Only the Debt Is National

Imagine this set of transactions.

1. A bank in rich country A makes a loan of X to the government of poor country B. Let’s say for concreteness that A is the United States, B is Nigeria, and X is $1 billion. So now we have a liability of $1 billion of the Nigerian government to the US bank, and deposit of $1 billion at the US bank owned by the government of Nigeria.

(Nigeria might just as well be Egypt or Mexico or Argentina or Greece or Turkey or Indonesia. And the United States might just as well be Germany or the UK. )

2. The deposit at the bank is transferred from ownership of the government to ownership of some private individual. It’s easy to imagine ways this can be done.

3. The residents of Nigeria, via their government, still have a liability of $1 billion to the bank, obliging them to make annual payments equal to the interest rate times the principal. In this case, let’s say the interest rate is 5%, so debt service is $50 million.

4. The payments can be met by running an annual export surplus of $50 million. As long as this $50 million annual payment is maintained, interest payments can be made and the principal rolled over; the debt will remain forever.

5. The private individual from step 2 moves from Nigeria to the United States, eventually becoming a citizen there.

The result of this: a family in the United States has wealth of $1 billion (plus whatever they already had, of course). Meanwhile, the people of Nigeria make payments of $50 million each year to the United States forever, in the form of uncompensated exports. In their important book Africa’s Odious Debts and related work, Boyce and Ndikumana demonstrate that this story describes much of sub-Saharan Africa’s foreign debt. It applies elsewhere in the world as well.

I wonder how various people evaluate this scenario. Do we agree there is something wrong here? And if so, what, and what is the solution?

The orthodox view, as far as I can tell, is: what’s the problem? People should pay their debts. Nigeria (or Argentina etc.) is a person, it has borrowed, it must pay. The fact that some private individual chooses to hold their wealth in one country rather than another has nothing to do with it.

More generally, the dominant view today is that the ability to carry transactions like those describe above is an unmixed blessing; in fact it’s the whole point of the international system. The three pillars of the European union are free movement of people, free movement of goods, and free movement of finance.  Argentina’s Macri is hailed as a hero — by Obama among others — for removing capital controls.  If you are committed to capital mobility, then it’s hard to see where the objection would be. Third World governments and New York banks are consenting adults and can contract on any terms they choose. And of course the fact that a possessor of wealth happens to be located in one country cannot, in a liberal order, be an objection to them owning an asset somewhere else.

Maybe it’s the last step that is the issue? Outside of Europe, the free movement of people does not have the same place in the economic catechism as the free movement of money or goods. And even in Europe it’s a bit shaky. Still, most governments are happy enough to welcome rich immigrants. (A few months ago, my FT dislodged a glossy pamphlet, a racially ambiguous woman in a bikini on the cover, advertising citizenship by investment in various Caribbean countries.)  This post was provoked by a Crooked Timber post by Chris Bertram; I’d be curious what he, or other open-borders advocates like my friend Suresh Naidu, would say about this scenario. Does an unrestricted right of human beings to cross borders imply an unrestricted right to transfer property claims across them also?

If the solution is not limits on movement of people, perhaps it is limits on cross-order transfers of financial claims, that is, capital controls. This used to be common sense. It’s not entirely straightforward where capital controls would operate in the sequence above; the metaphor of “capital” as a substance that moves across borders is unhelpful. But in some way or other capital controls would prevent the individual in country B from coming into possession of the bank deposit in country A.

There are two problems with this solution, one practical and the other more fundamental. The practical problem is that many routine transactions — payment for imports say — involve the creation of bank deposits in one country payable to some entity in another. It is hard to distinguish prohibited financial transactions from permitted payments for goods and services — and as Boyce and Ndikumana document, capital flight is usually disguised as current account transactions, for instance by over-invoicing for imports. Eric Helleiner [1] quotes Jacob Viner: “Because of the difficulty of distinguishing between capital account and current account transactions, capital controls could be made effective only by ‘censorship of communications and by crushing penalties for violation.'” [2]

The more fundamental problem is that these transactions — and capital flight in general – may be perfectly legal by the rules in force when they take place. Or if formally illegal, they are usually carried out by high government officials and/or members of the country’s elite. So the government of the poor country is unlikely to aggressively apply any restrictions that do exist. A subsequent government might well feel differently — but what claim do they have on a private bank account in a foreign country?

The problems with making capital controls effective were recognized clearly in the runup to Bretton Woods. In White’s 1942 draft for the agreements — again quoting Helleiner — “governments were required (a) not to accept or permit deposits or investments from any member country except with the permission of the government of that country, and (b) to make available to the government of any member country at its request all property in form of deposits, investments or securities of the nationals of the member country.” Even this wouldn’t be enough, of course, in the case where the wealthowner ceases to be a national. And it might not help in the case of a corrupt government that doesn’t want to repatriate private funds — though it might, if (as was also discussed) countries with balance of payments problems were required to draw on foreign exchange in private hands before being granted official assistance. In any case, it seems challenging to impose effective capital controls without granting the government control of all foreign assets — which will often require the cooperation of the country where those assets are held.

Needless to say nothing like this was included in the Bretton Woods agreements as signed. The US government would not even accept its allies’ pleas to assist in repatriating flight capital to help with the acute balance of payments difficulties following the war. Now it’s true, Second Circuit Judge Griesa recently claimed even more extensive authority that the government of Argentina would have had under White’s proposals, seizing the US assets of third parties who’d received payments from the Argentine government. But that was strictly to make payments to creditors. No such access to foreign assets is generally available.

This situation can arise even if governments themselves don’t even have to borrow abroad. As we recently saw in the case of Ireland, a government can strictly limit its debt and still find itself with unmanageable foreign liabilities. If private institutions — especially banks, but potentially nonfinancial corporations as well — borrow abroad, government that wishes to keep them operational  in a crisis may have to assume their liabilities. Or at least, they will be strongly urged to do so by all the guardians of orthodoxy. What, are you going to just let the banks fail? Meanwhile, any foreign claims generated by the activities of the banks before they failed are out of reach.

Financial commitments create obligations; when circumstances change, sometimes they can’t be met. Someone isn’t going to get what they were promised. In modern economies, the state (often in the guise of the central bank) steps in to assume or redenominate claims, to impose an ex post consistency on the inconsistent contracts signed by private agents. But with foreign-currency commitments to foreigners the authorities’ usual tools aren’t available. And just as important, there are other authorities — the ECB in the case of Greece, the US federal court system in the case of Argentina — that are ready to use their privileged position in the larger payments system to enforce the claims of creditors. In effect, while domestic contracts are always subject to political renegotiation, foreign contracts are — or can be made to seem — objective fact.

What we’ve ended up with is a situation in which private parties have an absolute right to make whatever financial commitments they choose, and national governments have an absolute duty to honor the resulting balance sheet commitments. Wealth belongs to individuals, but debt belongs to the people. They are bound by past government commitments forever.

Or as Marx observed, “The only part of the so-called national wealth that actually enters into the collective possession of modern peoples is their national debt. …in England all public institutions are designated ‘royal’; as compensation for this, however, there is the ‘national’ debt. ” 



[1] The Helleiner book, along with Fred Block’s Origins of International Economic Disorder, is still the best thing I know on the evolution of international monetary arrangements since World War II. Has anything better been written in the 20 years since it came out?

[2] This brings out two general points on financial regulation that I’d like to develop more. First, it is one thing to establish different rules for different kinds of activity, but the classification has to actually match up with the legal and accounting categories in which actual economic transactions are organized. The category of “banks” is a currently relevant example. This is part of the larger issue of what I call the money view, or economic nominalism — we need a perspective that regards money payments and the labels they bear as fundamental, rather than seeing them as reflections of some underlying structure. Second, and relatedly, it is hard for individual regulations to be effective in a setting in which anything that is not explicitly forbidden is permitted, since for any regulated transaction there will normally be unregulated ones that are economically equivalent.

15 thoughts on “Only the Debt Is National”

  1. Yes! Countries are clubs. Open Borders converts club goods into public goods. That reduces the incentive to invest in countries, and increases the incentive to disinvest in countries.

    Here is my old post:

    But I hadn’t seen your new angle.

    The solution: either scrap Open Borders, scrap the national debt, or say only landowners get to vote (because they can’t vote with their feet).

    By the way, your immigrant benefits both ways: he not only gets (part of) the initial loan while living in Nigeria, but gets (part of) the interest on that loan while living in the US.

    1. The solution: either scrap Open Borders, scrap the national debt, or say only landowners get to vote (because they can’t vote with their feet).

      Yes exactly. As I mention in the post, part of the reason I wrote this was as a kind of challenge to open borders advocates like Chris Bertram. They don’t want the first option, and the’re not going to like the third much better, so they need to think seriously about the second.

    2. There is one small problem with the above, and a childishly simple one, too. If one were to erect some form of capital control, then those with capital could not employ it fully, and those without could not receive it.

      What is being considered is nothing less than a negation of Smith. Are we all cowards?

  2. What difference does it make where the $1B comes from? Nothing changes if you alter step #2 to: Some private individual defrauds the Nigerian government out of $1B and transfers it to banks in the US.

    The problem seems to be the accumulation, by individuals, of wealth so vast that it impacts whole nations when they, or the wealth, move.

    1. Thanks for this comment, it brings out a couple points I should have stated more clearly in the post.

      First, I emphasize foreign borrowing because it is important to think consistently in terms of balance sheets. “Wealth” is not some physical substance that can move around. Capital flight involves the creation of a bank liability in a rich country payable to a private individual in a poor country. That can only happen if there is some counterpart entry going the other way. And substantive effects are going to depend a lot on what that counterpart is. For example, suppose the wealthy individual acquires their foreign bank deposit by selling a tangible asset in their home country to a foreigner — a business, a piece of land, etc. That tangible asset is still located in the original country, still subject to its taxes, regulations, etc. The poor country is not made worse off simply by the fact that the asset is now owned by a rich foreigner rather than a rich national. By any subsequent outward flow of profit income, yes — but again, that is subject to local control and effectively denominated in local currency. Very different if the counterpart is the creation of a foreign-currency liability under the laws of a foreign country. The reason that foreign debt plays a critical role in capital flight in practice is because it is hard to convert direct claim on a country’s productive resources into a claim on a foreign bank — not many wealthy New Yorkers are interested in operating tangible assets in Nigeria, etc. The intermediate step of foreign debt allows the wealthy foreigners to acquire a claim on the government of Nigeria — much more attractive — leaving the government responsible for delivering the real resource flow. If capital flight could only financed by inward FDI it would be much less harmful.

      Second, you implicitly frame this as a problem with the poor country — Nigeria in my example. My point is that we also need to think about a system that makes these kinds of transactions possible or inevitable.

      Finally, the phrase “they, or their wealth” captures exactly what I object to in things like the Bertram post. The casual equating of people’s rights over their persons with their money-claims on others is dangerous, analytically and politically.

      1. Thanks for the clarification. That answers the questions that I hadn’t articulated.

        My quote was “… they, or THE wealth” I meant it that way, and your change does alter the meaning.

      2. JWM – hugely approve of the balance sheet focus here – essential.

        Isn’t the simplest form of capital flight when an Egyptian moves a deposit from HSBC Egypt to HSBC UK? The counterpart is that an intercompany payable balance springs up where Egyptian branch owes the UK branch.

        Should any crisis lead HSBC to cut its Egyptian branch loose, then the Egyptian govt could end up stepping in and propping up the bank, thus ‘nationalising’ that debt from Egypt to the UK. Or perhaps poor countries don’t prop up failing banks.

  3. The Marx quote signals the common error of economists to see the world as a network
    of abstract ideas.

    If the United States and United Kingdom wanted to, they could create a list of the small circle of private bankers who facilitate these transactions. It can’t be more than 500 people.

    Once identified, couldn’t academics interview them to learn how to better regulate the system?

  4. It seems to me that this argument has nothing to do with open borders and everything to do with “national debt”.

    For example, suppose that in Italy there is Silvio, a very rich individual. The italian government chooses to emit some debt, either to finance some needed infrastructure or just as a form of stimulus (for example, by lowering the tax rates on high incomes without lowering government expenses). Silvio buys all the government debt.
    Italy’s net wealth (public+private) didn’t change, but now the Italian government has to pay interest to Silvio. If the government pays interest by raising taxes, now all italians are effectively paying taxes to Silvio; if the government raises additional debt to pay for interest, the problem will worsen in the future (assuming that national debt cannot just increase indefinitely).

    But, this is an argument for austerity! Big government debt are just a way to transfer income to the rich (who own said debt)! This is in fact the argument that center-left guys in Europe made for some time, and is a serious one; part of the pro-austerity drive in Europe comes from this argument.

    Let’s see how the story goes from an “underconsumptionist” perspective:
    Silvio owns some industries in Italy, and said industries produce 100, 70 of wich go out as wages to other italians, 30 (in theory) as profits to Silvio.
    Silvio though only spends 20 in consumption, and wants to save the remaining 10.
    In terms of aggregate demand, we have only (70+20)=90 trying to buy 100 of production; 10 will be unsold, so Slivio realized profits will be only 20, and 10 will be lost. Is Silvio chooses to disinvest, an economic recession ensues.
    But the italian government doesn’t want a recession, therefore emits 10 of debt and, with this 10, pays some workers, who end up buyng the remaining 10 of Silvio’s products.

    Thus in the end, of the total 100 of Silvio’s products, 70 go directly to Silvio’s workers, 10 to government workers and 20 to Silvio, so that if we look at consumption Silvio only consumes 20% of the total, while worker’s share is 80%; however Silvio also manages to pocket 10 in savings.
    It is important to note that the underconsumptionist theory doesn’t say that there is an actual underconsumption, just that part of the consumption is fueled by debt (so underconsumptionist theory is quite a misnomer).

    Note that the “underconsumptionist” theory is the same of the “saving glut” theory: since somewhere in the world there is someone who wants to save, someone else has to continually emit debt otherwise a recession will ensue; the underconsumptionist formulation stresses that the problem is rising income inequality, whereas the “saving glut” formulation somehow hides the problem because it is more anodyne and says that “someone” wants to save (although we know that assets are unevenly distributed, so it is “capitalists” who want to save, not everyone), and treat this as if was a problem of consumer preferences, which it isn’t.
    So when you or DeLong say that in the future the government debt/national income ratio should be much higher than what it is now because the market wants it, I’m very dubious because I see this as just a way to kick the can down the road because the market doesn’t really want “safe assets”, but a continue increase in debt.

    Unfortunately austerity doesn’t work, for this reason:

    Suppose that Italy has a GDP at potential of 100, and a national (goverment) debt of 50 (owed to Silvio).
    The government tries to lower debt by running a surplus, but this causes a recession and GDP falls to 70, so the debt to income ratio jumps to 50/70=71%. Thus austerity is self-defeating.
    The government then does some stimulus and the total debt goes to 55, however GDP goes back to 100. Now the debt to gdp ratio is 55%, lower than in the dephts of the recession, but higher than at the beginning of the cycle.
    Thus it is true that austerity doesn’t work, but it is also true that stimulus on the long run will produce a rising debt to income ratio.
    Note that, if the interest rate is for example 2%, at the beginning of the cycle all italians are paying to Silvio 10% of national income, at the end of the cycle 11%; this means that either the wage share falls, or the profit share of “real” activities falls.
    (I’ll ignore the fact that the interest rate can fall because in the end the reduction of the interest rare is used to increase the value of private assets and stimulate the increase of private debt, that isn’t much different from an increase in national debt).

    If we go back to international finance, we see that governments can somehow dump the problem on someone else by being net exporters, so that growth happens here but someone else will be saddled by debt. In the past developed countries were able to shift the debt burden on developing ones, presently China learnt the trick and is trying to shift the problem on us, however the world as a whole cannot be a net exporter so as everyone tries to be a net exporter not everyone is able to.
    In addition, as every country tries to become more competitive by, mostly, lowering the wage share, and a low wage share is IMHO the main driver of the “saving glut”, every country is forced to incur into more national debt.

    For this reason, I think that it is wrong to see this problem as a problem of free market vs. limitations on trade, it is in fact a problem of “accumulation”: that in a capitalist system capitalist’s wealth has to go up no matter what, the fact that markets are more or less free isn’t all that relevant.

    1. if the government raises additional debt to pay for interest, the problem will worsen in the future (assuming that national debt cannot just increase indefinitely)

      The critical issue here is the realtionship between the interest rate on the debt and the growth rate of gdp. If the interest rate is lower, then the government can borrow forever and the debt will converge to a finite percentage of GDP. (To d/(g-i) to be exact, where d is the annual deficit, g is the growth rate and i is the interest rate). If the interest rate is greater than the growth rate, then a constant primary deficit will lead to the debt ratio growing without limit. But if the interest rate is under the control of the central bank, this is not a danger (as Donald Trump seems to understand, speaking of “Silvios”).

      the market doesn’t really want “safe assets”, but a continue increase in debt.

      In your example but that’s not the only possible case. Perhaps Silvio would like to invest 10, to expand his businesses. But, he is worried that doing so would be unacceptably risky since the new investments will take time to deliver profits and are not easily saleable in the meantime, so he would be in trouble if needed cash for some unexpected contingency. In this case, what we will see is a high price of safe (i.e. stable priced and readily saleable) assets relative to risky ones. And the government can solve the problem by emitting more of the former, perhaps in order to purchase the latter, so that the Silvios in the aggregate have enough liquid wealth that they feel it is safe to undertake more investment. I don’t know that this Minsky-DeLong story is right, but it’s important to understand that it is possible. In your version it isn’t because you leave out business investment decisions entirely (or implicitly assume they strictly follow consumption).

      1. Thanks for your answer.
        I agree that it isn’t automatic that the debt increases faster than aggregate income, but I think that this is what is happening today, because we live in a world of large income inequality. If we see inequality at a world level, it fell because of productivity growth in developing countries, however inside each country income inequality increased, and this is the inequality that matters for the underconsumptionist hypothesis.
        I also think that the process can be self feeding, as the growth in financial assets causes even more income inequality.

  5. Isn’t the simplest form of capital flight when an Egyptian moves a deposit from HSBC Egypt to HSBC UK? The counterpart is that an intercompany payable balance springs up where Egyptian branch owes the UK branch.

    Yes, if the banking system will accommodate any open forex position that results from other transactions then most of these issues don’t arise. But of course in that case you’d never face any kind of balance of payments constraint — a government having trouble servicing its foreign debt could just borrow from domestic banks, for example. So a big question becomes how large are the imbalances that can be buffered in this way. Unfortunately I don’t know of any research on this at all.

      1. I know. Otherwise it wouldn’t make sense to comment here.

        The trick–for an interdisciplinary gadfly like me–is to find someone:
        A) Deep enough within the paradigm to make a difference, but
        B) Open-minded enough to suppose that the whole paradigm is wrong.

        The next step is finding a message that flips on the lightbulb.

        My latest effort: The abstract reasoning of the OP is a stopped clock. “Useful economics” is the process of arguing which (of many available) stopped clock displays the correct time.

        Reality (i.e., the actual time) is Darwinian. The clocks are Newtonian/mechanical. The disconnect between the two is what renders the clocks broken (i.e., “stopped”).

        See, also Krugman on the ad hoc reasoning that turns (always wrong) “simple models” into “doing useful economics”.

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