Courts at work:
Bankruptcy Statutes, Majority Rule and Private Contracting in
England (17th-18th century)
Jérôme Sgard
Sciences Po - CERI
[email protected]
ABSTRACT
Rather than evolving as a platform for renegotiation and debt discharge, as on the Continent, English
bankruptcy emerged as a liquidation-only procedure after majority arrangements among creditors were
banned in 1621. Over the course of the 17th and 18th centuries, the courts then developed an alternate,
private-law set of rules on the basis of the old English trust and the Composition agreement, which
belonged of the medieval Law Merchant. The main advantage of this little-known institution was its
perpetual character and the flexibility of its governance, and its main drawback was obviously the
requirement of voluntary initial adhesion. Symmetrically, under the Continental model, collective action
was easier to obtain but it not extended beyond the doors of the court. The discussion brings forward
two further themes: the symmetry between adjudication and voluntary adhesion to a collective contract;
and the capacity of judges to invent new legal concepts out of diverse set of existing rules, rather than
through the simple, bottom-up approach usually emphasised by the literature on the Common Law
tradition.
2
The law of majority voting is itself something
established by convention, and presupposes
unanimity, on one occasion at least.
Jean-Jacques Rousseau, The Social Contract (1762)
I. COURTS AT WORK
Bankruptcy law is an institution geared to private markets, especially to the debt markets, while being at
the same time about abrupt state interventions into core private rights. Take the mainstream tradition
that emerged in Italy during the Middle-Ages, before informing virtually all later, modern bankruptcy
regimes: each single rule in this generic model is highly problematic from the perspective of private
rights. Then as now, a typical bankruptcy process thus starts by suspending both the debtor’s “natural
right” to contract and his control over his assets, i.e. his property rights. His correspondence and private
dealings are thrown open and, for centuries, he might have spent time in jail. Creditors meet and
coordinate under the judicial supervision, debts are accelerated and a detailed procedure governs the
successive steps in the deliberation process. Typically, a weighted, qualified majority vote eventually
decides between liquidation and some restructuration plan so that, after confirmation, capital losses and
property rights are coercively redistributed.
This benchmark Continental procedure works therefore as a judicial platform for bargaining, in which
large transaction costs are traded off against the negative externalities of a disorderly default:
adjudication and procedural safeguards aim at controlling the collective action problems that are
inherent to any default with multiple creditors (Jackson, 1986). Otherwise, creditors may run on the
assets so that the ex post distribution of capital losses would be both unfair and unpredictable;
alternately, minority creditors may block any agreement and force liquidation even when the majority
agrees that a continuation agreement would better serve its interests. From a jurisprudential perspective,
the majority vote should thus be understood as a signal of where the collective interest probably lies, so
that the judge may confirm the underlying settlement and impose the redistribution of property rights on
the minority. As such, creditors, even a qualified majority of them, may not interfere in the property
rights of fellow merchants and bankers.
Early modern England presents the most significant exception to this classic model of bankruptcy law.
In 1621, a principled defence of private property rights led the Parliament to forbid any arrangement
with the debtor not based on the voluntary adhesion of each single participant creditor. The statutes
would just not lend their support to creditors, even a qualified majority of them, as they tried to control
holdout investors. As a consequence, the bankruptcy process could only end up in liquidation and the
3
creditors’ bargain had to take place outside courts and on a voluntary, hence unanimity basis (Sgard
2013). Confronted to such an adverse legal framework, debtors and creditors could have opted-out en
masse of the courts and build alternate private rules far away from them, as is often the case in the
informal sector of developing countries (Fafchamps, 1996); or criminal rings could have taken over the
job of brokering deals and restructuring property rights - that is the job of “transaction costs engineers”
(Gilson 1984). To the contrary, merchants kept coming to the courts, so that precedents accumulated
and, over time, a new, coherent institution gradually emerged in the shadow of the dysfunctional 1621
statute and eventually gained a high degree of consistency: from about the 1720s onwards, it offered a
complex set of decision and coordination rules, assembled into an agency framework with an
idiosyncratic firm-like structure. It included procedural and substantive dimensions, it entirely
redesigned the structure of property rights, and it interacted at several points with public regulators.
When confronted to financial distress or default, Merchants could thus rely upon a coherent, fullyenforceable, two-track regime. On the one hand there was the statutory option founded on adjudication
that inevitably led to liquidation; and on the other one was a voluntary case-law option that mitigated
parts at least of the underlying collective action problems so as to make bargaining and restructuring
easier. Tellingly, in the later part of the nineteenth century, when this Act was eventually abolished, the
voluntary road to settlements not only survived, in parallel with the bankruptcy statutes: it even
expanded as the preferred option for restructuring large businesses. Still today its distant heir remains
widely practiced and defended under the name of the “London approach” to business failures.1
This article analyses how this voluntary road to restructuring emerged from a heterogeneous legal
material and gradually acquired its remarkable, self-standing and persistent formal structure. Where did
these diverse elements come from and how were they gradually aggregated in a logically coherent set of
rules? Which rules coordinated in practice these two tracks at maturity? And how can we account for
path-dependent character of this innovation? The coming discussion draws from past legal treatises,
commentaries of cases as well as textbooks written by barristers for laymen. Beyond their relatively
great number, an interesting feature of these later publications is that they present the most relevant
cases in each sub-field as well as collections, or toolboxes, of standardized models of contracts offered
to private persons - landowners, merchants, bankers, widows, ship owners, etc. Hence, these books
observe legal practices behind the frontier of legal change, rather than just on this line, so that they may
lack chronological precision. On the other hand, once described in this type of publications, there is
little doubt that these instruments were well accepted, both by the courts and the economic agents.
The next section brings this experience within the broader literature on the evolution of economic
institutions and, in particular, the evolution of judge-made law. At this point, and when needed in the
rest of the paper, the Continental model of bankruptcy law is used as a default rule and is therefore
briefly presented. Sections three and four then analyse the genealogy of the alternate, private-law route
4
to debt settlements, first by looking at the political and institutional context within which it emerged;
then the focus shifts to the formation of this new legal institution, between the mid-seventeenth and the
late eighteenth centuries. Section five discusses how it worked at maturity, from a synchronic
perspective that emphasises the structure of incentives and constraints to which the parties responded
when trading off the respective advantages of adjudication and voluntary adhesion. Section six is a
conclusion.
II. THE SHADOW OF STATUTE AND THE EVOLUTION OF CASE-LAW
A large and rich literature, both economic and legal, has discussed for decades how norms, formal and
informal, substantive and procedural, can be agreed upon and how they may evolve over time. In
particular, the role of dispute resolution in the mutual adjustment of norms and actual behaviours
explains why the experience of the English Common law has emerged here as key reference. Its open
and experimental orientation would be especially adequate to a competitive and changing economic
environment, where the law should be able to adjust smoothly to a new technological and market
conditions.2 Social interests and preferences may thus percolate upwards and inform the decisions of
judges, whereas statutes and codes are often seen as potential sources of rigidity and exclusion, as when
a dysfunctional (civil law) system causes widespread informality in Latin America (de Soto, 1989), or
entrenched criminality in Japan (Milhaupt and West, 2000).
The bottom-up, decentralised view of social ordering and law-making that is associated with the
Common Law rest ultimately on the principle that efficiency and legitimacy derive from a process of
selection, hence from the closeness of the lawmakers to real-world agents. An argument initiated by
Cardozo (1921) and Posner (1973) see this pro-efficiency bias in the anonymous, Darwinian process of
repeated litigation, leading over time to the steady erosion of bad precedents and the preservation of
good ones (Rubin 1977, Cooter and Kornhauser, 1980). An alternate view has its origin in Hayek (1973)
who locate this built-in trend in the mind of the judges, hence in their own preferences and
independence (Mahoney 2001, Cross 2007). The divergence between the two views stems from the
actual qualities that judges should present: they may be the blind operator of an anonymous selection
process or they may possess a broader and more demanding expertise so as to be able to design novel
solutions to social or economic problems, which lay people would then adopt or reject.
This discussion also presents an historical dimension, where the Common Law tradition is typically
envisaged as the heir, or the modern continuation, of the old medieval Law Merchant: i.e. the body of
1
Brierley and Vlieghe (1999), Armour and Deakin (2000), Willman (2008)
This argument, that builds on notions of flexibility and pragmatism, should be carefully distinguished from
another, in fact very different line of contributions that insists on the quasi-constitutional features that would be
build into the English Common law. The main theme here is the superior protection of private property rights, as
emphasised e.g. by Beck et al. (2003) or Glaeser and Shleifer (2002). Curiously, the tension if not the
contradiction between these two themes has not been much explored.
2
5
informal norms that are said to have structured commercial exchanges across Europe at a time when
territorial states and their hierarchic jurisdictional orders had not yet emerged. An important figure in
this narrative is Lord Mansfield, English Chief Justice between 1756 and 1788, who used to “discover”
the law in this matter by consulting expert merchants on accepted commercial customs, before
confirming them by way of precedents.3 He would have thus acted as the benevolent agent of the
absorption of the old Law Merchant into the legal language and procedural tradition of the common law.
This genealogy of modern commercial law is then opposed to the early drive to codification, as
observed typically in France, where a first and rather light commercial code was adopted as early as
1673.
The present article covers this broad period in modern legal history and explores specifically how
English judges responded to the problems raised by the 1621 ban on majority arrangements among
creditors. The overall view is more Hayekian than Posnerian, in so far as the creative dimension in law
making comes out as far more diverse and sophisticate than what a purely pragmatic, bottom-up
perspective may reasonably account for. At some key points, when balancing incentives and constraints,
the intention to design a better institution should have motivated decisions. For the same reason, the
perspective does not strictly align with the traditional, possibly simplistic, “Mansfield narrative” where
enlightened judges recognise and simply confirm pre-existing merchants’ customs, or the Law
Merchant.
First, the legal innovation that was eventually produced was closely articulated to the 1621 Act, so that
at maturity they were de facto proposed together as a menu. By extension, the case for an efficiencyenhancing evolution is conditional in the present case upon the continuing presence of the antientrepreneurial 1621 act: the precedent-based rule made life easier to merchants, considering the
collective action problems they were confronted to. Secondly, if anything the Continental approach to
bankruptcy was much closer to the medieval legal tradition than the English one, just as the Continental
traders’ courts were as close as any to the merchants’ communities.4 In fact, as English judges struggled
with the problems left over by 1621 Act, they did not look just at the merchants’ customs, they drew
also “laterally” on a large and rich legal material whose origins were outside the commercial sphere. At
that point, professionals had to do the job of identifying possible legal solutions and formally
assembling them so as to respond to the demand of commerce. The merchants’ communities could not
be reasonably expected to have this expertise.
The next two sections discuss the history and genealogy of this innovation, and the following, fifth
section analyses from a synchronic viewpoint how it worked at maturity, i.e. in the late eighteenth and
early nineteenth centuries.
3
On Mansfield, see Scrutton (1909), Lowry (1973) and Poser (2015); in the larger literature on the Law Merchant
and the Common law, see i.a. Holdsworth (1907) and Baker (2007).
6
III. BANKRUPTCY LAW AS AN ABSOLUTIST INSTITUTION?
Starting in 1543, business failures in England were administrated by so-called Bankruptcy
Commissions, created on a case-by-case basis by the Chancery after one or more creditors had
petitioned the Lord Chancellor.5 Each Commission was therefore a short-lived public authority, whose
members were chosen from local notables and fellow traders. It received control over a debtor’s assets,
and it had the power to put him in prison or free him, audit him, control debt titles, collect and sell his
assets, and share the resulting dividend. Contrary to the well-established continental merchants’ courts,
however, the judicial character of Bankruptcy Commissions was at best partial and their weaknesses
regarding procedural guarantees were well acknowledged. At least until the eighteenth century,
guidelines for decision making were not explicit, recruitment was not strong and corruption is often
mentioned6: we are a world apart from the classic image of a grand English judge.
A consequence of the relative weakness of Bankruptcy Commissions is that they made an unpromising
forum for open-ended bargaining among the parties over the future of the failed business, not to mention
the possibility of confirming a majority arrangement. Hence, attempts to control the risk of hold-out by
minority creditors took the separate route of an appeal to equity judgments: majority creditors, or the
debtor, would petition the Privy Council, the Court of Request, or the Chancery and ask that they issue a
Bill of Conformity, ie a court injunction imposing a settlement on all creditors. But this separate practice
came under increasing attack after 1609 and in 1614 the Common Law courts de facto obtained the
authority to annul, or ‘prohibit’ the Bills. The key reason for this resistance is that both the principle and
the actual practice of these interventions in private dealing presented a strong discretionary character.
This is where the constitutional dimension of the discussion on bankruptcy comes back in. Smith (2010)
provides a wealth of examples showing how these courts were all too willing to pressure recalcitrant
minority creditors and even to threaten them with imprisonment. Treiman (1938a) also quotes for
instance how in 1591 the Privy Council instructed the Bankruptcy Commissions to lead recalcitrant
minority creditors “plainlie to understande that yf anye informacion shalbe broughte at anye tyme
againste them upon any matter by stricktness of law, they are to looke for noe favor but all extreamitie
that maie be used, in respecte of the contempte they shewe to her Majestie’s authoritie and harde
disposicion to theis poor men oppressed by their rigorous dealing”. Malynes (1622), a well-known
4
On the general history of bankruptcy laws, see Kohler (1892), Santarelli (1964), Hilaire (1986), Safley (2013).
On the economics of bankruptcy law, in a large literature, see i.a. Jackson (1986), Baird (1986).
5
Muldrew (1993) and Brooks (2008) on the large-scale judicialisation of social relationships in early-modern
England.
6
During the seventeenth century, “[p]rocedures were crudely outlined, clerical requirements were ignored, and all
the statutes were amorphous on the subject of ultimate administrative and legal responsibility” (Jones 1979). On
Commissions, see also Holdsworth (1914), Dawson (1950). Price (1694) for a typical pamphlet against the
corruption of commissioners.
7
commentator of early modern English mercantile law, and a supporter of Continental-style majority
arrangements, also shared this grim view with regard to the Chancery’s interventions.7
Against this background, the fight over Bills of Conformity became rapidly embroiled in the much
broader conflict between the Common law courts and Parliament on the one hand, and the King and
Equity courts on the other. Its core object, as is well known, was the evolution of the monarchy and the
resistance to emerging absolutist trends. One major stake in this fight was indeed the protection of
private rights against state-enforced monopolies, arbitrary taxation or executive interventions. It is not
insignificant that the present episode unfold at the same time and place as the dispute over the Statutes
of Monopolies (1624) which remains a better-known landmark of early modern English political history.
In 1620, a streamlined version of the Bills of Conformity was introduced by Francis Bacon—then Lord
Chancellor, hence an ally of the King, and no minor historical figure.8 His main opponent in this fight
was Edward Coke—then the most articulate defender of Common law and Common law courts, as well
as a major leader in the House of Commons. His attack on the Bills of Conformity, on 14 March 1621,
would be the opening shot in the final scene of Coke’s long political and personal fight against Bacon.
Immediately after the Bills had been actually banned, and in front of the same parliamentary committee,
charges of corruption were levelled against Bacon, charges to which he would confess to before being
impeached by Parliament on 3 May9 - this would mark the end of his long and remarkable public life.10
Even though they were entering at that time a long-term competition for pre-eminence over commercial
affairs, the Common law courts did not attempt however to take control of bankruptcies: after Coke had
lend his arm to the abolishment of majority arrangements, these procedures remained in the weak and
contested hands of the Commissions.11 The overall result was that bankruptcy remained a pure debtcollection instrument with strong anti-market features. On the one hand, the entrepreneur was very
much at risk: if any unpaid debt remained after a bankruptcy procedure was closed, then any new
resources acquired or earned by him could be seized (including inheritance). He could also be returned
to prison by any individual creditor and would stay there as long as the latter was willing to pay for his
incarceration. These risks were further compounded by the Common law courts’ resistance to
7
“the Bills of conformitie were of late yeares used in the Chauncerie, which by the Parlement Anno 1621 are
made void, because of divers great abuses committed in the defence of Bankrupts, who to shelter themselves from
the rigor of the Common-lawes, did preferre their Bills of complaint in Chauncerie, which was in the statute of
protection, and the parties broken, became to be releeved for easie composition with their Creditors, albeit at
charges another way extraordinarie”. (Malynes, 1622/1996)
8
See Pocock (1987) and Cromartie (2006) for a discussion of the “constitutional debate” over absolutism between
the Monarchy, the Parliament and the Common lawyers. Kishlanski (1996, Chapter 4) for a broad presentation of
the political history of Britain during the first decades of the 17th century.
9
On the circumstances and the Parliamentary politics of the day, see Zaller (1971), White (1979), Powell (1996).
For the economic environment Supple (1959) and Kindleberger (1991). In 1624 the very attempt to reach an
arrangement with adverse effects for creditors would be qualified as a penal “act of bankruptcy”, inevitably
leading to liquidation.
10
Note also that Bacon’s private secretary at the time was the young Thomas Hobbes.
8
partnership’s limited liability of the commenda type.12 On the other hand, the voluntary principle made
it hard to address situations of financial distress: solvent businesses that suffered a liquidity shock might
not be able to reschedule and creditors may fail to restructure insolvent firms as going concerns even
when this option was superior to liquidation. Even a piecemeal, gradual liquidation over a few months
or a year (as opposed to fire-sale liquidation) could be difficult to obtain.
Until the end of the seventeenth century, a great number of pamphlets against the debtor and bankruptcy
law can actually be found, together with recurring attempts at allowing again the judicial confirmation
of majority arrangements, along Continental lines.13 This proposal experienced a strong revival during
the last two decades of the seventeenth century, as attempts to introduce it were made in 1679, in 1693
and in 1696–97, along with ad hoc measures of debt relief (in 1649-1654, 1670–72, 1678, 1690, and
1694).14
The breakthrough as regard the debtor’s fate occurred in 1705 with the Act of Anne, which brought
more balance into the institution: if he transferred all his assets and acted cooperatively, and if four
fifths of creditors agreed, then the failed merchant would be discharged of his residual liabilities and his
old creditors could no longer throw him in prison or seize his new assets. Hence, fresh start had now
become a possibility though the counterpart to this step was that the property rights of the minority
could now be intervened.15 At least since the late eighteenth century and until today, the 1705 Act has
been hailed as the true birth date of a unique, pro-market, English bankruptcy tradition: one that
uniquely conjoins “principles of humanity and the benefit of trade”—in the usual phraseology.16 This
new sense of legitimacy and efficiency is also underlined by the complete ignorance of the wellestablished presence of the fresh start in the Italian and Continental tradition since medieval times.17
11
Common law courts had developed a specific debtor law, a very harsh one indeed, that relied extensively on
imprisonment for debt, but this was only an instrument for individual creditors, not one that would coordinate
action against a common debtor.
12
Rogers (1995), Harris (2000); also Getzler and McNair (2005) for a partially revisionist statement.
13
The digital collection “Early English Books Online” that covers the seventeenth centuries includes (a minimum
of) 52 pamphlets, petitions or libels against prison for debt, about half of them dated between 1640 and 1653.
Note, however, that prison for unserviced debt concerned bankrupts as well as small debtors who had no access to
bankruptcy.
14
See Treiman (1938) and Hoppit (1987). The 1697 act, which abolished the 1696 act on arrangement, mentions
primarily the opportunities for fraud and deception. However, Cooper (1801) states that only a single arrangement
was actually confirmed during the whole year when the law was in effect.
15
See Kaddens (2011), as well as Tabb (1991) and McCoid (1996)
16
Terms similar to these are used by Cooke (1799), Cullen (1800), and Beawes (1813). In the much-quoted, later
commentary of Blackstone: “Thus the bankrupt becomes a clear man again; and […] may become a useful
member of the commonwealth” (1811, p. 488). In 1732 a comprehensive “codifying Act” reiterated the principle
of discharge and would remain, more generally, the touchstone of legislation until 1825. Hoppit (1987) discusses
how bankruptcy proceedings worked during the eighteenth century (chapter 3), and how they related to the rules
applying to small debts and to Insolvency proceedings; see also his quarterly statistical series, and Marriner
(1980).
17
Continental lawmakers had long noted that keeping debtors in jail indefinitely and pre-empting all future
income flows was not a promising incentive scheme. In Les coutumes du Beauvaisis (1283), one of the best-known
medieval legal treatises, Philippe de Beaumanoir had already made the point: « It would be against any sense of
9
The true enigma in this apparent unanimity in favour of the post-1705 settlement is that it addressed
only one part of the problem, i.e. the personal fate of the bankrupt debtor. What is missing in this
narrative is the symmetric problem of how to deal with continuation and restructuring. There are indeed
good reasons to hypothesize that the emerging sense of English exceptionality reflected also progress on
that side. Significantly, by the late eighteenth century, all references to the Continental approach to
majority-based restructuring had also been shed. The very memory of this old practice seems to have
been lost.18 Even during the long and tortuous road back to the majoritarian principle, between the
1820s and the 1880s, the recognition of returning to a past or foreign model is seldom evident.
IV. LEGAL INNOVATION: THE LAW MERCHANT MEETS ENGLISH TRUSTS
The modern economic and legal historiography on debts often mentions the practice of so-called
“composition arrangements” and “composition deeds” among seventeenth and eighteenth century
English merchants. But it says very little on how these agreements worked and how they were
regulated.19 One reason for this neglect is that those agreements being private, thanks to the 1621 Act,
they would not find easily their way into public archives. Hence, they tend to be scattered or lost.
Another factor is that the main institutional innovation that marked this practice resulted from the
gradual convergence of two legal institutions that belonged to very distinct bodies of law.
On the one hand was the traditional composition agreement that had indeed its roots in the old, crossEuropean Law Merchant.20 In short, provided they all agreed, creditors could at their discretion offer to
the debtor either more time or a write-off, and a protection from imprisonment for a given period.
Failure to agree on a private basis would then be followed on the Continent by court-petitioning, leading
to a second round of bargaining, with more judicial safeguards. The parties would then benefit from
more guarantees regarding the validity of individual debt contracts, equal access to private information,
the protection of assets during the procedure, etc. Qualified majority vote, on a weighted basis, would
then be followed by judicial confirmation. Formally, however, such accords were structured by new
humanity to keep the debtor indefinitely in prison, since we can see that the creditor cannot be paid by the
prison. » (quoted by Troplong 1847, p. 19)
18
In his treatise on commercial law, Wyndham Beawes (1813) allocates more than a hundred pages to bankruptcy
issues, including a detailed comment on the 1673 French Ordonnance sur le Commerce; but he does not mention
once the arrangement based on qualified majority vote. In the case of the Netherlands, he suggests that traders
“may find some method to settle with the creditors”. Cooper (1801) defines this same practice (now called
Concordat) as “a mode of composition which not unfrequently takes place” in France.
19
Muldrew (1998) presents detailed analysis of the interaction between credit markets and court in the earlymodern period, including bankruptcy. Hoppit (1987) comments on compositions during the eighteenth century and
mentions trusts. On the nineteenth century experience, Lester (1995) offers statistical indications that compositions
were actually far more numerous than bankruptcies. But none of these authors explore in detail how compositions
worked and evolved, and how they addressed the underlying collective action problems.
20
On the English practice of these accords, see Malynes (1622), Hutton (1652), Billinghurst (1674), and Brown
(1701). For Continental versions, see Peri (1672) and Savary (1675).
10
bilateral contracts between the debtor and each individual creditor: the collective dimension of the
proceeding did not extend beyond the judicial process.
Contrary to the old Continental composition, the trust was a typically English institution.21 It initially
belonged to land and inheritance law and was developed as a response to the difficulty, under the
Common Law, to transfer assets by way of will. Originally, trusts were thus assignments made by a
landowner to (what we today would call) a fiduciary agent; he would then exercise and manage the
underlying property rights in favor of a third-party—typically a widow or other inheritor(s). The legal
discussion about trust is thus in large part about the extent to which ownership rights were actually
transferred, the respective rights of the three parties, the exact mandate and responsibilities of the trustee
or the reversibility of the operation. Beside is also a discussion on whether trusts ultimately belong to
the law of property or contract. 22
By the mid-seventeenth century the typical clientele of such accords, i.e. land-owners, remained in a
world far apart from commerce—socially, politically, and legally.23 This distance was further increased
due to the fact that bankruptcy statutes applied only to a specific list of professions, directly associated
to trade. The issue at stake, in the present discussion, is how these professions would progressively gain
access to trust and transform it in a collective instrument, or a vehicle, to renegotiate commercial debts
and assets. As said, this evolution was not driven by legislation but by precedents. Here is how,
following textbooks and treaties, trusts and composition agreements converged over many decades and
eventually offered a practical legal tool for restructuring businesses.
i. In The Young Clerks Guide, Hutton (1652) describes separately a traditional, voluntary Letter of
Composition and a trust to which a husband may assign his properties, which in practice meant
land, to the benefit of inheritors and creditors. The same legal strategy as regard inheritance is
presented in Herne (1656), though he mentions that the trustee would pay off the debts first,
perhaps in order of their legal ranking (i.e. in terms of classes of creditors); he would then transfer
the balance (or revenue flow) to the landowner’s heirs. Still, there is no mention in these two
books that the trust could be used as well by merchants and traders.
ii. Twenty years later, things did not seem to have changed much: in Arcana Clericalia, Billinghurst
(1674) describes in a similar manner how a property holder can convey unmovable assets to a
trust. Yet, in the second half of the book, which deals specifically with contracts forms used by
traders (e.g., partnership, maritime contracts, bills, etc.), he does not mention trusts as a vehicle to
reshuffle commercial debts and assets. Only traditional compositions with creditors are
envisaged, i.e. « every of them, for himself and not jointly» (p. 222). Even the somewhat
21
See Maitland (2003), Helmolz and Zimmermann (1998), Macnair (1998), van Rhee (2000), Baker (2007,
chapters 15–17). For a view closer to social and economic history, Habakkuk (1994) and Chesterman (1984).
22
See Langbein (1995) on this count.
23
Moss v. Browne (1641), quoted in Macnair (1998).
11
intermediate case of a merchant’s widow is envisaged only on the basis of a debt write-of, plus a
Letter of Administration that puts her under the supervision of an agent of the creditors; but the
later do not have any right on, or direct access to, the assets.
iii. The same year in a treatise of inheritance addressed primarily to land-owners, The Orphans
Legacy, Godolphin (1674) proposes however a much more developed treatment of the deceased’s
financial affairs, especially in the case of his being insolvent: the judge may then decide to create
a trust, to which the debts and remaining assets will be transferred to the joint benefit of all
creditors. The rules that are being described then shadow many aspects of a generic bankruptcy
procedure: debts are accelerated, a hierarchy of creditors governs the distribution of dividends,
the trustee may negotiate a composition with the creditors, and the heirs may received a minimal
guaranteed income. Bridgeman (1682) presents similar materials and confirms therefore an
evolution of the jurisprudence on trusts towards more market-based contractual activities. This
suggests that, in this early phase of evolution, trusts moved towards commercial failure first by
taking on the case of the physical decease of the debtor.
iv. The next step was observed on the side of bankruptcy law: in The Law Against the Bankrupts,
Goodinge (1695) mentions that Bankruptcy Commissioners may now assign the debtor’s assets
and debts in trust to the creditors. From a purely formal perspective, this did not mark a real
innovation: a 1603 Act already established this very possibility, although in the previous decades
practitioners’ books did not mention this practice. Hence, by all accounts, it only remained an
ignored possibility. Beside, in Goodinge’s treaty, the intention beyond the creation of a trust is
only to safeguard the assets during the procedure and before liquidation is completed. Hence it is
not yet envisaged as a long-lived business institution. Giles, in The Accomplished Conveyancer
(1715) describes a similar mechanism under the form of “An Assignment of a Bankrupt’s Estate,
made from the Commissioners to one of the chief Creditors of the said Bankrupt, in Trust, to be
sold for the Benefit all the Creditors”.
v. The two trends, with regard respectively to trusts and arrangements, finally meet in Bird’s
Practicing Scrivener and Modern Conveyancer (1729). On the one hand, he presents a model for
the “Absolute assignment of debts to a Person, in Trust, for himself and the rest of the Creditors”
(p. 389). The point, here, is that a trust can now be created even outside bankruptcy, though
arguably as a response to a situation of financial distress. On the other hand, Bird states (p. 462)
that after the opening of a bankruptcy procedure, and if all creditors and the debtor agree, they
may ask for the proceedings to be closed or “superseded”, so as to allow them creating a trust. In
other words, bankruptcy was not anymore a strict “one entry-one exit” process, as it had been
since the 1621 Parliament Act. A strategic link was established between the operation of statutes
and private arrangements: bargaining in the shadow of the law had become a much more
sophisticated game.
12
By the 1720’s it seems therefore that the main pieces of a comprehensive bankruptcy regime were in
place: liquidation at the hands of a Bankruptcy Commission (as established in 1543), the traditional
“Law Merchant” composition, the newly fashioned trust (also known as a composition deed), and debt
discharge (the 1706 Act of Anne). Here is the background against which the narrative on the English
exceptionality in bankruptcy matter was formed. Innovation then seems to have stalled, a point observed
later by Holland (1864). Or perhaps lawyers just kept writing along the usual dividing lines of the legal
academy, without exploring further the new connections invented by practitioners.24
What is sure is that by the late eighteenth century compositions-cum-trusts were widely practiced, they
enjoyed strong court protection, and they had become increasingly sophisticated. Cases (mostly from
Equity Courts) are commented on and comprehensive models of such accords are published, for
instance in Barton’s Original Precedents in Conveyancing (1802) and in Montefiore’s Commercial and
Notarial Precedents (1803). The dates of these publications suggest that the economic and financial
disruptions brought about by the Revolutionary and Napoleonic wars might have accelerated legal
innovations in this field as in others. Later on, Crabb’s 1835 Conveyancer’s Assistant offers two
remarkable examples of a complex management or agency contract built into a trust deed, established to
the benefit of creditors though in the absence of any formal bankruptcy proceeding.25
With hindsight, and from a formal perspective, the outcome of this effort by generations of judges is
brilliant. In essence, (continental) adjudication had been replaced by adhesion to a (English) trust, and
the eventual confirmation of majority voting substituted by initial unanimity. On the Continent, the
authority to redistribute property rights and to rewrite contracts coercively rested ultimately in the judge,
whose legitimacy derived from the delegation he received from the sovereign. In England, just as in
Jean-Jacques Rousseau’s Social Contract (1762), provided unanimity had been obtained at entry,
agency and majority vote would rule inside. Voluntary adhesion thus created a new entity that would be
both self-governed and virtually permanent.
As the great legal historian Frederic W. Maitland wrote, from a broader perspective, “the device of
building a wall of trustees enabled us to construct bodies, which were not technically corporations, and
which yet would be sufficiently protected from the assaults of individualistic theory” (Maitland
24
Lily (1735) and Woods (1762), two practionners’ guides, include materials comparable to those present in Bird
(1729); but the connection between bankruptcies on the one hand, and trust and conveyances on the other, is
absent from both Green (1776) and Sanders (1792), which are among the main, late eighteenth century treatises on
their respective subjects. Similarly, many bankruptcy treatises mention the possibility to “supersede” a bankruptcy
proceeding, i.e. to close it by agreements among the parties; but they don’t say why, or under which conditions,
the parties would have an interest in taking this decision.
25
The first ever treaty on compositions, Montagu (1824), does not say much on trusts. Afterwards, the main
authors are Forsyth (1841), Holland (1864) and Brown (1868). Note also that, from a formal perspective, this trustbased approach should be carefully differentiated from more recent practices of: i) pre-bankruptcy contracting,
which typically requires ex post confirmation, via rapid-pace court proceeding (Warren and Westbrook, 2005);
and ii) private procedural ordering, as an extended form of alternate dispute resolution (Dodge 2011).
13
1905/2003). In the present case, the “individualistic theory” is indeed well illustrated by the tradition of
the Italian fallimento, followed by the French faillite. Once the agreement is confirmed and the judge
has closed the procedure, the parties are returned to their separate, individual market existence and to
their bilateral contractual relationships. This was most clearly stated by the Baron Locré, from the
French Conseil d’Etat, who drafted the landmark 1807 Code de Commerce: “from the moment all
creditors have agreed [and exited the court] (…) all parties are brought back to the situation where they
were [before the bankruptcy process]. (…) Such a state of things, where everything is individual,
excludes any coordination of creditors, whose interests would be unified in a common interest and
exercised in common.”26
With hindsight, the key point is that both the Continental and the English roads were structured, though
in different ways, by the unique strength that derives from the free, individual commitments of private
wealth and property. In this sense, both traditions are liberal and belong to a judicialised, law-based
economic environment.
V. BARGAINING IN THE SHADOW OF STATUTE
How did the English private-law, non-statutory arrangements work at maturity? Which rules helped the
parties circumventing at least some of the collective action problems caused by the absence of a
majority rule? And how did they organise the governance of the trust, once they had joined it ?
As we shift from the long term genealogy of this institution to its operation at maturity, i.e. to its
synchronic structure, the first evidence that comes out is that the defining constraint was still, at the turn
of the nineteenth century, the 1621 prohibition of Bills of Conformity. The new contractual institution
had been shaped in the shadow of this statute and it kept operating under its threat: anything looking like
a side-agreement, or an attempt to coerce recalcitrant creditors, could warrant the immediate opening of
a bankruptcy proceeding, hence liquidation. Thus, on the one hand, the constant reminders not to cross
the sometimes indistinct ‘red line’ and, on the other, the recurring account of: “the extreme difficulty of
getting all creditors, where the number of them is great, to acquiesce in the arrangement”.27 That being
said, the jurisprudence very clearly aimed at limiting, as far as possible, the room for disruptive or
opportunistic behaviours.
Take the case of entry into a trust. Whereas a rigid interpretation of such private accords could have
required express written adhesion before a deed (i.e., the final legal instrument) became binding to all
creditors, the courts decided that even an oral agreement made at the creditors’ meeting would be
sufficient, provided other parties had acted on the basis of that signal: “if a creditor, by his undertaking
to accept a composition, induce the debtor to part with his property to his creditors, or induce the other
26
27
Locré (1829), volume III, page 453
Forsyth (1841), p.16
14
creditors to discharge the debtor, to enter into the composition deed, or deliver up securities to him,
such creditors would be bound by such undertaking”.28
More generally, the jurisprudence construed compositions deeds as a collective contract that formally
substituted its own collective rules to those of the earlier, individual contracts: “all the creditors being
assembled for the purpose of arranging the defendant’s affairs, they all undertook and mutually
contracted, with each other”.29 Or, in another formulation: “upon a composition deed all the parties are
supposed to stand in the same situation (…) and no engagement can stand which has been held from the
whole body of the creditors (…). In bankruptcy there is no concert or understanding between the
creditors”.30
This echo of the Baron Locré’s comment on bankruptcy underlines again the contrast with the
Continental practice, where traders’ courts were the place where the “concert of creditors” met. In
England, creditors only convened outside bankruptcy and no one could be pushed into the concert hall
against his will. On that basis, a series of supplementary rules supported further the creditors as they
tried to address their common interest. Most of them mimic key features of a standard bankruptcy law
and tend to make easier for the parties to coordinate.
i. Debts not yet mature at the time of the composition were accelerated; that is, they were considered
as if they had become due, so that they were all brought together on the table “as if the same debts
had been proved or claimed under a fiat of bankruptcy”.31 This clause is non-contractual, in so far
as merchants could not adopt it on a pure, decentralised basis. Its role was to ease the way for the
renegotiation of the whole stock of debt at once, rather than remaining bounded by the respective
maturity schedule of each single contract. Hence this rule solved a critical problem of coordination
by “synchronising” the time horizon of parties and contracts.
ii.
Once all creditors had been convened at the (private) negotiation table, they could ask one of the
Masters of the High Court of Chancery to confirm the validity of both the debtor’s accounts and the
creditors’ debt titles. This powerful public authority thus contributed decisively to reducing the
risks implied by this bargain, whose aim was to move irreversibly to a collective trust. It also
shadows one key guarantee typically offered by a judicial procedure, after adjudication of
bankruptcy.
iii. Creditors were paid on an equal (pro-rata) basis, a rule that is in many respect the founding
stone of a bankruptcy process, as opposed to a DIY approach to defaults, based on individual
28
Chitty (1824, p. 691). Cases establishing this rule include Ex Parte Sadler (1808), Bradley v. Gregory (1810),
Butler v. Rhode (1820).
29
Chitty (1824, p. 740), quoting an unreferenced case.
30
Britten v. Hughes (1829).
31
Crabb (1835, p. 308).
15
remedies. A principle of inter-creditor equity was thus built into the institution, together with the
principle of acceleration. On other hand, the rights of senior creditors remained intact. 32
iv. Weighted majority rule applied among the parties once they had joined a composition. Said
differently, the ‘sanctity’ of the initial debt contracts warranted a unanimity-based decision rule
only once – when entering collective action – but not afterwards.33 Voluntary adherence, even an
oral one, was considered sufficiently strong to first displace the earlier contracts and then enforce a
majority rule among the parties that would extend far into the future, well after they had left the
negotiating table. The parties were thus considered to have joined a long-lived collective body (the
trust), not solely a transitory platform for contractual renegotiation.
v.
Any secret side-arrangement between the debtor and some creditors would be void – just as
under virtually any European bankruptcy statute.34 The aim was to offer a strong legal safeguard to
absentee creditors or to minority stakeholders with a limited incentive to invest much time in the
negotiation. On the other hand minority investors could be bought-out by the majority or by the
main players. This was again a most clearly a potent instrument to control the risk of holdout or
costly negotiations among participants to the trust.
vi. If for any reason a bankruptcy were declared on the back of a composition (i.e. by a creditor
who had remained outside), then participant creditors were remarkably well protected. First, they
retained whatever payment they had received in the composition, as some kind of anticipated
dividend from the eventual liquidation. Second, their earlier, pre-composition rights against the
debtor were re-instated, so that they were allowed to claim payments on the basis of their initial
debt titles.35 This second rule raised serious and obvious critics, due to the legally irreversible
character of the trust.36 However, if the legal argument is indeed contestable, the economic rational
is clear: other things equal the obligation to participate in an eventual bankruptcy on the basis of
(irreversibly) reduced debts, would have created strong ex-ante disincentives to enter such accord.
This would have reduced their chance of success, even though it was in the interest of many
creditors to join it.
vii. Yet, once inside a trust, a creditor could not opt out and go back to court: he would keep that
option only by staying put. Still, the reverse movement from court to trust remained a distinct
32
Stock vs. Mason (1798).
Cork v Saunders (1817), see also the model agreement by Crabb (1835, p. 309).
34
Cockshott v. Benett (1788), Mawson v. Stock (1798/ 1801); by the same token, if assets were discovered or
inherited after a debt write-of had been agreed under a composition, then creditors could not sue on their initial
contracts (Lord Castleton v. Lord Fanshaw, 1699)
35
Ex parte Vere (1812).
36
“The effect of these compositions is mischievous. They are in truth private bankruptcies, without the advantage
attending a Commission under the general law; and paying the old creditors with the property of the new.” Ex
Parte Vere (1812).
33
16
possibility: as said, the whole concert of creditors could decide to exit or “supersede” bankruptcy
and join collectively a newly-minted trust.
Let’s summarize this complex game. The two first rules deal with the structure of debt contracts, to the
effect that transaction costs when re-contracting are reduced; the next two ones are about inter-creditor
equity when sharing the dividends and making decisions; then is the clause about buying-out minority
investors; and the last two rules are about the interaction between the trust-based arrangement and the
bankruptcy procedure per se. A common thread links however these elements together, namely the
irreversible character of joining a trust (unless a bankruptcy process is opened by an outsider). Here is a
straightforward, court-enforced commitment mechanism which effect is i.a. to extend sharply the timehorizon of the arrangement; but it also works backward, to the ex ante stage, by making more acute the
need to control transaction costs and informational risks when the parties calculate their strategies and
bargain on the structure of a possible deed. The whole institution thus works on the balance between
these two terms: the binding, irreversible character of adhesion to the trust, and the necessity to ease the
way for the parties as they converge towards this mutual understanding.
This regime also presented serious drawbacks. First, the solution to the dilemma created by the 1621
vote took a lot of time to come. As already underlined, the unanimity rule long remained a continuing
source of frustration: it could cause undue liquidations, like in the paradigmatic case of a viable firm
that suffers a liquidity shock but cannot coordinate with its creditors. Secondly, safeguards when
bargaining out of court were also a source of concern, whether one thinks of asymmetric access to
information, publicity, or to power relationships during the negotiation. Lastly, the trusts long remained
an imperfect business vehicle, as already underlined by Harris (2000): they raised problems of unlimited
responsibility for the trustees and internal governance problems could be substantial. 37
This broad, largely accepted account provided the background for two series of reforms between the
1840s and 1880s which set the two-track English regime on a new course: the trust-based approach to
restructuring was amended by way of statutes, so as to make it safer to the parties; and at about the same
time, the majoritarian principle was gradually reinstated in English bankruptcy statutes38. Remarkably
however the end of the ban on majority accords was not followed by a decline of the voluntary road to
restructuring, which had developed in its shadow. Market forces did not dismantle the institution that
had been slowly built-up since the early seventeenth century on the basis of the trust, the old merchants’
composition, and the supplementary judge-made rules. The resulting, anomalous institution had
acquired a life of its own, a raison d’être, that was vindicated by the continuing adhesion of merchants,
37
In 1840, a Parliamentary report on bankruptcy reform had indeed stated that “the only alteration in the law
relating to arrangement with creditors through the medium of such [trust-]deed, which we think it right, at
present, to recommend to your Majesty is, that they should be placed under more efficient control”. Report of the
Commissioners (1840), p. xii; quoted in Forsyth (1841).
38
The first attempt at reintroducing majority vote, in 1843, came with a high majority threshold of 9/10, and was
not a great success; other reforms followed, in 1849 and 1861, without great results on this count. It was only after
1883 that this principle became widely accepted.
17
manufacturers and bankers. By the end of the century, trust-based settlements had become the standard
approach to the restructuring of large capitalist firms, whereas the majority-based road was more often
taken in the case of smaller businesses (Bowen 1907).
This second lease of life suggests, first, that path-dependency did not result here from network
externalities or even the very principle of stare decisis, as argued for instance by Hathaway (2001); in
the present case, formal persistence rested on the capacity of the assembled rules to structure options,
incentives and constraints in ways that kept being helpful to the parties, even after the economic and
legal environment had changed beyond recognition. The key features therefore are the synchronic
structure of this set of rules, from which their efficiency at solving collective action problems derived;
then is the scope of cases that could be addressed on that basis, as conditions evolved.
The late and unexpected success of this institution also sheds lights retrospectively on the key difference
with the Continental model. Because the two regimes did not balance in the same way transaction costs
at entry and the ulterior capacity to restructure property rights, their implicit target were not the same. If
anything, the Continental approach, with its strong roots in medieval commercial law, is more adequate
to an economy based on comparatively small businesses, little capital on the ground, a distribution of
debt among many peer-merchants, and a lot of liquidity shocks calling for easy adjustments of short
term payments constraints. In other words, an economy that is still in the first stages of commercial and
industrial expansion. On that count, and at least until the early eighteenth century, the English
bankruptcy regime was not much supportive of entrepreneurship. Even a century later, the mature twotracks regime may not have presented clear comparative advantages vis-à-vis the related chapter of the
1807 Code de Commerce. Things changed in the second half of that century. At that time, the policy
debate on bankruptcy reform was focussed across Europe on how to make arrangements easier and,
critically, more adequate to the restructuring of large incorporated firms, with a complex balance sheet
and a substantial going concern value (Sgard 2006). In this context, the trust-based approach, with its
long time horizon, its developed agency structure and its recently reformed governance emerged as an
(almost) ready-made solution.
VI. CONCLUSION
This article has analysed how an original, two-sided bankruptcy regime gradually emerged as a
consequence of a largely ignored act, passed in 1621 by the London Parliament. Against the dominant,
Continental approach, where statutes support bargaining within the court, this bifurcation left the
English procedure with just one exit, liquidation. Arrangement had to be adhered to voluntarily, so that
serious problems of collective action had to be confronted. However rather than opting out of both the
law and the courts, the merchants kept submitting cases. Over two centuries the judges then developed a
18
coherent, two-track regime, which eventually presented to debtors and creditors a set of options,
constraints and incentives that was proved de facto helpful, even under new economic circumstances.
The paradox is that the 1621 Act, with its utterly anti-entrepreneurial features, is indirectly though
strongly linked to a remarkably open, flexible instrument, which real success came only in the late
decades of the Industrial revolution. Beyond the paradox however, the real success story is in how the
courts worked over decades and delivered this consistent and enduring pro-market institution. They
demonstrated at this point a capacity to create new legal concepts and build a consistent, complex
regime. Path dependency has its origins in these courts and in the ingenuity of their judges - not in the
1621 Parliament, nor in the spontaneous capacity of merchants to design new rules and customs.
19
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