A Political Activist and Businessperson’s Perspective on Debt and Default
Declan is an entrepreneur and political activist.
12 July 1776, at the tip of Lower Manhattan, where the fast-flowing Hudson meets in confluence with the East River and opens out into the wide expanse of New York Harbour, standing in the pre-dawn darkness, was the figure of a young captain of artillery. Dressed in the attire of a local officer of militia, he was guarding the most important commercial hub of his nine-day-old country, the United States of America. His name was Alexander Hamilton. His small command consisted of six cannon and a small cadre of unruly men, some still suffering the early morning effects from a night of whisky and a deficit of sleep. Looming toward their position were two of King George’s finest ships of the line, HMS Phoenix and HMS Rose, their combined 72 cannon primed and loaded to deliver His Britannic Majesty’s first kinetic response to America’s rebels. Other American founders would shortly and irrevocably put their necks on the line, affixing their signatures on 2 August to the Declaration of Independence, with the words of Benjamin Franklin ringing in their ears: ‘we must all hang together, or most assuredly, we shall all hang separately.’
As dawn broke, Hamilton’s position came under the Royal Navy’s guns and they opened fire with a thunder that witnesses were to attest was the most terrible and mighty sound to have ever been heard across New York up until that time. Hamilton’s position was pummelled and yet, with comrades dead or dying around him, he stood his ground and returned the fire. This was the first of many heroic actions throughout Hamilton’s life but I recount it here to underline that this was a man of extraordinary courage, honed in action to take risk and prepared to make any sacrifice for his country. Very many years later, Talleyrand, the famous French statesman, diplomat and manipulator of eighteenth and early nineteenth-century Europe, said of Hamilton, ‘I consider Napoleon, Fox and Hamilton the three greatest men of our epoch and, if I were forced to decide between the three, I would give without hesitation the first place to Hamilton.’ Talleyrand had known all of these men on a personal basis and I believe that his measure of Hamilton is not without merit.
So what was it that Talleyrand recognised which marked out Hamilton from all the other leaders of his age and what lessons can we learn that might be applicable to Europe’s current crisis? Hamilton after all, never got to lead his country; however, he did get to serve George Washington in a position that was to become absolutely pivotal to the survival of the United States of America, that role was as America’s first Secretary of the Treasury.
On taking office shortly after the conclusion of America’s War of Independence, Hamilton found himself with the challenge of shaping the economic framework upon which the nascent and very bankrupt United States would either perish or prevail. Hamilton’s country had been ravaged by war and saddled by debt. On top of that, he had to find a way of paying off a well-armed army that in many cases was awaiting years of back-pay. In addition to domestic concerns, there were major foreign lenders, including some of the very largest and most powerful players in global finance at the time – French and Dutch bankers. With British Red Coats on the Canadian border and still holding western forts and the Royal Navy ruling the Atlantic waves, Hamilton quickly understood that the Union’s credit rating would play a large part in deciding whether or not America really had a future.
Hamilton was a protégé of George Washington, commanding general of the Continental Army and the first American President. The young Hamilton was perhaps the closest to him of all his military officers. Washington was not just his commander, but more like a father. Hamilton was brilliant but sometimes divisive, viewed suspiciously by Jefferson, Adams and many others as a treacherous manipulator intent on creating a central power over the people and ruining the purity of the agrarian republic in favour of urban creditors and big money interests. It was a sort of Old Virginia v hustling New York conflict. Washington was trusted by, and stayed above, the factions. He backed Hamilton against his own Virginians and perhaps was the only man who could make Hamilton’s ideas stick. It’s remarkable that Washington, himself a devoted farmer and son of Old Virginia, with no finance or business experience, could make this choice so decisively. Hamilton, under Washington’s protection as Secretary of the Treasury, was given the scope to establish the economic structural basis of America. That simply would not have been possible had Washington and the other ‘Founding Fathers’ not already put in place the initial mechanisms for government by consent. Washington, a titan of history, also left on record his wishes to see Ireland with freedom to legislate and trade: ‘I would felicitate the Kingdom of Ireland on their Emancipation from British Control, and extend my pious entreaties, that Heaven may establish them in happy and perpetuated tranquillity, enjoying a freedom of legislation, and an unconfined extension of trade, that connecting link, which binds together the remotest countries’.1
Without Hamilton, or his patron Washington, the superstructure facilitating the fantastic nineteenth century burst of American economic growth would simply not have occurred. As an aside, Franklin was maybe the first to see the vast economic potential. Long before Hamilton or Washington, he was a businessman with interests throughout the colonies: his ‘Almanac’ and postal delivery service were everywhere, slightly altered for each colony. His argument to the British in the 1760s was that a unified America would be an economic powerhouse, and they would be foolish in the extreme to risk losing it for the few seats the colonists wanted in the British Parliament. That hard-headed denial by the British elite, to bow to granting their colonies government by consent of the governed, was to have major consequences. There is no reason to doubt that a similar resistance by European elites could also have long-term consequences.
On dealing with the most pressing matter of government debt, Hamilton was faced with the fact that the thirteen founding states of the United States all had separate and disparate debts, built up during their times as separate colonies during the course of the War of Independence. As the war had been waged in some states more than others and as the contributions of the states to the war effort and cost had varied greatly, even that portion of debt that was directly attributable to a form of ‘joint enterprise and expenditure’, was not evenly or proportionately disbursed across all of the states. On top of the states’ debts, there was already a federal debt, which had been used to finance some of the cost of Washington’s triumphant Continental Army, as well as some other federal borrowings.
Hamilton knew that he possessed limited short-term financial resources and that these many debts would have to be re-structured while enhancing the United States’ reputation as a borrower. One dilemma was that many securities had changed hands at significant discounts, raising potential moral dilemmas. Weighing his options, Hamilton decided that security of transfer and its repercussions for private property were paramount to establishing credibility and thus assist a favourable credit rating. He then made the bold decision to federalise all of the state debts in distress, doing so to ensure the survival of the whole rather than the sacrifice of any member state.
Interest on the already incurred federal debt was at between 4 per cent and 5 per cent and Hamilton understood that, for the sake of American credibility, this debt, all owed to foreign lenders and primarily made to finance America’s war effort, must be paid in full. The various interest rates on the debts of the thirteen states were high at 6 per cent and greater. Hamilton knew that his ability to raise revenue was simply not sufficient to allow the servicing of the combined states’ debts. He also knew that bondholders sitting on state debts were exposed to a broad range of growing risks, of which they were well aware. Hamilton also saw the opportunity to shift the loyalty of those creditors by giving them a stake in preserving a federal government by having it federalise the state debts and thus make those creditors commit ‘risk on’ to the new United Sates. However, given the fact that combined state debts and interest were just too high to sustain, Hamilton decided to deliver a federal ‘haircut’ on assumption of the states’ debts. Hamilton took the path of offering ‘voluntary’ haircuts in a variety of options that largely boiled down to a partial payment at 6 per cent interest, a partial ‘equity swap’ (in Hamilton’s case, for western land that at the time was relatively valueless but had prospects), or payment at a lower interest rate over a longer term but sweetened by quarterly payments (rather than yearly) and paid from taxes specifically earmarked for the purpose of paying those bonds.
The creditors did the pragmatic thing and accepted Hamilton’s offers; Hamilton drew those creditors into supporting his new country while at the same time rescuing many of his thirteen member states. Through his federalisation and re-structuring of unsustainable state debts Hamilton helped cement the disparate states together to form their ‘more perfect union’.
Hamilton’s hands-on experience with a potentially catastrophic sovereign debt crisis provoked him to leave some wise advice for posterity that growing debt ‘is perhaps the natural disease of all Governments. And it is not easy to conceive anything more likely than this to lead to great and convulsive revolutions of Empire.’ He also wisely advised that he ‘ardently wishes to see it incorporated as a fundamental maxim in the system of public credit of the United States that the creation of debt should always be accompanied with the means of extinguishment.’ That is to say, you don’t take on a sovereign debt without also having in place a specific revenue stream with which to pay it down. Europe of 2012 should duly take note. As a means to finance debt, Hamilton set up ‘sinking funds’: revenue that was stored up to service debts and which he prudently and quietly used to buy back large amounts of government debt at bargain prices (Hamilton understood the central banker’s art of ‘creative ambiguity’).
When considering Hamilton’s approach, bailouts were not his modus operandi. Hamilton’s King’s College (later to become Columbia University) friend and early companion in the Treasury Department was one William Duer. Early on, Duer had departed his assistant secretary role at the Treasury in order to engage in private banking and speculation, becoming a major New York ‘market maker’ in the process. In 1791 and 1792, Hamilton was faced with the US’s first banking and government securities crisis. Amongst the financial fallout, his powerful financial industry friend Duer had ended up in the position of needing a government bailout for his banking and financing interests or he would ultimately face debtors’ prison. Hamilton, though empathising with Duer, would not provide the bailout. The end result was that Duer ended his days in a debtors’ prison, sometimes visited by Hamilton but paying the ultimate price for Hamilton’s allowing ‘the freedom to fail’, which in the eighteenth century had steeper consequences than the more risk-friendly world of today. Given Hamilton’s actions, it is hard to imagine why the principle of ‘freedom to fail’ is not more readily afforded to European banks and institutions that held entirely private failed risk. The idea that any government would (like the Irish governments of 2010–2011) ever contemplate pledging taxpayer resources to fund already failed private bank risk, where the initial loans were not made to, nor expended by government, would have struck Hamilton as beyond absurd.
Hamilton’s most recent (and excellent) biographer, Ron Chernow, summed up the completion of Hamilton’s time in office as follows:
Bankrupt when Hamilton took office, the United States now enjoyed a credit rating equal to that of any European nation [back then, that was a good thing]. He had laid the groundwork for both liberal democracy and capitalism and helped to transform the role of the president from passive administrator to active policy maker, creating the institutional scaffolding for America’s future emergence as a great power. He had demonstrated the creative uses of government and helped to weld the states irreversibly into one nation.2
It is popular today for Europeans to look back at the early formation of the United States of America and to say that it was inevitable, unique and took place in an already cohesive and homogenous society. The facts of the matter are more complex. The thirteen colonies that made up the first states were disparate in their make-up and had regarded their existence in relation to their ties with London more than with each other. American cities were filled with immigrants from all of Europe’s cultures, speaking a multitude of languages, with English and German being the most dominant. Great cultural differences existed between the states, perhaps the most acute being on their attitudes to slavery. In summary I would say the early institutional success of America’s union was more due to the willingness and courage of a principled minority of gifted leaders, formed in a more meritocratic environment that, for its time, was somewhat less constrained by the sclerosis that often afflicts old establishments, and who were motivated by a common bond of morals and a pioneering willingness to make sacrifice and take risk for the greater good. This character served the United States well when, time and again, as its leaders were faced with seemingly insurmountable challenges, they took bold risks and eventually met with success (the revolutionary war at first consisted of a succession of military defeats for George Washington’s army. Where others would have accepted the ‘inevitable’ Washington and his men did not).
An observation of what some might consider a root of ‘American exceptionalism’ was made by Alexis de Tocqueville, the great French statesman and writer of the nineteenth century. In his 1835 book Democracy in America de Tocqueville, observing the new American Union from the perspective of a European, made incisive observations on the American appetite for risk in commerce, first noting that although American seamen were paid higher wages, their way of business was more competitive. He went on to say:
How is it, therefore, that American’s navigate more cheaply than we do? … The European navigator ventures on the seas only with prudence; he departs only when the weather invites him to; if an unforeseen accident comes upon him, he enters into port at night, he furls a part of his sails, and when he sees the ocean whiten at the approach of land, he slows his course and examines the sun.
The American neglects these precautions and braves these dangers. He departs while the tempest still roars; at night, as in day he opens all his sails to the wind; while on the go, he repairs his ship, worn down by the storm, and when he finally approaches the end of his course, he continues to fly toward the shore as if he already perceived the port. The American is often shipwrecked; but there is no navigator who crosses the seas as rapidly as he does. Doing the same things as another in less time, he can do them at less expense.
Before reaching the end of the voyage with a long course, the European navigator believes he ought to land several times on his way. He loses precious time in seeking a port for relaxation or in awaiting the occasion to leave it, and he pays each day for the right to remain there.
The American navigator leaves Boston to go to buy tea in China. He arrives at Canton, remains there a few days and comes back. In less than two years he has run over the entire circumference of the globe, and he has seen land only a single time. During a crossing of eight to ten months, he has drunk brackish water and lived on salted meat; he has struggled constantly against the sea, against illness, against boredom; but on his return he can sell the pound of tea for one penny less than the English merchant; the goal is attained.
Then in summary de Tocqueville tells us:
I cannot express my thought better than by saying that the Americans put a sort of heroism into their manner of doing commerce. It will always be very difficult for the European trader to follow his American competitor on the same course. The American, in acting in the manner that I described above, not only follows a calculation, he obeys, above all, his nature.3
In essence, de Tocqueville assessed that if there was an American exceptionalism at that time (and he certainly concluded that there was), it culminated in an exception to risk aversion. De Tocqueville’s observations of American commerce, when added to the life stories of the founders of the American union such as Hamilton, show an undeniable appetite for courage, boldness and heroic self-sacrifice underpinned by Judeo-Christian values, yearning for justice and the rule of law, and the exercise of classical liberalism. I find it mildly ironic that many of the same voices in today’s Europe that decry any concept of ‘American exceptionalism’ are often the very same voices that seek to tell us that Europe can learn little from the American experience. I dare to assert that Europe, facing our very own financial and political crisis of union, has something to learn from the American experiment, which, after all, found its inspiration from the best ideas imported from European history. What we need to learn most of all is that which might define a ‘European exceptionalism’, requiring a complete re-think about Europe’s approach to risk, political and financial, because unless we radically attack the disease that has beset the idea of European unity this modern European experiment with union will fail, with consequences as yet untellable but that I believe may be severe.
It was the grand disaster of World War One that inspired the early founders of the European Union idea, an idea that only began to properly come into being following the disastrous efforts to unite Europe under the not-so-varied totalitarian jackboots of National Socialism, fascism and communism.
Today, as we observe the now bizarre ritual of failed European summitry, the uninspiring posturing of Europe’s ‘leaders’ and the short-term political risk aversion, leading to chronic errors and splits with potentially dangerous long-term consequences, one cannot but wonder to what extent these politicians grasp the magnitude of what they are putting at risk by their petty politicking. For my small part, I have spent some time and resources in trying to draw attention to the sucking wound that is really eating away at Europe’s vitality.
That wound is the chronic lack of democracy, accountability and transparency now rupturing the heart of the European project and manifesting itself in everything from the machinations of the Commission and the European Council’s Committee of Permanent Representatives to the boardroom of the ECB and to the back rooms of Europe’s newest self-styled elite: the so-called ‘Frankfurt Club’ encompassing a would-be Franco-German axis planning on turning the Eurozone into what effectively would be a collection of vassal states.
So what are Europe’s options? Which path in this historical fork in the road are we to venture down? It would seem in their lack of vision our leaders want to either go in reverse or continue the practice of strong rhetoric backed by limp action, all of which compounds the growing type of injustice that we see in Ireland effectively being forced to spend billions to make good the losses of bondholders that we at no point ever borrowed money from.
Looking at the consequences of Europe’s leaders’ unwillingness to lead justly, or indeed at all, one is reminded of the words of Hamilton and de Tocqueville’s contemporary, the great classical liberal and Irishman Edmund Burke, who said: ‘Nothing turns out to be so oppressive and unjust as a feeble government.’
Given all that has happened I now see Europe’s choice as this: we either learn from the lessons of history and take the calculated but worthwhile risk to fully unite in a democratic and federal union, or we will see this project fall apart. To believe that it can fall apart in an orderly fashion, reverting to a neat trading club, I fear is an over-indulgence in wishful thinking. It is at least as likely that a collapsing of the European project, made more likely by a collapse of the Euro, would result in a balkanisation of Europe as a return to some type of trading utopia that would be devoid of internal rivalries and outside threats.
For example, consider this. If the Euro’s collapse were to destroy the political credibility of the union in the minds of the average European, what might a sundering of Europe mean for Europe’s eastern borders? The issues arising are too many to detail here but they are deadly serious with all the potential to become another Yugoslavia but written on a much larger map.
The proposition of a fully federal European Union fills many Europeans with deep concerns and I must say that it should. The idea that we would further centralise power to the European Union in its current form should be an anathema to any right-thinking lover of liberty and democracy.
In the words of the eighteenth-century Scottish philosopher David Hume, ‘it is seldom that liberty of any kind is lost all at once’, but a further concentration of central power without accountability would be a very mighty step.
So Europe must now grasp the nettle of major reform – of ‘treaty change’ – to establish a Europe not of the now defunct and bankrupt Lisbon Treaty but one created ‘by the people for the people’ – a Europe bringing us that only form of temporal governance that should ever be acceptable to free peoples, government by consent of the governed.
In summary, this is the federalisation that Europe should implement now:
It is to be understood that the above model may be considered unfathomable to many. However, it is not unreasonable to suppose that anything less than a democratic federalisation of a similar form to that set out above will result in failure and a loss of confidence in European unity that may lead to this continent turning back the clock by 100 years. The price is worth paying; the risk is worth taking. As Europeans we should, in de Tocqueville’s words, ‘open all [our] sails to the wind’ and seize this moment in history while always guarding our right to government by consent of the governed – essential to maintain our individual liberty – which can never be negotiable. As de Tocqueville also underlined with his explanation of the early Yankee Clipper shipping trade from China, fortune does indeed favour the bold. Time for Europe to put some ‘heroism’ back into politics.
Endnotes
1 George Washington, letter to George Martin, ‘Head Quarters’, 10 August 1783.
2 Ron Chernow (2004) Alexander Hamilton, New York: Penguin, p. 481.
3 Alexis de Tocqueville (1835 [2000]) Democracy in America, Volume 1, Part 2, Chapter 10, Reprinted, Chicago, IL: University of Chicago Press, pp. 386–387.