Saturday, August 8, 2015


From a comment by Lew Rockwell, regarding Donald Trump:

He tried to justify the theft of bankruptcy, for example.

This runs counter to my…instincts, I guess I will call it, solely because I haven’t given significant thought to the topic.  Creditors take risks; nothing is certain – not even repayment.  Is interest solely based on time?  Of course not; every interest rate also compensates for risk.  But risk of what?  The risk of not getting paid.  The creditor knows this, hence he charges a higher rate.

I don’t see this as theft; I see it as a risk inherent in entrepreneurial activity.  Perhaps it is time to examine my views….

From The Ethics of Liberty, by Murray Rothbard:

Would bankruptcy laws be permissible in a libertarian legal system? Clearly not, for the bankruptcy laws compel the discharge of a debtor's voluntarily contracted debts, and thereby invade the property rights of the creditors.

I agree with this statement as it pertains to a libertarian society.  There is no place in a libertarian society for such “laws”; the subject of resolving obligations in case of default or inability to pay can be handled completely by contract or other agreement between the effected parties. 

But…these are the creditor’s “voluntarily contracted” credits also…aren’t they?

The debtor who refuses to pay his debt has stolen the property of the creditor.

This is where I stumble; there is no commercial transaction involving the allocation of capital that is guaranteed to be successful.  Is business failure to be considered theft?  Every bankruptcy is to be considered theft?

In any case, I will wait to see how Rothbard further explains this point.

The function of the legal system should then be to enforce payment upon the debtor through, e.g., forced attachment of the debtor's future income for the debt plus the damages and interest on the continuing debt.

I am not sure why there is any need for a “legal system” in the case of a “libertarian legal system” (this being the context in which Rothbard wrote), unless Rothbard is writing of a system developed to enforce contractual provisions. 

A libertarian legal system should do nothing more than enforce the contract between the parties of a commercial transaction.  This contract may or may not have provisions in case of default (more on this to come).

In defense of the bankruptcy laws, the utilitarian economist might reply that, once these laws are on the books, the creditor knows what may happen to him, that he compensates for that extra risk with a higher interest rate, and that therefore actions under the bankruptcy law should not be regarded as expropriation of the creditor's property. It is true that the creditor knows the laws in advance, and that he will charge a higher interest rate to compensate for the resulting risk.

This statement reflects completely my view – or at least my view to the extent I have considered this matter…but that’s why I am working to further consider this matter.  It is my view not as a utilitarian economist but as someone who advocates the right to contract – more importantly, the right to not contract.

The "therefore," however, does not at all follow. Regardless of foreknowledge or forewarning, bankruptcy laws are still violations and, hence, expropriations of the property rights of the creditors. There are all sorts of situations on the market where prospective victims may be able to maneuver so as to minimize the harm to themselves of institutionalized theft. The theft is no more moral or legitimate because of such praiseworthy maneuvering.

“Bankruptcy laws are still violations” in a libertarian world.  But, regarding today’s world, the “therefore” still applies, doesn’t it?  In essence, the law is a part of the contract.  If the creditor does not like the law, he need not loan the money; or, he could ensure proper security in the contract in case of default – attaching receivables, places liens on real property, etc.

Creditors do this all the time.  They take security in many assets – land, buildings, equipment.  They take security in the working capital.  They monitor monthly and quarterly financial ratios against the required ratios in the contract.  If necessary, they can take an observer seat on the board of directors.

If the creditor has not ensured proper security, who is to blame?  Not the debtor; could be the creditor, or it could be the market (more on the latter to come).

Certainly I agree that bankruptcy law shouldn’t exist in a libertarian world.  Today it does.  If the “law” was, instead, merely another clause in the contract, would default then be considered theft?  I don’t see how.  So, why would it be considered theft today?  I don’t see how.

Please note: I am not suggesting that just because the government says something is “legal” that it is ethical.  I am suggesting that the creditor knows the contract (including all laws that might affect it) before agreeing; the creditor need not agree to the contract.  Alternatively, the creditor can stipulate liens, oversight, and remedies in the contract directly.

I am saying that if something is contractual, it cannot be theft (given a contract that involves only the willing participants).  Inherently, today’s bankruptcy laws are part of the contract.

Yet, Rothbard is writing conceptually about the libertarian world.  Should such laws exist in a libertarian world? No, as indicated.  If such a clause was inserted in a contract in a libertarian world (a clause consistent with current bankruptcy law), would default by the debtor be theft?  No, as indicated.

Moreover, the same utilitarian argument could be used about such crimes as mugging or burglary. Instead of deploring crime against store-keepers in certain sections of a city, we might then argue (as utilitarian economists) as follows: after all, the storekeepers knew what they were doing in advance. Before they opened the store, they knew of the higher crime rate at that location and were therefore able to adjust their insurance and their business practices accordingly. Should we say, therefore, that robbery of storekeepers is not to be deplored or even outlawed?

I do not see this as a parallel example.  In the case of creditor – debtor, there is a contractual agreement between all effected parties.  Did the store-keeper make an agreement with the criminals?  Not in any sense that might parallel the creditor – debtor relationship.  In fact, not in any sense at all.

The problem of defaulting debtors may be met in another way: the creditor, taking account of the debtor's honest attempts to pay, may voluntarily decide to forgive part or all of the debt.


Voluntary forgiveness of a debt may occur after the fact of default, or it may be incorporated into the original debt contract.

Agree (and I argue that it is incorporated in today’s debt contract).

But the important point is that in these legitimate situations of forgiveness, the discharge of debt has been voluntarily agreed upon, either in the original agreement or after default, by the individual creditor.

Agree…however…even in today’s world, the creditor voluntarily agreed to extend credit knowing the bankruptcy laws.  If the creditor did not stipulate terms for security – again, liens on assets, required financial ratios, etc., shame on him.  Whose fault is this?

I will summarize my thoughts on this matter.  I agree with Rothbard: there should be no such thing as bankruptcy law in a libertarian world.  Absent such interjections into the market, creditors will develop terms in the loan that provide adequate security – corresponding to demands of the debtors.  In other words…the market doesn’t just find a clearing price; the market also finds clearing contractual terms.

However, in today’s world?  Bankruptcy is not theft.  The creditor, knowing the rules of the game, need not play.

I am not sure of Rothbard’s views on this in today’s world.  I am growing more certain of mine.


  1. BM, looks like you are 2 for 2 on Saturday. Two great thoughtful articles. Your logic is tight.

  2. Agreed. Libertarians are usually good at following ideas to their logical conclusion, but this is one instance where enough thought has not been applied to the matter.

    There was a time when people could not discharge debt. At those times it resulted in debt being handed down to children (despicable and unjustifiable), indentured servitude, or slavery.

    This is where tradition and custom comes into effect. Certain prevailing norms set what is acceptable contracting and what is not. For example no libertarian as far as I know thinks that a renter of a property should not have the peace and quiet of the premises that they are renting. This is the custom and tradition of our culture. However in a libertarian world I suppose you could have easily landlords making daily spot checks on the renters. This line if thinking makes libertarianism intolerable to any reasonable person.

    Even in a libertarianism society there needs to be a baseline for what is an acceptable contract. Should someone be able to contract for their first born, like in fairy tales? I say no.

    Since we speak of debt, what of variable interest rates? If you borrowed $100 from me at 5% a year, then I tell you that the interest rate is now 10,000% daily, are you stealing from me when you default?

    This is one area that I think that libertarianism does not speak to at all. Such matters are best handled by custom and traditional, and different cultures may have different methods of discharging debt. It's also worth recognizing that you can't have reckless borrowers without reckless lenders.

    1. “This is where tradition and custom comes into effect. Certain prevailing norms set what is acceptable contracting and what is not.”

      I think this is true, and applicable in many areas where libertarianism – by its very nature by its very nature of what it does not address – offers little if any guidance.

      “…landlords making daily spot checks on the renters.”

      This is where the market will likely help set the terms as well as the price (and in virtually every transaction, the two are not fully separable).

      “Should someone be able to contract for their first born, like in fairy tales?”

      To me, a violation of the NAP.

      “Since we speak of debt, what of variable interest rates?”

      The debtor should probably understand how often, how high, and based on what index will the interest rate be adjusted before he signs on the dotted line.

  3. One more thing - Rothbard endorsed bankruptcy in other contexts. He recommended repudiation of the national debt for example.

  4. BM, please consider what it means to transfer property rights via a contract. You agree to give me money, and I agree to give it back to you at a later date. We have a contract. I gain ownership of that money at this time, and you simultaneously gain ownership of the money at the later time when the note matures. Yes? Then, at maturity, I refuse to pay. I refuse, in other words, to deliver to you your own property. How is this not theft?

    You can say that de facto, this is part of life and an entrepreneur should plan for it. I agree, stuff happens. But I just cannot see how you could consider this anything but theft.

    Igor Karbinovskiy

    1. Every transaction is guaranteed to be a success? On what planet?

      Remove the word "refuses." What if the entrepreneurial possibility was misjudged? What if my future cash flow is not enough to pay the mortgage - I got laid off. In other words, honest failures. These happen daily.

      Does only one party to the transaction take risk? Of course not.

      Beyond this, is it possible to distinguish a dishonest refusal from a failed entrepreneurial estimation? Unless an examination of the books reveals this (perhaps misappropriation of finds or whatever, in which case different issues are raised), we are left with mind-reading.

      Big boys make deals. If they don't like the terms of the deal, they need not sign on the dotted line. No one forced the creditor to give the debtor the money.

      Unless you can demonstrate that the world is made up of creditors who don’t take and price risk (only possible on a planet where risk doesn’t exist), this isn’t theft. And even if you can demonstrate this (you cannot, but I will play along), I say shame on the creditor.

      Finally, are you saying that if a clause that mimics today's bankruptcy law was voluntarily inserted in a contract, the bankruptcy would still be considered theft? Impossible to label it theft, I say.

      Guess what, the clause - even though it is by law - is part of the contract. Don't like it, don't sign.

    2. Can you kindly stop putting words in my mouth please?!? No one said anything about guaranteeing success. Thank you very much.

      I still haven't seen you explain how it is possible to keep another person's property against their will, and not be a thief. Looking forward to it.

      Igor Karbinovskiy

    3. Igor, the lender loaned the money under terms of a contract. The contract stipulates what happens if the borrower is unable to pay. In the case of inability to pay, the stipulations in the contract control.

      This is not theft. It is the deal that was agreed by both parties.

      If the terms of the deal were against the lender's will, the lender should not have agreed to the deal.

      You think the agreement was merely an exchange of property. It isn't; it is an exchange of property governed by certain terms.

    4. It seems to me that there are two parts here, one of which you are disregarding. A default is both a breach of contract, and exchange of property. The contract does, indeed, provide for what may happen in the event of default - late fees, accrued interest, collection charges, etc. But there's a second part to it: the property. As I mentioned before, there is in fact a transfer of property rights which takes place and has to be protected.

      I borrow money from you. The loan is nonrecourse. I then go on a bender in Europe and spend it all, then default on the loan. Practically speaking, you're right, and there's nothing you can do since our contract does not stipulate any collateral. But morally speaking, I maintain, you are still the rightful owner of that money. I can't just shrug and declare bankruptcy and thumb my nose at you. That's a violation of NAP, in my book.

      Mind you, an equity investment (which of course is also a contract) is different from a loan in just this: a loan *entitles* the lender to recover his money. That's why lenders are senior to equity holders, and get paid first when the firm is liquidated. Same for estates: inheritors get what's left after lenders are made whole. So it's not just a matter of making a foolish investment decision.

      Igor Karbinovskiy

    5. Igor, I disregard nothing; loans are made conditioned to terms of a contract.

      Without treating contracts seriously, there is no chance for a libertarian society.

      Why are so many libertarians in favor of being baby sitters?

  5. This is a thoughtful article. In addition, not only is bankruptcy implied by many contractual relationships such as with lending and debt financing, but that the bankruptcy provisions are explicitly mentioned in the contracts. Most sophisticated market participants address the legal and regulatory considerations explicitly within their contracts. I have not read the contracts associated with the defaults and bankruptcies of the respective Trump enterprises, but I wouldn't be surprised to see in the Trump debt contracts language addressing the US Federal bankruptcy code.