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Immunity, Necessity and the Enforcement of Italian Debt in the Era of Covid-19

posted by Mark Weidemaier

Mark Weidemaier & Mitu Gulati

The sovereign debt world has been debating how to design an emergency debt standstill for the poorest nations, so that they can devote scarce resources to public health rather than debt service. As we’ve discussed on this blog, the question has come up as to whether countries might be able to use the customary international law doctrine of necessity to defend against creditor lawsuits.

Our discussion hasn’t focused on any particular jurisdiction, although we have implicitly assumed that much of the litigation would take place in New York. Now, let us switch gears to assume (plausibly, we think) that Italy is one of the countries that might need a debt standstill. It has been among the worst hit by COVID-19 and will likely soon have a debt/GDP ratio upwards of 150%. To quote a scary new report out from Schroders (here): “Italy is the prime candidate for being the first [Eurozone] casualty [from the Covid-19 crisis]. Its high indebtedness and lack of economic growth require policies that are either illegal in the eurozone, or politically unpalatable domestically.” 

Our work on the mechanics of an Italian debt restructuring—see here (Mark) and here (Theresa Arnold, Ugo Panizza, and Mitu)—has not discussed necessity or other defenses to enforcement. That’s because most of Italy’s debt is subject to Italian law, and our focus was on how Italy might change this law to enable a restructuring. But let us say that Italy does not take this approach. Perhaps it continues to pretend that a debt restructuring is simply inconceivable. It does not lay any legal groundwork for a restructuring. Instead, Italian politicians simply pray for some magical combination of high growth (unprecedented) and a no-strings-attached bailout package from European authorities. In that event, it is conceivable that a sudden spike in interest rates might prevent Italy from making payments. Assuming no immediate European bailout (Italy’s politicians have demonstrated a distaste for any of the conditionality that would come with ESM funding), that means some risk of having to defend the non-payment against creditor lawsuits.

Most such lawsuits would be heard in Italian courts, given that 99% of Italian sovereign debt is governed by local law with jurisdiction in Italy. We aren’t experts in Italian law, but we would not rate creditors’ chances of success very highly. We do, however, find some of the Italian case law—to the extent we understand it—rather perplexing. Here, we draw on our informal translations of the key cases and, more heavily, on commentary by Beatrice I. Bonafè and Andrea Atteritano, both of whom examine recent developments in Italian courts, many involving lawsuits by Italian investors against Argentina. As Bonafè describes:

Italian courts have adopted a consistent approach to these claims. Various lower courts, and finally the Court of Cassation, declined jurisdiction with respect to the actions brought by Italian investors on the ground that Argentina was entitled to immunity before Italian domestic courts under international law.

This is a surprisingly expansive conception of sovereign immunity, perhaps especially so given that the cases involved domestic claimants. It is not consistent with the law of sovereign immunity as understood in many other countries. Certainly it is not required by the international law on sovereign immunity (which the Italian courts purported to apply).

The Borri case, for instance, involved Argentina’s issuance of bonds governed by New York law. Bond issuances are generally considered commercial activities. Under customary international law courts need not grant immunity to foreign states that have engaged in commercial activities. Put differently, the default rule in international law has long been that immunity is waived for such actions (see here, for a historical treatment). Moreover, the bonds included an express waiver of sovereign immunity. That waiver might not have extended to lawsuits originally filed in Italian courts—although we will overlook this detail—but it certainly supported the investors’ argument that Argentina was not immune from suit. 

The Court of Cassation did not dispute that bond issuance is a commercial activity but ruled that legislative measures taken by Argentina during the crisis—which forbade debt service—were governmental acts for which the country was immune from suit. The practical effect of such a ruling is to make sovereign immunity subject to the whim of the foreign state. Even if it has previously agreed to waive immunity, the state can retroactively immunize itself by enacting crisis-related legislation that requires a debt default. From a contractarian perspective, the logic is hard to see.

On the other hand, the result itself is somewhat less unusual when viewed through the prism of post-World War II international law, which views countries as having non-waivable humanitarian obligations (for a discussion, see here). Indeed, one could argue that countries always have a set of deep humanitarian obligations towards their people (and the global community) that cannot be waived (here). Conceivably, one might interpret a generic waiver of sovereign immunity to have an implicit exception for cases in which the sovereign’s actions were necessary to honor such an obligation. Still, this line of thinking seems tortured, both as an attempt to make sense of the standard waiver of immunity that accompanies a sovereign bond and as an attempt to implement the customary international law of sovereign immunity.

Here, the advantages of the doctrine of necessity are clear. That doctrine accepts the tribunal’s jurisdiction over the sovereign—and therefore does not insist on a tortured understanding of sovereign immunity—but provides a temporary excuse when non-payment is necessary to avoid a serious crisis to the state and its residents. The logic of Borri and other cases suggest that Italian courts might be relatively receptive to the necessity defense (even if investors can find a way to overcome the Italian government’s immunity from suit in its own courts). Indeed, it might be worthwhile for Italian government lawyers to frame its arguments as a matter of necessity rather than jurisdiction. A request on for wholesale immunity might be viewed by the markets with far more hostility than a narrower request for a payment standstill on the basis of necessity.

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