the private contracts, just as it could pass a bankruptcy law that enabled some debtors to escape their obligations. But, he said, the government had no legal right to amend its own bonds.
Then, in a pirouette that left legal scholars gaping, he ruled that because it was no longer legal to own gold coins, a bondholder suffered no actual losses. Had the government paid gold coins, the bondholder would have been required to exchange them for dollars at the new rate.
It was not one of the great court decisions, at least in terms of legal logic. But it was necessary for the health of the American economy.
Consider what would have happened if the gold clause had been upheld, for both government and private debts. Suddenly any debtor who owed $1,000 in gold dollars would owe $1,690 in new dollars. But incomes would not have risen. Companies that were barely hanging on would have gone broke. The Depression would have become much worse.
Robert H. Jackson, who would later become a Supreme Court justice, wrote in 1941, “Any decision that upset the law as Congress had enacted it, however sound in lawyer logic, could only breed widespread trade mischief, commercial confusion and debtor disaster.” President Roosevelt deemed the issue so important that he planned to defy the court if the government lost the suit.
I bring this up because most sovereign nations now do not have the luxury the United States has. When they borrow internationally, they borrow in a foreign currency. And the bonds often specify that any disputes will be settled under foreign law — usually United States or British law.
Many recent national defaults stemmed in part from those problems. The 1990s Asian financial crisis began in Thailand, which had tied its currency to the United States dollar — and had borrowed a lot of dollars. When it was forced to devalue its currency, the baht, it suddenly owed far more baht than it had borrowed, not to mention far more than it could hope to repay.
Greece provides an even better example. Had its debt been denominated in Greek drachmas, its currency would have plunged in value when the Greek crisis unfolded. A lower currency would have helped some Greek exporters and brought in bargain-seeking foreign tourists. That would not have solved Greece’s fundamental problems, which include a bloated government payroll and immense tax evasion, but it would not have caused the depression that the country is still in.
Instead, the debt was in euros. Unable to print them, or to borrow more from suddenly fearful credit markets, Greece turned to the rest of Europe for a bailout that came with harsh terms.
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