Tuesday, May 29, 2007

Advancing the Application of Odious Debt Doctrine in Ecuador: Unconscionable Terms, Illegitimate Debt and the Obligation to Repay Sovereign Debt

The odious debt doctrine, existing largely as a theoretical proposition through most of the 20th century, may be emerging as an important set of normative constraints for sovereign lending in the 21st century. See Larry Catá Backer, Odious Debt Wears Two Faces: Systemic Illegitimacy, Problems and Opportunities in Traditional Odious Debt Conceptions in Globalized Economic Regimes, 70 LAW & CONTEMPORARY PROBLEMS – (2007). Amplified by Alexander Sack, a émigré Russian academic in 1920s Europe, the odious debt doctrine traditionally focused on the circumstances under which a successor state or states could avoid the obligation to pay the debts incurred by a now-extinct predecessor state. ALEXANDRE N. SACK, LES EFFETS DES TRANSFORMATIONS DES ÉTATS SUR LEURS DETTES PUBLIQUES ET AUTRES OBLIGATIONS FINANCIÈRES 158–65 (1927). It focused as well, though less often, on the obligations of successor governments to repay the obligations of prior regimes (especially when succession occurred after civil wars, revolutions, or other contests for control of the state apparatus).

On the basis of his study of the history of public debt repudiation in the 19th and early 20th century, Sack developed a functional approach (id., at 21) based on a separation between state and apparatus. (Id., at 24) A debt is odious, then, not because of the nature or legitimacy of the state apparatus contracting the debt or because of any change in regimes (“Il est donc évident que la transformation politique de l’État débiteur ne change rien quant à ses dettes. Celles-ci sont des dettes de l’État et non du gouvernement. Elles doivent être prises en charge par le nouveau gouvernement de l’État.” (Id., at 46)), but because of the absence of a legitimate relationship between the debt and the state itself. Legitimacy is based on demonstrating the application of the trust relationship between the state and its apparatus in relation to the debt. And debts odious to the state, as such, are not void; they merely change character from a state to a private debt, that is, they follow the agents of the apparatus that engaged in an illegitimate action in the name of the state. Thus Sack points to a connection between legitimacy and odiousness that parallels the construction of rule systems that distinguish between public and private obligations of “princes” now become public servants, in their role as such (Id., 41-45).

For Sack, and during much of the 20th century, the doctrine of odious debt is a creature of the state system of international organization. Its foundations rest on notions of the territorial state as the source of legitimate public commitments and on principles of legitimacy of the authority of those who control the apparatus of state (its government). Over the course of the twentieth century, these concepts have broadened considerably within academic discourse, in the understanding of important elements of civil society, and much more reluctantly among the community of nations and the factors in sovereign capital markets. The nature of legitimate public commitments is no longer determined solely by the preference of the people of a state or its elites. Instead, the legitimacy of those preferences is increasingly measured against international human-rights standards. Likewise, the nature of the legitimacy of the state apparatus, and of those in control of that apparatus, has come increasingly to be measured against democratic theories of state organization. The farther from the democratic ideal, the less likely the acts of the apparatus may be deemed to reflect the will of or be undertaken for the benefit of the people. The identity of state and government becomes increasingly tenuous as the breadth of the doctrine of odious debt expands.

But by the end of the 20th century, the odious debt doctrine, both as conceived and applied, had begun to expand. The modern understanding of the doctrine of odious debt, increasingly revolves around notions of legitimacy. Legitimacy is increasingly measured by reference to motives for the debt (was it incurred for the benefit the people of the debtor state), and its use (were the loan proceeds used to benefit the people of the debtor state), the rise of positive responsibilities of lenders to extend credit responsibly, and an extension of the applicability of the doctrine of odious debt to all public obligations, even those of sitting regimes.

All of this is well captured in a recent corruption case out of Kenya, World Duty Free, Ltd. V. Republic of Kenya (ICSID, Oct. 2006) (holding at ¶¶ 180-182). The arbitral tribunal of the International Center for Settlement of Investment Disputes (ICSID) determined that an individual businessman (a citizen of Canada based in Dubai) could not enforce a contract with the Republic of Kenya that he had secured by paying $2 million to former President Daniel arap Moi. The ICSID tribunal rejected the argument that the money constituted a personal gift, even one ostensibly intended for public use. Rather, it found, the money had been paid as a bribe to the president to ensure that he would cause the Kenyan state to enter into a contract that furthered the interests of the businessman and of the president in his personal capacity, but that might not have provided a benefit to the Kenyan state. The tribunal determined that it could not hold the Kenyan state liable on an obligation incurred for the benefit of the Kenyan head of state, and therefore tinged with illegitimacy in its inception. “[I]n the tribunal’s words, he could not ‘found a cause of action on an immoral or illegal act.’ The tribunal thus ruled that, ‘claims based on contracts of corruption or on contracts obtained by corruption cannot be upheld by this Arbitral Tribunal.’” Id. It was careful to distinguish between the acts of President Moi in his personal capacity (taking the bribe constituted a personal act) and as president (having authority under the Kenyan Constitution to bind the Kenyan state and its people to the obligations represented by the contract). “The tribunal rejected Mr. Ali’s argument that Mr. Moi had been ‘one of the remaining Big Men of Africa who, under the one party state Constitution, was entitled to say, like Louis XIV, that he was the State,’ as unfounded since under Kenyan and English law, which Mr. Ali was relying on, the president was regarded as being bound by the law and the constitution.” Id.

But the principles of odious debt doctrine have also been turned on the sovereign lending system itself. Some have argued that the modern system of private orderings, of global capital in the service of undefined global markets, it is argued, serves to benefit creditor states to the ruin of borrower states. As an integral part of the modern system of economic globalization, sovereign debt is imposed as a coerced subsidy by developing states for global production at the heart of the neo-liberal system. In this way, the system of sovereign lending is said to reinforce the old international-law system that sought to legitimize colonialism and the unequal treatment of states without invoking the old imperialist norm system directly.

The problem is systemic and beyond the control of debtor states, who have little choice but to participate in this global system of exploitation. Systemic illegitimacy, then, should serve as the foundation, not only of a right to repudiate all sovereign debt—all such debt is odious in the sense that it was incurred for the benefit of the lender and to the detriment of the citizens of the debtor states—but also as the basis for the construction of an alternative system of global finance and integration. Sovereign debt is bound up in the illegitimacy of the current economic world order, of both public and private law. This illegitimacy, imposed for the benefit of the developed states, requires the erasure, not the cancellation, of sovereign indebtedness as the first step towards dismantling the system itself. It would then be possible to establish a regime of sovereign lending untainted by the hegemonic impetus of market based economic globalization. Thus, one of the principal proponents of this approach, Fidel Castro, has long maintained—“We are even thinking that once we erase the debts, our policy with regard to the Third World countries—as creditors—would be different, and we would pay those debts.” Fidel Castro Ruz, Clausura del dialogo juvenil y estudiantil de america latina y el caribe sobre la deuda externa, celebrado en el palacio de las convenciones, el 14 de Septiembre De 1985, “Año Del Tercer Congreso,” delivered Sept. 14, 1985, La Habana, Cuba, and translated as “Castro 15 Sep. Comments on Latin American Debt” (University of Texas “Castro Speech Database).

Until recently, these sorts of arguments carried little force in the world. But things appear to be changing. The force of this approach to odious debt might be nicely exemplified by the difficulties Ecuador has recently experienced respecting the loss of control of its natural resources, in particular its petroleum, to the global capital markets that required their use to service Ecuador’s external debt. This saga also suggests the potential importance of an approach that fuses legitimacy and odiousness in the context of sovereign debt. In 2005, it was revealed that loans from the International Monetary Fund and the World Bank (Structural Adjustment Loan for a Second Fiscal Consolidation and Competitive Growth to the Republic of Ecuador, Feb. 14, 2005), included a series of secret terms that could be characterized as oppressive. Greg Palast, Ecuador Gets Chavez’d (May 11, 2005). These included an obligation that Ecuador pay its bondholders seventy percent of any spike in oil prices and that Ecuador set aside another twenty percent of such oil-spike revenue as a reserve against contingencies, effectively preventing Ecuador from using the funds for other purposes. Id. The Ecuadorian president at the time was quoted as suggesting, “‘If we pay that amount of debt. . . we’re dead. We have to survive.’” Id.

By July 2005, the Ecuadorian government, in response to these revelations enacted legislative changes to the provisions, effectively reducing the amounts Ecuador would be required to devote to pay down its debt. A Financial Times report published by the New York Times noted that “The oil stabilisation fund, which had been designed to use the profits from oil revenues primarily to pay off debt, was reformed last month so that only half of the amount previously set aside for debt reduction would be dedicated to that purpose, while social spending would be increased.” FT.com, World Bank Poised to Suspend Loan to Ecuador, THE NEW YORK TIMES, Aug. 4, 2005. In response, the World Bank suspended a $100 million loan to Ecuador. (World Bank Set to Suspend Loan After Ecuador Changes Oil Fund, The World Bank, News and Broadcast, Aug. 5, 2005).

The stage was set for the development of positions grounded in notions of legitimacy. On the one hand, the World Bank appeared to take the position that unilateral changes of this sort violated the terms of the loan agreement. The “WB has defended its decision, saying Ecuador violated a requirement for the credit delivery when it changed the distribution structure of an oil fund to channel more resources to Ecuador's social sector and decrease the money for public debt.” Ecuador Expels World Bank Representative, PEOPLE’S DAILY ONLINE, April 27, 2007. In any case, Ecuador’s legislative changes undermined the World Bank’s security. “It is understood that the bank will respond by arguing that the policies and objectives that its loans were designed to support have been at least partially reversed, making it highly unlikely that the government will fulfill the goals of the loan programme.” FT.com, World Bank Poised to Suspend Loan to Ecuador, THE NEW YORK TIMES, Aug. 4, 2005. In this respect, the World Bank appeared to echo the sentiments of the global financial community. “Communications between the bank and Ecuador's new government which took power following the ousting of Lucio Gutiérrez in April have been far from exemplary. However, the bank's refusal did not surprise emerging market analysts, who had been warning that multilateral lenders may view the restructuring of the oil stabilisation fund with alarm.” Id.

On the other hand, the Ecuadorian government also argued legalities. First Ecuador asserted that the World Bank had itself unilaterally breached its agreement to make the loans available. The finance minister at the time (and now Ecuadorian President), Rafael Correa, actually made two related arguments. The first was that the World Bank unilaterally breached its loan agreement. "This is an offence for Ecuador. A loan had been approved and was in place and they are cancelling it, completely outside any ethical or legal principle, because we changed a law," Id. (quoting Mr. Correa)). The second sounded in misrepresentation ("We were never told until last week that the Feirep law [restructuring the oil stabilisation fund] was a problem. The country has been misled. This was not the right way to act." Id. (Quoting Mr. Correa)). These arguments were echoed in an anonymous criticism of the World Bank’s decision. See, Anonymous, Wolfowitz at the World Bank: A New Leaf?, MR Zine, Aug. 25, 2005 (“Sadly, from a close examination of the evidence, it would appear that, in this case, suspending the assistance to Ecuador has elements of an extraordinary, perhaps unprecedented move.”). Second, Ecuador argued that the terms themselves were not legitimate (or better put that the terms were legitimately the subject of legislative action on the part of the Ecuadorian government). Mr. Correa was quoted as suggesting that "We are a sovereign country. Nobody can punish us because we are changing our own laws." FT.com, World Bank Poised to Suspend Loan to Ecuador, THE NEW YORK TIMES, Aug. 4, 2005. He was also quoted as stating: “"They punished a sovereign country for modifying a national law," Correa charged at the time, adding that his government ‘won't put up with blackmail from this international bureaucracy.’ ‘[W]e are nobody's colony,’” Richard Behar, Ecuador Boots World Bank as Correa Continues Crackdown Against Opponents, Fox News.co, April 26, 2007.

By 2006, the man who had served as finance minister during that time, Rafael Correa, had become president of Ecuador. Hal Weitzman, Ecuador Finance Minister Quits Over Loan Dispute, FINANCIAL TIMES, August 6, 2005. Mr. Correa might have been at the center of these events in any case. And it appears that these events helped contribute both to his resignation and decision to run for President. See Hal Weitzman, Correa Threatens to Expel “Blackmailing” World Bank, FINANCIAL TIMES (FT.COM) April 17, 2007. “The squabble with the World Bank was a principal reason for Mr Correa being fired from the finance ministry. But, casting himself as a defender of the Ecuadorean people against "neo-liberal" international lenders, he used the publicity that his sacking created to begin his campaign for the presidency.” Id. It was also reported that Mr. Correa’s interest in pursuing a large loan agreement with Venezuela and his threat to breach an oil agreement with an American oil company may also have brought him (and Ecuador) to the attention of the World Bank. See id. Others suggested additional motives. See, Anonymous, Wolfowitz at the World Bank: A New Leaf?, MR ZINE, Aug. 25, 2005. The BBC reported that “He has said he is against a free-trade agreement with Washington, arguing it is damaging to Ecuadorean industry, and has vowed to oppose renewal of a lease for a local US military base. If Mr Correa has his way, ties with the IMF and the World Bank could be cut and the country's foreign debt restructured. Its oil wealth, he has said, will go back to the people.” Profile: Ecuador’s Rafael Correa, BBC News, Nov. 27, 2006.

In April, 2007, Correa ordered the expulsion of the World Bank representative in Ecuador. Ecuador Expels World Bank Envoy, BBC News, April 26, 2007. The expulsion revived the now long simmering dispute over the legitimacy of the World Bank’s loan terms relating to the use of oil revenue, in general, and the World Bank’s refusal to disburse the $100 million loan in particular. The BBC reported that “Mr Correa had demanded that the World Bank explain why it suspended a $100m (£50m) loan in 2005 while he was economy minister. He says it was in retaliation for his reforms of the country's oil sector. The bank says Ecuador violated the terms of the loan by dissolving an oil fund earmarked to pay foreign debt.” Ecuador Expels World Bank Envoy, BBC News, April 26, 2007. And the Financial Times reported that (“The president said he would be asking the World Bank's representative in Ecuador why the lender refused to disburse a$100m loan in 2005, when Mr Correa was finance minister” Hal Weitzman, Correa Threatens to Expel “Blackmailing” World Bank, FINANCIAL TIMES (FT.COM) April 17, 2007.

At the core of the dispute is a charge of systemic illegitimacy—the contention that the lending system of which the World Bank is a part is crafted for the benefit of the lenders; the people of the borrowing states receive incidental benefits. Using language reminiscent of Castro’s, Correa has now taken the position that World Bank actions are “blackmail:” "If he doesn't give explications that we consider satisfactory, we will expel the World Bank representative because we won't accept any blackmail from anyone," he said. Hal Weitzman, Correa Threatens to Expel “Blackmailing” World Bank, FINANCIAL TIMES (FT.COM) April 17, 2007. Correa has threatened to default on this and other loans. “The leftist president has paid off Ecuador's debt to the International Monetary Fund and wants to minimise the country's dependence on foreign credit. He has threatened to default on the country's other debts. Ecuador still owes the World Bank $748m, the economy ministry says.” Id.

He has sought to legitimize these actions in two ways. First, of course, is the emphasis on the illegitimacy of the lender’s actions—thus the invocation of the rhetoric of “blackmail” and the overtones of odiousness. Thus, systemic illegitimacy in general, and the oppressiveness of the specific terms imposed by the World Bank in particular, support Ecuador’s determination to repudiate (or more likely in this case, pay off) its debt obligations to and be done with, multilateral lenders. “Over the last two years, Argentina, Bolivia, Brazil, Nicaragua and Venezuela have paid off their IMF loans or let their agreements with the institution lapse. Since 1999, Latin American countries have been borrowing between one-fourth to one-half less from the World Bank. As early as next month, Argentina, Bolivia, Brazil, Ecuador, Paraguay and Venezuela will open Banco del Sur (Bank of the South) as an alternative regional development bank.” Marcela Sanchez, IMF, World Bank, Face Irrelevance, WASHINGTON POST, May 11, 2007. Second, and perhaps more importantly, is the heavy reliance on both popular ratification and the legitimacy of the divergence of funds. Correa has used popular referenda—for example, on changes to the national constitution to rid it of its ‘neo-liberal’ framework—as the basis for taking action that might lead to the repudiation terms deemed inconsistent with expressions of the popular will within Ecuador. “Ecuadorians want to "overcome the nefarious neo-liberal state legitimized in the 1998 Constitution," Correa said at an April 15 press conference. Correa then attacked the World Bank, and announced that his government had finished paying off its remaining debt to the International Monetary Fund.” Richard Behar, Ecuador Boots World Bank as Correa Continues Crackdown Against Opponents, Fox News.co, April 26, 2007. A recent article, Ecuador Leader Celebrates Win, BBC News, April 16, 2007, described the approval by popular referendum of the constitution of a ‘people’s assembly’ to rewrite the nation’s constitution. “Mr Correa responded to the referendum with an announcement that Ecuador had repaid its final debt to the International Monetary Fund. The president also warned he would kick out the representative of the World Bank in Ecuador if the government received, as he put it, pressure from the organization.” Id. Indeed, the use of oil revenues has proven to be politically inflammatory in Ecuador where, in 2005, “Protesters, demanding that oil revenues should be spent on infrastructure, bring oil production to a halt. A state of emergency is declared in two oil-producing provinces. The protest ends after oil companies agree to help mend roads and pay local taxes.” Timeline Ecuador: A Chronology of Key Events, BBC NEWS, April 25, 2007.

Correa has also suggested that national interests ought to be superior to those of economic interests, whether or not supported by treaty or contract. Thus, for example, Correa has demanded substantial changes in the U.S. Ecuador bilateral investment treaty on the grounds that it interferes too heavily in Ecuador’s sovereign right to pursue its national interests without the burden of compensating those affected by the pursuit of such interests. See, Ecuador Won’t Renew U.S. Investment Deal, FoxNews.com, May 5, 2007. “Last year, Occidental Petroleum Corp. cited the treaty when it sought $1 billion in damages over Ecuador's cancellation of the California-based company's oil-production contract. The arbitration claim before [ICSID] has not been resolved. Espinosa said Sunday the treaty "has really caused many problems for our country" and "does not respect national interests," although she did not elaborate.” Id.

Moreover, Correa has been implicitly relying on legitimacy arguments based on a hierarchy of interests—public political interests trump non-governmental economic interests and human welfare trumps private obligations in determinations of the legitimacy of debt terms or of an obligation to be imposed on a state. Thus, Correa’s emphasis on Ecuador’s actions as those of a sovereign, in contradistinction to those of non-sovereign lenders, like the World Bank.

Correa’s action represent an important attempt, the success and elaboration of which remains to be seen, of the legitimacy principles developed from out of early constructions of odious debt, combined with a form of Castro’s development of notions of (lender conduct focused) systemic illegitimacy (whether or not shorn of their Marxist-Leninist referents). We have come a long way from the narrow principles developed by Sack. It remains to be seen whether these tactics have more bark than bite. It may well be that Correa s using this rhetoric as a bargaining chip, or as a means of humiliating the World Bank leadership to assuage his need for revenge (though using the apparatus of the state in order to further personal agendas ought to be more thoroughly questioned). But Correa may mean what he says, and may follow through on what he means. If that is the case, then the elaboration of the odious debt doctrine might well take a large step forward.

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