As the bailouts in the current bust inexorably mount, financed in
rapidly increasing U.S. government debt, one might wonder whether
a default on Treasury debt is imaginable. In the course of
history, did the U.S. ever default on its debt?
Well, yes: The United States quite clearly and overtly defaulted
on its debt as an expediency in 1933, the first year of Franklin
Roosevelt’s presidency. This was an intentional repudiation of
its obligations, supported by a resolution of Congress and later
upheld by the Supreme Court.
Granted, the circumstances were somewhat different in those days,
since government finance still had a real tie to gold. In
particular, U.S. bonds, including those issued to finance the
American participation in the First World War, provided the
holders of the bonds with an unambiguous promise that the U.S.
government would give them the option to be repaid in gold coin.
Nobody doubted the clarity of this “gold clause” provision or the
intent of both the debtor, the U.S. Treasury, and the creditors,
the bond buyers, that the bondholders be protected against the
depreciation of paper currency by the government.
Unfortunately for the bondholders, when President Roosevelt and
the Congress decided that it was a good idea to depreciate the
currency in the economic crisis of the time, they also decided
not to honor their unambiguous obligation to pay in gold. On June
5, 1933, Congress passed a “Joint Resolution to Assure Uniform
Value to the Coins and Currencies of the United States,” of which
two key points were as follows:
• “Provisions of obligations which purport to give the obligee a
right to require payment in gold obstruct the power of the
Congress.”
• “Every provision contained in or made with respect to any
obligation which purports to give the obligee a right to require
payment is gold is declared to be against public policy.”
“Purport”? “Against public policy”? Interesting rhetoric. In
plain terms, the Congress was repudiating the government’s
obligations. So the bondholders got only depreciated paper money.
The resulting lawsuits ended up in the Supreme Court, which
upheld the ability of the government to refuse to pay in gold by
a vote of 5-4.
The Supreme Court gold clause opinions of 1935 make instructive
reading. The majority opinion, written by Chief Justice Hughes,
includes these thoughts:
• “The question before the Court is one of power, not
policy.”
• “Contracts, however express, cannot fetter the constitutional
authority of the Congress.”
Justice McReynolds, writing on behalf of the four dissenting
justices, left no doubt about their view:
• “The enactments here challenged will bring about the
confiscation of property rights and repudiation of national
obligations.”
• “The holder of one of these certificates was owner of an
express promise by the United States to deliver gold coin of the
weight and fineness established.”
• “Congress really has inaugurated a plan primarily
designed to destroy private obligations, repudiate national
debts, and drive into the Treasury all gold within the country in
exchange for inconvertible promises to pay, of much less value.”
• “Loss of reputation for honorable dealing will bring us
unending humiliation.”
The clearest summation of the judicial outcome was in the
concurring opinion of Justice Stone, as a member of the majority:
• “While the government’s refusal to make the stipulated payment
is a measure taken in the exercise of that power, this does not
disguise the fact that its action is to that extent a
repudiation.”
• “As much as I deplore this refusal to fulfill the solemn
promise of bonds of the United States, I cannot escape the
conclusion, announced for the Court, that the government, through
exercise of its sovereign power, has rendered itself immune from
liability.”
So five of the nine justices explicitly stated that the
obligations of the United States had been repudiated. There can
be no doubt that the candid conclusion of this highly interesting
chapter of our national financial history is that, under
sufficient threat, crisis and pressure, a clear default on
Treasury bonds did occur.
About 250 years ago, in a celebrated essay, “Of Public Credit,”
David Hume wrote:
“Contracting debt will almost infallibly be abused in every
government. It would scarcely be more imprudent to give a
prodigal son a credit in every banker’s shop in London, than to
empower a statesman to draw bills upon posterity.”
Hume would have looked down from philosophical Valhalla in
1933-35 and seen his views confirmed. What, one wonders, would he
be thinking now?
