But what is often glossed over is that the U.S. didn’t just pluckily pay off its wartime debts with a good, old-fashioned dollop of American elbow grease. No, it took the path of modern Greece.
It restructured its debts, with decidedly harsh terms from creditors. In fact, the terms were so tough that an important paper on the topic notes that “a large part of the face value of the debt was effectively written off.” In other words, it wasn’t paid. So was this a default?
Well, as we’ve seen during the ongoing European debt crisis, the word “default” is quite malleable. Technically, Hamilton’s restructuring of the U.S. debt was a voluntary bond swap. And voluntary conversions aren’t always viewed as defaults. But sometimes they are. Just look at Greece, which arranged for a series of “voluntary” conversions of its preposterously large debt over the past few years. Did that constitute default?
S&P says yes, citing two criteria that equate to a default: 1) that investors will receive less than they were promised in the original securities, which was definitely true in the case of Hamilton’s debt swap, and 2) the swap was “distressed” rather than “purely opportunistic.” (It’s not like Hamilton was just taking advantage of a decline in interest rates, for instance.) In his excellent, all-encompassing history of public finance, James Macdonald notes “Hamilton struck a very hard bargain with creditors—one that stretched the terms voluntary conversion and sanctity of contract beyond their true limits.” (Emphasis original.)
The other instance of US default came during the worst years of the Great Depression. In 1933, President Roosevelt devalued the dollar against gold. That violated the so-called gold clause, which required that all public debts be paid in gold coin of a fixed weight. (America’s overwhelmingly pro-Roosevelt Congress simply declared all gold clauses null and void.) The 1933 devaluation effectively amounted to paying off debts with devalued currency, which is widely viewed as a default. In fact, in her exhaustive research on sovereign debt, economist Carmen Reinhart clearly classifies the 1933 devaluation as a domestic default.
The Computer Glitch of ’79
There have been some other instances of default that were just, well, screw-ups. As the Wall Street Journal’s Jason Zweig recently reminded us, in April and May of 1979—during the height of another debt ceiling debate—computer glitches resulted in the failure of the U.S. to pay interest on $122 million in Treasury bills, which in the hardest sense of the word, was a default. Zweig writes:
The Treasury characterized the problem as a delay rather than as a default. While the error affected only a fraction of 1% of the US debt, short-term interest rates—then around 9%—jumped 0.6 percentage point and the US was promptly sued by bondholders for breach of contract. (Investors were later paid in full, with back interest.)