Recent high-profile attempts to repudiate municipal bonds break from what had become a stable American norm of honoring public debt. In the nineteenth century, though, hundreds of cities, towns, and counties walked away from their bonds. The Supreme Court's handling of repudiation in the so-called municipal bond cases conjured intense animus. But time and the archaic prose and sheer volume of the opinions have obscured the cases' significance.
This article reconstructs the bond cases with an eye to modern disputes. It reports the results of our reading all 203 cases, decided 1859-1899, in which the Justices opined on bond validity. At a high level, our findings correct a stock narrative in the literature. The standard account paints the Court as a reliable champion of northeastern capitalists in what resembled regional or class politics more than law. That story does not withstand scrutiny, however. We find, for example, that the Court ruled for the repudiating municipality about a third of the time. The decisions had a readily articulable logic at the heart of which lay the law/fact distinction. Estoppel barred issuers in most instances from denying factual predicates of bond validity, but it did not prevent scrutiny of legal predicates. Where law was at stake, the Justices were willing to hold bonds void on even highly technical grounds. The framework developed by the Justices over this forty-year period, we argue, may be of use to courts facing these issues once again for the first time in a century.
CONTENTS Introduction I. The Cases at a Glance A. Background 1. Westward Expansion and Municipal Bonds 2. The Ultra Vires Theory of Repudiation 3. The Cases' Posture B. Characterization in Academic Scholarship C. Summary Findings II. The Cases' Analytical Structure A. Matters of Fact 1. The Estoppel Framework 2. Estoppel Applied: Voting Conditions & Debt Limits 3. The Limits of Estoppel a. No Recital b. Authoritative Record Contravenes Recital c. Bona Fides Lacking B. Questions of Law 1. Legislative Authority 2. Constitutional Purpose III. Puerto Rico: A Case Study Conclusion Introduction
Bond repudiation is once again in the air. In 2014, the City of Detroit, mired in bankruptcy, argued that more than $1 billion of its securities were void. (1) The matter settled. (2) Three years later, in Puerto Rico's restructuring proceedings, the Commonwealth's Financial Oversight and Management Board declared worthless $6 billion of recently issued general obligation bonds. (3) More recently still, a lawsuit in Illinois (4) and another brought by an instrument of Venezuela (5) have challenged the validity of billions of dollars more of government bonds. The form of argument in each instance is the same: securities for which a government received hundreds of millions or billions of dollars were issued ultra vires, are therefore void, and holders are entitled to nothing.
Until Detroit's bankruptcy, the ultra vires defense to government debt lay dormant for the better part of a century. The period since the Great Depression has for the most part been a quiet time in municipal finance. (6) By no means do recent attempts at repudiation rest on a novel theory, however. As a justification for nonpayment, ultra vires is almost as old as the municipal bond itself. (7) The argument's form is impeccable. Municipalities are corporations of defined powers. State law typically restricts their power to incur debt. If local officials don't abide those restrictions when issuing a bond, orthodox corporate theory deems the issuance not to be a municipal act at all. To repudiate is, then, in a sense, just to insist on the basic logic of the corporation.
During the second half of the nineteenth century, hundreds of cities, towns, and counties insisted on just that. In the years following the Panic of 1873, as much as twenty percent of all municipal debt in the country was in default. (8) Many repudiated bonds were issued hopefully--one might even say naively--in the 1850s and 1860s to subsidize railroad construction. (9) Railroads were connecting the country, and no one wanted to be left off the grid. When the new infrastructure's anticipated benefits failed to materialize, however, and hard times came, the answer for many municipalities was to repudiate. They ceased paying coupons, citing one or another reason their bonds had been issued illegally. The result was a torrent of litigation running through the (mostly federal) courts and petering out only near the turn of the century. Between 1859 and 1899, the Supreme Court alone, in the so-called "municipal bond cases," decided several hundred disputes arising from repudiation. The cases touched on a multitude of issues, from jurisdiction to remedies. The bulk of the Court's decisions, though--approximately 200 of them--were about bond validity, about the enforceability of municipal bonds in the hands of innocent purchasers.
This article reconstructs the logic and significance of the Court's validity cases with an eye to modern disputes. Some of the old cases have been cited in the briefing and commentary around recent repudiation efforts, but without a firm grounding in their doctrinal or historical context. A happy century in the municipal debt markets has obscured the bond cases' analytical structure. Much has changed since the likes of Chase, Waite, and Fuller presided over the Court. Their procedural world is unfamiliar and their prose hard to parse.
To be sure, if the municipal bond cases have been neglected, they have never been entirely forgotten. They appear, for example, in the best synoptic histories of American law and of the Supreme Court. (10) A few of the cases have proved important to specialists in federal courts. (11) But academic attention has overwhelmingly focused on a small number of especially dramatic episodes and, more generally, on the cases' politico-economic setting and ramifications. (12) Very little attention has been paid to the cases us law.
The analysis we present is the product of a close reading of every one of the Court's municipal bond cases decided between 1859 and 1899. (13) At a high level, our findings correct a stock narrative in the academic literature. In general, the municipal bond cases pitted farmer against capitalist. The cases arose because towns and counties especially in the Midwest didn't want to, or couldn't, pay bondholders in the Northeast and abroad. (14) The standard academic account portrays the Justices in political rather than legal terms: as champions of the investing class none too concerned about the law but arrayed against the champions of the agricultural class, namely the state courts. (15)
Taken as a corpus, however, the bond cases belie a notion of the Court as a proxy engaged in class or regional battle. The standard account of the cases rests on three propositions: that disagreement between federal and state courts about the content of the law was ubiquitous; (16) that the Court almost always decided for the creditors; (17) and that it did so frequently when the law favored the issuer. (18) Yet none of the three legs of the argument bears its weight under scrutiny. There were occasional conflicts between the Supreme and state high courts, and they yielded intriguing legal questions and sometimes pyrotechnical judicial rhetoric. But the Justices disagreed with a state high court in only 6 percent (10 of 172) of unique validity cases. Moreover, the oft-repeated claim that the Supreme Court ruled unhesitatingly for bondholders is simply false. The Court ruled for the repudiating issuer in 33 percent (57 of 172) of the validity cases. The quality of the Court's decisionmaking cannot, of course, be established quantitatively. In our view, it was generally very strong; but even if the quality was low, the Justices' willingness to rule against bondholders undermines the notion that their reasoning was poor because it was motivated by a predilection to favor creditors. This is not to say they decided every case in a uniquely correct manner, or even that their errors were randomly distributed. But our findings do imply that writers invoking the bond cases should rethink rather than repeat a picture of the postbellum Court as an essentially politico-economic institution.
What is remarkable about the bond cases is the Court's legalism. The decisions conformed to a readily articulable analytic structure, even if the Justices did not always clearly articulate it.
The path of decision begins with a familiar law/fact distinction. A bond's validity might be contested on either ground. The issuer might contend, for example, that it had no power to issue bonds for the conceded purpose of subsidizing a private manufacturing company (legal); (19) or else that bonds supposed to have been issued for a concededly lawful purpose, such as building a courthouse, were in fact issued in a bribery and misappropriation scheme (factual). (20)
In cases turning on factual argument, the central theme of the Court's output was the adaptation of estoppel doctrine to the municipal context. It was customary for bonds, like other sealed instruments, to recite circumstances relevant to issuance. Estoppel allowed bona fide bond buyers to credit whatever facts--but only facts--the issuer declared true at the time of issuance. To the extent a municipality sought to repudiate by denying such a fact, it was lost. Thirty-one percent (53 of 172) of the unique validity cases were resolved this way (in whole or in substantial part). The mere existence of estoppel presumably discouraged many more cases from arising at all. Estoppel did not resolve all fact-based repudiation arguments, however. It did not block trial if the bond, fairly construed, failed to recite a contested fact. Even if it did, an authoritative record contravening the recital took precedence. In some twenty cases hinging on a fact claim, the Court directed a trial or a judgment...