Law, Ethics, and International Finance

Article excerpt

I

INTRODUCTION

Cross-border financial flows can have dramatic effects on the recipients of the money--for good or for ill. This is particularly true in countries whose economies and capital markets are underdeveloped. A relatively small inflow of foreign capital into such a country can inflate valuations on a local stock exchange or allow the government to distribute pre-election largesse in the form of subsidies, tax breaks, spending on public works projects, and so forth. A sudden outflow of that capital, however, can have disagreeable consequences of an equal and opposite magnitude.

Ethical questions about who should receive cross-border financing, in what amounts, for what purposes, and on what conditions have long engaged the attention of international financial institutions such as the World Bank, the International Monetary Fund, and the regional development banks. There may even still be a few commercial lenders holding to the view that a private creditor should concern itself solely with the profitability of a transaction and the likelihood that the debt will be repaid, to the exclusion of all other ancillary issues, but these probably constitute a dwindling minority. Like it or not, loans that are susceptible to challenge on grounds of illegitimacy or recklessness run a higher risk of non-payment. So, whether viewed under the light of ethics--morality or profit-loss, the issues cannot be avoided.

What, if anything, does the law add to this discussion of ethics and international finance? The law and the machinery of justice are certainly ubiquitous elements in the lending process. After all, cross-border credits are invariably evidenced by contracts of one kind or another that contemplate enforcement in a national court.

Specifically, are the ethical considerations raised by cross-border loans exclusively matters to be taken into account before the credits are extended, or are they also relevant to the interpretation and enforcement of the legal agreements that eventually evidence the credits?

II

THE RULES

Parties entering into a commercial contract want predictability in its interpretation and enforcement. The outcome produced by the application of the governing law in any particular dispute may be far less important to the parties than the fact that the outcome can be anticipated in advance of signing the contract. Why? Because if the predictable outcome is commercially unacceptable to one or both of the parties, they are free--before they have signed the agreement--to adjust its terms to avoid that result, to switch the chosen governing law if a switch solves the problem, or, as a final resort, to scrap the deal altogether. But what commercial parties find intolerable is the prospect of locking themselves into a contractual arrangement that may subsequently be interpreted or enforced in a manner inconsistent with their presigning intentions.

The ability of a legal regime to deliver a predictable outcome is one of the major reasons why contractual counterparties will choose that regime as the governing law of their contract. This is particularly true in the context of financial transactions. Most lending arrangements involve starkly asymmetrical performance by the parties: the lender's obligations are heavily front-loaded (they lend the money), while most of the borrower's obligations are performed thereafter (they must pay the money back over time). In asymmetrical contracts of this type, the party that must perform first--here, the lender--has an especially keen interest in knowing that it can enforce the subsequent performance of its counterparty or obtain an award of fully compensatory damages if that performance is not forthcoming.

Common-law legal systems, with the importance they attach to judicial precedents, have a natural advantage in this regard. The accumulated weight of those precedents both presage and constrain how the judiciary will interpret the provisions of commercial agreements. …