The State, A “Poor” Victim ?

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« Nolens volens: through the State there are always alternatives»1. The current crisis of sovereign debts causes the insistent question of the definition of the State, of its role and its powers. While politicians – and the media – refer incessantly to the threat of the loss of State sovereignty due to the European Union (EU) and reinforced by debts, it seems important to take a step back from the situation in order to have a more global vision of the issue. The following study adopts an approach, which is legal and not just economic, theoretical and not just practical, historical and not just contemporary in order to draw the framework of the definition of the State.

The State is traditionally described as a legal entity which reunites the population of a territory and which has a political authority. It is recognised on the international scene as a subject of law, the State becomes sovereign when “fully independent and benefitting from all rights from an internal point of view (legislation, administration, justice) as well as from an external point of view (conclusion of treaties, use of force within the limits of international law)2” and which acquires, at the same time, the prerogatives of public power.

The sovereign State and member of the EU3 is responsible for all of the accounts of its public entities which must respect diverse engagements especially the convergence criteria4. Under the Maastricht Treaty these entities include the ““institutional units” whose principal economic activities consist of realising redistributional operations or producing non-commercial services (those whose sale covers less than half the cost of their production) from resources derived, in the majority (directly or indirectly) from compulsory levies”5. They need funding in order to function and for public services.

Although the cost of running these entities is easy to determine, the cost of public services is more complicated to quantify as the definition of “public services” is awkward. At first glance, the expression appears fairly intuitive but the areas it covers are relatively controversial. There are no textual, doctrinal or jurisprudential criteria so there is no unity or legal certainty. Despite being vague, the definition of public services is nevertheless fundamental6. Firstly, in practice, this definition helps define the volume of public finance7 and determine the applicable law8. Then, in theory, the question raises heated and endless debates as it is eminently ideological9.

The funding of public entities and the public service can be of two types: taxes10 or debts. Taxes will be excluded from the following discussion. Debt has many definitions, for the sake of consistency, the definition used in the Maastricht Treaty will be applied: this is a gross debt, consolidated and valued at a nominal value: it does not include all financial liabilities only currency and deposits, securities other than shares; derivative products are excluded11 as are other payable and receivable accounts12.
Thus described, public debt appears extremely technical but this reveals the legal transcription of political choices. So what do the conclusion, the management and the repayment of public debt tell us about the role and the power of the State? Observation allows us to draw two conclusions which appear contradictory but which can be part of a coherent analysis. If the functioning of the State is “privatised” (1) traditional prerogatives of public power remain (2) but in both cases, sovereignty is not at risk since it is always a choice (3).

These developments will momentarily brush aside different levels of law (essentially national and European law), different types of standards (mainly laws, Constitution and treaties) and different contexts (prosperity and crisis).

1/ “Privatisation” of public debt

Here the term “privatisation” is not used in the traditional economic sense: there is no State share but it has a tendance to copy managerial methods used in the private sector. The privatisation began with a sectoral change, which was echoed at a contractual level.

This orientation marked the accession to the neoliberal ideology, which emerged during the 1970’s. As practice followed theory, the State- encouraged by the EU – liberalised the financial sector, deregulated it then allowed it to regulate itself in the name of economic efficiency. This policy led to the development of markets and therefore funding sources. All of the economic actors, including the State were able to share this windfall; today 99% of public debt is negotiable. Since the State decided to use markets, it must behave in the same way as any other agent. On the one hand, the State cannot use it’s prerogatives of public power (for example, funding from the Central Bank, law of 3 January 1973 and article 123 TFEU) and on the other hand it must make itself attractive enough to raise capital at a low rate (for example the State must undergo audits and risk assessments by the rating agencies).

Looking for the cheapest funding is the role of the Agence France Trésor (AFT) – part of the Treasury and directed by the ministry of finance – which is responsible for the management of public debt and which uses managerial procedures from the private sector, particularly in pro-active treasury management. The AFT is also in charge of the conclusion of financing agreements. It “signs” synallagmatic contracts13, which although concluded by the State – or any other public entity- and allowing among other things the exploitation of public services, are considered part of private law14. It is qualified as private because the clauses contained therein would be the same for a private person. To cover the risk of entering into a contract with a State, private creditors have recourse to “delocalisation”15.

Despite privatising public funding, the fundamental features of the State remain and have a significant impact on the debt.

2/ “Publicness” of the public debt

In spite of choosing liberalism, the State is not an ordinary borrower as it can set standards and must operate public services. In the financial sector, the State has regained it’s normative role during the crisis by supervising as best it can financial institutions16, rating agencies17 and the vulture funds18.

As a debtor, the State presents certain particularities. The question of whether a State can be considered insolvent must be left to economists. From a legal point of view, it is certain that the insolvency laws and the collective proceedings for legal redress or liquidation of property can never be applied to a State as they are to other companies, nor are excessive indebtness procedures applied as they would be to individuals19; no procedure has been defined at an international level20. Therefore, the State has to resemble an ordinary economic agent at the time of the funding but it is not protected by normal types of procedure when difficulties arise. Having said this, the State can count on other sorts of protection of a very different nature. Firstly, State property is unseizable, so the deceived creditor cannot take it to satisfy a contractual obligation to refund the debt. Secondly, the State debtor is an EU member and, as such, benefits from European guarantees (and eventually those of the International Monetary Fund). The European Stability Mechanism (ESM) is based on article 12221of the TFEU but article 136 had to be modified in order to sustain it by the addition of paragraph 322. This is the result of the fusion of the European Mechanism for Financial Stability (EMFS)23 and the European Fund for Financial Stability (EFS)24. The Commission will be able to contract loans in the name of the EU for its Member States from June 2013.

To remain consistent, the EU fixed managerial rules to resemble those of the private sector that are applicable to itself and the Member States. They benefit from better funding conditions during a period of growth – both in quantity and cost – but suffer from these rules during crisis. The Union was obliged to go beyond it’s own limits and restrictions, for example: the EU loans won’t appear in its budget as it must be balanced when voted (article 310 TFEU); the BCE authorised national central banks to buy back shares in public debt despite article 123 TFEU. However, the EU had already realised that the State was not a “run of the mill” debtor and had relaxed the budgetary discipline and the excessive deficit procedure25 from 2005 – at Germany’s request! – by including structural assessment elements26 allowing flexibility depending on the fluctuating economic system.

The two above observations lead us to believe that the State is a hybrid entity – both private and public –, almost inconsistent but it recovers its unity in the permanence of its sovereignty.

3/ Sovereignty of public debt

In order to complete the definition of sovereignty given in the introduction: in a democracy the people directly express their will which is sovereign therefore compulsory. This will is legally materialized through the Constitution (national and permanent consensus) and elections (to regularly question the choice). It occurs within the state framework, at least for the moment. Once expressed this will is respected in both form and content by the “Etat de droit”27 . There is no weakening of the sovereign will of the people but changes can occur. Although this can be interpreted as limiting the scope of the State, it is actually a manifestation of the expression of a sovereign choice (the choice of liberalism and congruently the EU as it is currently orientated). The State is not, therefore, a “poor” victim28, but it is still necessary that democracy works well for these decisions to be acceptable29.

A historical30 and geographical study shows us that it is only a case of choices and not facts. Essentially, no satisfactory solution has been found so the State swings between default (so common under the old regime they were formalised31; widespread in Latin America in the years following the crash of 192932) and repayment at any cost (in 1929, it was felt that the war was not an economic upheaval important enough to release the Serbian state of its repayment obligations to France33; work renegotiation led by the IMF and implementation of budgetary cuts in developing countries in the 1980s). The current European crisis can be described as hybrid: in the first instance, the States – always accompanied and/or encouraged by the EU – intervened in the economy (stimulus, strategic investment fund, a large national debt and various tax measures), then in the second instance, States returned to the logic of markets (austerity policies)34.
Wherever there is a choice, there are initially several options. Let us observe all of the possible legal solutions to find a way out of the crisis of European sovereign debt35. Most of them are classic solutions: the opposition austerity/stimulus (if the work of Keynes describes this possibility, it does not address debt management and repayment but simply advocates considering the payment deadlines!36); negotiations before default (already strongly encouraged37); monetisation38; unilateral default (underpinned by the logic of Jèze, namely, “Public debt is not the first public service to satisfy”39 but there are some difficulties with respect to future funding and the impact on all creditors, regardless of their financial condition); the non-recognition of the debt (the so-called theory of odious debt because it was contracted by an illegitimate government, argument developed in 1917 by the Russian Soviets… but never accepted by the creditors!). Two other, more original, suggestions were made: the pooling of European debt40 and the implementation of a European fiscal resource which would allow the Union to borrow, not to help states repay but to create wealth, generate growth and increase the fiscal resources of member states41.

The negative aspects of a fiscal crisis in political and social affairs issues are so obvious that they do not need to be exposed. However, this event can be seen as the purging of a dysfunctional system, it is normally a time of challenge, freedom and progress, particularly democratic42. The current crisis is unusual as it has not upset the European dogma. While there have been institutional changes there has been no upheaval in the logic43: the Union was based on a common market but the crisis has not undermined the free movement of capital which will allow member states to find new finance through borrowing on the markets44; the approach remains intergovernmental; economic policy still lies with the Member States45. To make this crisis a useful one, States will – or should – choose between the federalisation of the EU or its explosion. Finally, will the Union, or should the Union, become a sovereign State?

Dr. Liliane Icher (Toulouse University)

  1. Translated form CARON Matthieu, « Dettes souveraines européennes : « … il n’y a pas d’alternative » ? », RFFP n° 117, Février 2012, p. 288.
  2. Translated form CORNU G. et CAPITANT H., Vocabulaire juridique, PUF, 2011, p. 418
  3. The study concentrates on the French situation but some remarks concerning the EU are transposable to other Member States and the theoretical comments are transferable to all democracies.
  4. The Maastricht Treaty of 1992 and the Stability and Growth Pact of 1997 – the second having been taken up by the Treaty on the Functioning of the European Union (TFEU) in 2007 – require that the Member States have a deficit/GDP ratio of less than or equal to 3% and a debt/GDP ratio of less than or equal to 60% in order to avoid the “snowball effect”. The State is responsible in two ways: it incurs penalties for excessive deficits; the EU will bail out the member states- usually- under the “no bail-out” principle (Article 125 TFEU).
  5. A debt is called public with reference to its debtors whether the creditors are public or private, foreign or national, large or small investors.
  6. The Union law is not enlightening. Since the public service is essentially cultural, political and historical EU members have little room of manoeuvre to establish a more stable definition. It is even more opaque due the fragmentation practices used by different States, the is an obligation to multiply concepts: universal services, services of general economic interest, services of general non-economic interest, social services of general interest…
  7. According to Wagner’s law – in a scientific rather than legal sense – public services in industrialised countries are destined to grow continually.
  8. As a reminder, French law is divided into two branches, private law and public law. A situation must be qualified as one or the other in order to establish the applicable law and the jurisdiction.
  9. Reference to quarrels of three classical authors Duguit, Hauriou and Jèze in CHEVALLIER Jacques, Le service public, PUF, QJS, 2010.
  10. The National Institute of economic and statistical information (INSEE in French) defines taxes as the compulsory and unrequited payment to public administrations and to European institutions.
  11. On this question see DA ROS Jérôme, « Les Credit Default Swaps – Incidence des Credit Default Swaps sur les dettes des Etats : bilan et prospective », in Insolvabilité des Etats et dettes souveraines (actes de colloques), LGDJ, Lextenso éd., coll. Droit, 2011, pp. 89-101.
  12. Refer to the INSEE website for the method of calculation.
  13. Most common form of contract in which each party accepts to provide a service in exchange for that he will receive from the other contracting party (in this case lending/repaying).
  14. As regretted by Xavier CABANNES, « La nature juridique des contrats d’emprunt public de l’Etat : analyse au regard de la politique contemporaine d’émission des titres publics », in Mélanges en l’honneur de Paul Amselek, Bruylant Bruxelles, 2005, pp. 155-187.
  15. Debt subject to foreign law, payable and evaluated in foreign currency, express waiver of the immunity of jurisdiction and executions with the foreign state concerned. AUDIT Mathias, « La dette souveraine – La dette souveraine appelle-t-elle un statut juridique particulier ? », in Insolvabilité des Etats et dettes souveraines (actes de colloques), LGDJ, Lextenso éd., coll. Droit, 2011, pp. 67-87.
  16. GROUD Hervé, « Les finances publiques : cause ou victime de la crise ? », in Les finances publiques nationales et locales face à la crise, BENETTI Julie et GROUD Hervé (sous la direction de), L’harmattan, Administration aménagement du territoire, 2012, pp. 11-52.
  17. Detailled in BERNARD Alain, « Le marché de la dette souveraine – La régulation de l’information sur le marché des dettes souveraines ou la religion de la valeur », pp. 177-208 et FORTEAU Mathias, « Le défaut souverain en droit international public – Les instruments de droit international public pour remédier à l’insolvabilité des Etats », pp. 208-232, in Insolvabilité des Etats et dettes souveraines (actes de colloques), LGDJ, Lextenso éd., coll. Droit, 2011.
  18. The conventions Bale II and Bale III lay down the prudential banking rules and especially a solvency ratio of 9%.
  19. The logic of excessive indebtness procedure is more appropriate than that of liquidation as it gives the legal person, who will continue to exist after the debt, a second chance.
  20. Two projects failed – one by the Nations Society in 1929 and one by the IMF, which wanted to elaborate the Mechanism for Restructring the Sovereign Debt in 2003 – through simple lack of political commitment.
  21. Financial assistance from the EU to one of its Member States during difficulties brought about by exceptional events outside of its control.
  22. “Member States whose currency is the euro may establish a stability mechanism to be activated if indispensable to safeguard the stability of the euro area as a whole. The granting of any required financial assistance under the mechanism will be made subject to strict conditionality.”
  23. All member states of the EU are eligible for the EMSF.
  24. The EFSF is a limited liability company from Luxembourg which member states of the euro-zone – the only ones who have access to this aid – all hold shares in and which is ironically subject to English law. See, among others, the following article MARTUCCI F., « Le défaut souverain en droit de l’Union européenne – Les instruments de droit de l’Union européenne pour remédier à l’insolvabilité des Etats », in Insolvabilité des Etats et dettes souveraines (actes de colloques), LGDJ, Lextenso éd., coll. Droit, 2011, pp. 233-276.
  25. A procedure, which includes a preventive phase and a corrective phase. The latter may invoke sanctions, especially of a financial nature, gradually: from a temporarily unpaid deposit to a definitive fine.
  26. The difficulty arises from the practical implementation, in other words the indicators and thresholds to determine. This is a matter for the economists.
  27. This French expression is close to the English one “rule of law” but not synonymous as the latter concerns only procedural law.
  28. Opinion worthy of debate, see GROUD Hervé, op. cit.
  29. From an idea in an article by LEROY Marc, « Les périmètres publics et privés des finances », RFFP n° 120, Novembre 2012, pp. 27-37.
  30. Refer to ANDREAU Jean, BÉAUR Gérard et GRENIER Jean-Yves, La dette publique dans l’histoire, « Les journées de Centre de Recherches Historiques », (actes de colloques), 2006.
  31. WAIBEL Michael, « La faillite souveraine en droit – Un Etat peut-il faire faillite ? », in Insolvabilité des Etats et dettes souveraines (actes de colloques), LGDJ, Lextenso éd., coll. Droit, 2011, pp. 41-63.
  32. EICHENGREEN Barry and LINDERT peter H., The international debt crisis, a historical perspective, MIT Press, Cambridge (Mass.), ed. 1991.
  33. WAIBEL Michael, op.cit.
  34. See, amongst others, LEROY Marc, « Les périmètres publics et privés des finances », RFFP n° 120, Novembre 2012, pp. 27-37 et LAURENT Cyril, « Quel Etat financier face à la crise ? », in Les finances publiques nationales et locales face à la crise, BENETTI Julie et GROUD Hervé (sous la direction de), L’harmattan, Administration aménagement du territoire, 2012, pp. 75-90.
  35. CARON Matthieu, op.cit.
  36. THORIS Gérard, « Le remboursement des dettes publiques, une « relique barbare » ? », RFFP n° 117, Février 2012, pp. 277-280.
  37. Collective action clauses will become obligatory from July 2013 for bonds (issued by euro zone States) with a maturity shorter than one year. This will allow subscribers to impose a renegotiation.
  38. A solution recommended by Adam Smith to avoid personal bankruptcy! MATTRET Jean-Bernard, « Un Etat peut-il faire faillite ? », RFFP n° 112, Novembre 2010, pp. 299-307.
  39. Translated from AUDIT Mathias, « La dette souveraine – La dette souveraine appelle-t-elle un statut juridique particulier ? », op.cit., p. 82.
  40. Eurobonds have the advantage of being compatible with article 125 TFEU, the obstacle here is of a political nature: Germany rejects this option.
  41. GROUD Hervé, « Les finances publiques : cause ou victime de la crise ? », op.cit.
  42. The oldest and most famous example is the Magna Carta in England in 1215.
  43. MARTUCCI F., op.cit.
  44. It was shown by REINHART Carmen M.and ROGOFF Kenneth S. in “This time, it’s different, eight centuries of financial madness”, Pearson, 2010, that the more mobile the capital is, the more frequent financial crises are.
  45. See articles 120 and 121 TFEU, the EU is only competent to coordinate and cannot impose material obligation on the Member States.
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