Commercial Morality the Merchant Character and the History of the Voidable Preference

Commercial Morality, the Merchant Character, and the History of the

Voidable Preference

Robert Weisberg*

American bankruptcy law has never decided what to do about the crucial but elusive concept of the voidable preference. Defined in the most roughly general terms, a preference has a few basic elements: It is a transfer of money or of some interest in property by a debtor to a creditor to settle an antecedent debt; it occurs when the debtor faces imminent bankruptcy; and it benefits that creditor to the prejudice of other creditors by granting the favored creditor a greater share of the diminished assets of the debtor than that creditor would enjoy under the formal system of bankruptcy distribution.' Preference doctrine would seem to be a central part of bankruptcy law. If the general purpose of bankruptcy law is to ensure a ratable distribution of the debtor's assets among the creditors,2 preference law would seem, by definition, to be a primary instrument for achieving that goal. Indeed, the preference, unlike its somewhat mismatched partner, the fraudulent conveyance, is strictly a creature of bankruptcy law, rather than a part of nonbankruptcy commercial law that simply receives special enforcement in the bankruptcy process.3

Preference law, however, reflects a kind of insecurity about the formal process of bankruptcy. Bankruptcy law enforces its principle of ratable distribution at the technical point when the petition is filed. But preference law then sets a still earlier moment at which the debtor's estate faces a risk of dismemberment. At that earlier moment, preference law imposes a duty or sanction on the debtor or individual creditors to preserve the estate so that, when the petition is filed, the trustee

* Professor of Law, Stanford University. My special thanks to Thomas Jackson and Robert Gordon for their invaluable encouragement and advice. This article was written with the support of the Stanford Legal Research Fund, made possible by a bequest from the estate of Ira S. Lillick and by gifts from Roderick M. and Carla A. Hills and other friends of the Stanford Law School.

1. This definition, of course, glosses over all the doctrinal nuances, but those nuances are essentially the subject of this entire article. For a brief and lucid discussion of preferences, see Jackson, Avoiding Powers in Bankruptcy, 36 STAN. L. REV. 725, 756-68 (1984).

2. For a critical discussion of this assumed principle, see Jackson, Bankruptcy, Non-Bank- ruptcy Entitlements, and the Creditors' Bargain, 91 YALE L.J. 857 (1982).

3. Jackson, supra note 1, at 777.

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STANFORD LA W REVIEW

will still find the assets there to distribute. Bankruptcy law empowers the trustee and the court to enforce ratable distribution as a matter of public power; preference law implies that the debtor and creditor have a private duty to save the bankruptcy process from becoming moot before it has a chance to start. It places on the debtor and individual creditor a social or moral responsibility to respect the interests of the general class of the debtor's creditors, presumably in the name of the larger social goal of enhancing the efficient sale of credit.

Despite apparent consensus about the purpose of preference law, the conditions under which debtor and creditor owe this duty have been heavily contested for several centuries. A common historical ob- servation is that preference law has followed a line of progress from somewhat vague ethical edicts to modern, systematic, technical rules.4 In its English origins, the idea of the voidable preference took shape in a sort of criminal law, full of complicated mens rea notions, that condemned devious transfers or payments by debtors who purposely tried to subvert the bankruptcy process.5 Preference law therefore adopted a moralistic posture by imposing on debtors a duty toward creditors in the abstract, rather than to individual creditors on the basis of individual commercial relationships. As American bankruptcy law evolved from the English model at the start of the nineteenth century, the law of preferential transfers shifted its concern from the culpability of the debtor to the culpability of the favored creditor. It thus sought to discourage, if not punish, aggressive self-interested economic behavior by imposing on individual creditors a social or moral duty to their fellow creditors.

By the end of the nineteenth century, however, American preference law had lost most of its express moral content. The theory of twentieth century preference legislation has been that we need not engage in any intense moral scrutiny of the behavior of debtors and creditors as commercial citizens. Rather, the theory-or pretense-is that we have achieved some scientific, economic consensus that certain transactions undermine the trustee's power of ratable distribution and obstruct the efficient production of commercial credit, and that we can therefore draw very technical statutory rules that focus impersonally on classes of transactions. This notion of a rational progression in preference law is essentially a Whiggish myth. Preference law has remained one of the most unstable categories of bankruptcy jurisprudence. In- deed, its instability is obvious in the most recent, and perhaps most scientifically pretentious, efforts at legislating an American preference law, efforts that have been quickly undermined by the courts and then by Congress itself.6

4. E.g., Glenn, The Diversities of the Preferential Transfer: A Study in Bankruptcy History, 15 CORNELL L.Q. 521, 535-40 (1930).

5. See text accompanying notes 126-179 infra. 6. See text accompanying notes 470-552 infra.

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The perennial-and continuing--debate over preferences has usually taken the form of a choice between formal mechanical rules and open-ended normative standards.7 This, of course, is the conventional form that legal debate takes when the debaters claim to agree on ends and differ only over means. But I will argue that the rules/standards debate about preference law reflects a very deep division in a capitalist culture about the supposed goal of enhancing credit, and suppresses important questions about moral values in a mercantile credit economy. Moreover, I will argue that the actual history of preference law has been, not a progression from standards to rules, but a nervous os- cillation between these two approaches to lawmaking. In this regard, the tortured life-cycle of the law of preferences is an emblem of the morally ambivalent history of bankruptcy law and of commercial law in general.

I. INTRODUCTION: RULES, STANDARDS, AND MORALS

IN THE CREDIT MARKET

Bankruptcy law has been playing out a ritualized dance between formal legislative rules and normative commercial and moral standards for 500 years. And for 500 years, there has been a ritualized pattern of criticism of bankruptcy law: rules-proponents attacking standard-based bankruptcy laws, standards-proponents attacking overly formalistic bankruptcy laws, or sometimes a single critic trying to patch together both rules and standards as if combination were resolution. The ritual will continue so long as we waffle over the "essential" purposes of bankruptcy law, and so long as we conceive, and erratically suppress, deep-rooted moral and philosophical questions about the phenomena of trade and credit.

A. Defoe on the Law and Morals of Bankruptcy An excellent document for capturing this pattern of thought about

bankruptcy law in English and American history is Daniel Defoe's 1697 Essay upon Projects.8 Defoe was the most vocal and literate of the commentators on bankruptcy law who wrote at perhaps the pivotal transitional phase in the history of English bankruptcy law. This phase occurred at the beginning of the eighteenth century as Parliament was enacting, in the Statute of Anne, the first provision for a debtor's right to discharge in bankruptcy. As I will discuss below in some detail,9 the new right of discharge both reflected and caused a major shift in the social, moral, and economic perceptions of bankruptcy, credit, and the

7. See Kennedy, Form and Substance in Private Law Adjudication, 89 HARV. L. REV. 1685 (1976); see also Ehrlich & Posner, An Economic Analysis of Legal Rulemaking, 3J. LEGAL STUD. 257 (1974).

8. D. DEFOE, AN ESSAY UPON PROJECTS (1697) [hereinafter DEFOE ESSAY]. 9. See text accompanying notes 81-107 infra.

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merchant character. Where bankruptcy law had once stereotyped the merchant debtor as an elusive social deviant whom the law should crim-

inally punish, it began to develop an opposite image of the merchant debtor-as a noble and vulnerable statesman of society whom the law should protect from the cruel contingencies of economic life. Defoe was a brilliant critic of the older, punitive form of bankruptcy law, and a

prescient proponent of the emerging modern form. But his writing reflects the nervous effort of English bankruptcy jurisprudence to accommodate both views of bankruptcy law and both underlying views of the moral status of the merchant debtor.

In his chapter "Of Bankrupts," Defoe concedes that the laws of

England "are generally good, and above all things are temper'd with

Mercy, Lenity, and Freedom."'0 But bankruptcy law

has something in it of Barbarity; it gives a loose to the Malice and Re- venge of the Creditor, as well as a Power to right himself, while it leaves the Debtor no way to show himself honest: It contrives all the

ways possible to drive the Debtor to despair, and encourages no new

Industry, for it makes him perfectly incapable of any thing but

starving. 11 Here we have, in broad outline, the ritual rhetoric of bankruptcy criticism: Defoe laments that the statute has ceased to meet its purpose, so that the law is failing to achieve, and indeed is subverting, its fundamental goals. Defoe remembers the original evil at which the bank-

ruptcy law was aimed-"Breaking to defraud Creditors."12 But the law now permits debtors

[t]o evade the Force of the Act by Ways and Shifts to avoid the Power of it, and secure their Estates out of the reach of it... [and to] turn the Point of it against those whom it was made to relieve ... [s]ince we see

frequently now, that Bankrupts desire Statutes, and procure them to be taken out against themselves.'3 The prototypical villain in this dramatic conflict between the letter

and spirit of the law is the absconding Merchant:

[N]o Statute can reach his Effects beyond the Seas; so that he has noth-

ing to secure but his Books, and away he goes into the Friars. If a Shop- keeper, he has more difficulty; but that is made easy, for there are Men (and Carts) to be had, whose Trade it is, and who in One Night shall remove the greatest Warehouse of Goods, or Cellar of Wines in the Town, and carry them off into those Nurseries of Rogues, the Mint and Friars ... .14

Even the naive debtor is told by the wizened ones to ignore the demands of his creditors: "But a Statute, says he again .... Why, 'tis the

10. DEFOE ESSAY, supra note 8, at 192. 11. Id. (emphasis in original). 12. Id. at 195. 13. Id. at 196. 14. Id. at 198 (emphasis in original).

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Statutes we live by, say they: Why, if 'twere not for Statutes, Creditors would comply, and Debtors wou'd compound, and We Honest Fellows here of the Mint wou'd be starv'd."'5

The debtor can blackmail his creditors with a cheap settlement.'6 The creditors know the futility and cost of taking out a commission against an absconding debtor. Yet some will pursue the commission out of spite: "[T]he Extremities of this Law are . . . often carried on beyond the true Intent and Meaning of the Act itself, for Malicious and Private Ends, to gratify Passion and Revenge."17 Yet ironically, the other evil is that "the Debtor himself shall confederate with some particular Creditor to take out a Statute; and this is a Master-piece of Plot and Intriegue."'8 Defoe paradigmatically complains that the bankruptcy statute has failed to draw the relevant moral distinctions. In this instance, he complains that the law has taken the form of rigid statutory rules that make bankruptcy harsh where it should be lenient and lenient where it should be harsh.

B. Drawing Moral and Legal Categories To set the proper moral distinctions straight, Defoe first divides

debtors into two rough categories: "For as, the Indigent Debtor is a branch of the Commonwealth, which deserves its Care, so the wilful Bankrupt is one of the worst sort of Thieves." 9 The goal of the statute is to identify those debtors who have morally and perhaps physically absconded from civilized society by breaking rules of commercial de- cency. The law should capture them, seize their goods for their creditors, and then cast them out punitively. But these rogues are to be separated from the honest unfortunate debtors whose business disasters reveal no moral flaw, and whom the law should secure in the bo- som of society.20

The English law failed at this task. The century-and-a-half old Eng- lish bankruptcy law that Defoe treats was, at least on its face, a fairly

15. Id. at 200. 16. [F]or the Laws of Nature tell you, you must not starve; and a Statute is so barbarous, so unjust, so malicious a way of proceeding against a man, that I do not think any Debtor oblig'd to consider any thing but his own Preservation, when once they go on with that... for Equity is due to a Bankrupt as well as to any man; and if the Laws do not give it us, we must take it.

Id. at 201-02. 17. Id. at 205. 18. Id. at 204 (emphasis in original). 19. Id. at 224 (emphasis in original). 20. The law was made for offenders; there needs no law for innocent men: commissions are granted to manage knaves, and hamper and entangle cunning designing Rogues, who seek to raise fortunes out of their creditors estates, and exalt themselves by their own downfall; they are not design'd against honest men, neither indeed is there any need of them for such.

D. DEFOE, THE COMPLETE ENGLISH TRADESMAN 209 (1726) [hereinafter DEFOE TRADESMAN].

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rigid set of rules, a purely involuntary, essentially criminal law without any right of discharge from debt.21 In particular, it provided that bank-

ruptcy would occur automatically if a debtor appeared to commit one of several specific "acts of bankruptcy," such as keeping to his home and

absenting himself from the market or "yielding himself to prison" on arrest for debt. Thus, an honest debtor might helplessly fall prey to the law, while a dishonest one might be able to contrive to avoid its invocation or, if he had some reason to benefit from bankruptcy, to collude to invoke its contrivance. For the first two centuries, Parliament and the courts tried to refine the acts-of-bankruptcy provisions to make the law more morally sensitive to the fraudulent behavior it was trying to iden-

tify, but the historical literature shows a ritual lament that the tinkering never succeeds.

Thus, Defoe laments that the merchant villain absconds with impu- nity into a welcoming society of roguish colleagues. Meanwhile, the honest debtor faces prison or banishment. He cannot work, because no man will dare pay him wages for fear that those wages will have to be

paid again to the creditors. No man dares offer him money to live on, 'for there is a Statute against him."22

Defoe's focus on the word "statute" suggests that it is a suspicious anomaly in English law, a deviantly arbitrary legal form. The Essay upon Projects is a wonderfully prescient treatment of the great meta-issue of modern legal process jurisprudence-the choice between rules and standards to regulate behavior.

Defoe ultimately lays out a 4-part taxonomy of commercial actors:

(1.) There is the Honest Debtor, who fails by visible Necessity, Losses, Sickness, Decay of Trade, or the like.

(2.) The Knavish, Designing, or Idle, Extravagant Debtor, who fails because either he has run out his Estate in Excesses, or on purpose to cheat and abuse his Creditors.

(3.) There is the moderate Creditor, who seeks but his own, but will omit no lawful Means to gain it, and yet will hear reasonable and just Arguments and Proposals.

(4.) There is the Rigorous Severe Creditor, that values not whether the Debtor be Honest Man or Knave, Able, or Unable; but will have his Debt, whether it be to be bad or no; without Mercy, without Compassion, full of Ill Language, Passion, and Revenge.23

Defoe then poses the legislative problem: How to make a Law to suit to all these, is the Case: That a necessary Favour might be shown to the first, in Pity and Compassion to the Unfortu-

21. See text accompanying notes 60-125 infra. 22. DEFOE ESSAY, supra note 8, at 194 (emphasis in original). Defoe virtually hisses the

word "statute" as the paradigm of legal evil. "[A] statute, as we call it, for ever shuts up all doors to the Debtor's Recovery; as if Breaking were a Crime so Capital, that he ought to be cast out of Human Society." Id. (emphasis in original).

23. Id. at 206-07 (emphasis in original).

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nate, in Commiseration of Casualty and Poverty, which no man is exempt from the danger of. That a due Rigor and Restraint be laid upon the second, that Villainy and Knavery might not be encourag'd by a Law. That a due Care be taken of the third, that mens Estates may, as far as can be, be secur'd to them. And due Limits to set the last, that no man may have an unlimited Power over his Fellow-Subjects, to the Ruin of both Life and Estate.24

Here is the fundamental challenge of bankruptcy lawmaking-to capture this moral taxonomy in legislative words. Defoe participates in the historical tradition by confidently proposing a new legal instrument.

C. Defoe's Proposal

Defoe anticipates a virtually modern American form of bankruptcy. His proposal resembles a modern law substantively in that it offers voluntary bankruptcy, with discharge and small exemptions in exchange for full release of the debtor's property.25 Instead of the harsh and corrupt commissions enforcing harsh and rigid rules, there shall be a communal "grand jury" of sorts, to include representative common citizens and merchants, as if to combine a lay jury and Lord Mansfield's model of a commercial jury. The bankruptcy "grand jury" will rely on a simple normative standard: that the debtor need merely attest that he is "unable to carry on his Business, by reason of great Losses and Decay of Trade." Defoe says confidently that his simple standard will draw the right line, preventing crafty bankruptcies while saving the honest bankrupt from disaster. Yet this morally flexible instrument of equity must be armed with brutal sanctions derived from the harsh criminal form of bankruptcy law that led to the evils Defoe is reforming.26

D. The Themes of Preference Law

Defoe's efforts at line-drawing are largely aimed at the general bankruptcy problem of distinguishing the debtors whom bankruptcy should relieve from the debtors whom it should punish. But the themes he invokes apply with special force to preference law.27 The

24. Id. at 207-08 (emphasis in original). 25. See id. at 208-20 (setting out Defoe's proposed law). 26. Under Defoe's proposed rule, if a merchant fails or gives up trade without satisfying his creditors as well as he can, he becomes a felon without benefit of clergy, and, if he goes into sanctuary, he automatically becomes subject to search and seizure. Id. at 222-24. Indeed,

20 years later, after Parliament had at least accepted his argument for discharge in involuntary bankruptcy, Defoe acknowledges that the new discharge law serves to encourage fraudulent "friendly statutes," or collusively contrived discharges designed to cheat creditors, "a vile corruption of a good law" and a "fraud upon the act." He concedes that "human wisdom is imperfect, that the law wants some repairs." So this new rather open standard, designed to relieve honest debtors, has some new stringent rules tacked on to it, including corporal punishment for a certain number of repeat "offenses" of going bankrupt. DEFOE TRADESMAN, supra note 20, at 210-11.

27. Indeed Defoe, himself explicitly acknowledges this. He demonstrates the over- and under-breadth of the rudimentary English law of bankruptcy. Bankruptcy commissions are necessary evils: "[w]here some creditors, by ... judgments, or by attachments of debts, goods


assumption of preference law is that we can establish a category of prebankruptcy payments by debtor to creditor that are economically, and perhaps morally, subversive. But preference law thereby assumes that the debtor and creditor owe a general duty to the abstract class of the debtor's creditors, a duty that is itself deeply controversial. Prefer- ence law often pretends to be an important and scientifically sound instrument for regulating commercial behavior. But it has often turned out to be more like a vague and overinvested legal idea in which our struggle to achieve consensus about standards of commercial behavior has played itself out.

Throughout the history of preference law, legislators and commentators have ritually claimed that they have designed a precise legal instrument to single out just those prepetition transactions between debtor and creditor that wrongly threaten the process of ratable distribution. Lawmakers thus proclaim that there is some consensus in our commercial culture about which commercial actors or transactions merit legal sanction. Moreover, a common, if unstated, assumption of

preference law has been that legislation can create harmony between our moral concern for sanctioning antisocial conduct by debtors or creditors and our purely instrumental concerns with enhancing the flow of credit in commerce.

Historically, we can associate this optimistic view of preference law with calls for more inclusive preference-avoiding rules.28 This view assumes that the credit system is fundamentally morally sound, but that we can identify a few clear abuses, and can thereby create clear rules to

regulate them. Commercial actors will then be able to rely on predictable preference rules in planning and executing their credit transactions.

E. The Rituals of Preference Lawmaking

Yet the historical ritual has been that, shortly after such scientific, morally uncontroversial preference rules are passed, they are quickly undone. The causes of the ritual breakdown seem to be several. On the simplest level, preference legislation breaks down due to mere instrumental uncertainty. Courts, commentators, or subsequent legislators propose further tinkerings with each new scientific solution to the

delivered, effects made over, or any other way, have gotten some of the estate into their

hands, or securities belonging to it, whereby they are in a better state, as to payment, than the rest." DEFOE TRADESMAN, supra note 20, at 206. Yet preference law backfires so long as the technical rules invoking bankruptcy can be manipulated:

For perhaps some Creditor honestly receiv'd in the way of Trade a large Sum of

Money of the Debtor for Goods sold him when he was sui jrlis; and he by consent shall own himself a Bankrupt before that time, and the Statute shall reach back to

bring in an Honest Man's Estate, to help pay a Rogue's Debt. DEFOE ESSAY, supra note 8, at 204.

28. The best example of this is the legislative history of the 1910 amendment to the

Bankruptcy Act. See text accompanying notes 355-387 infra.

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problem, on the theory that some slightly more refined statutory instrument will better enhance the flow of credit. This uncertainty is sometimes a minor matter of economic finetuning, but at other times- including the present-it has suggested that lawmakers face a large information gap about what, if any, effect a particular legal rule has on behavior in the credit market.29

On another level, the instability of preference legislation lies with judges who deny that precise legislative rules are ever sensitive enough to capture the nuances of commercial behavior and the norms of the marketplace. The one dominant historical ritual in twentieth century American preference law has been for Congress to enact a new and supposedly clear and broad preference rule, and for judges then to ignore or shamelessly manipulate statutory rules to preserve transactions against a preference attack. In short, judges transform rigid statutory rules into flexible discretionary norms, and turn preference law into a matter of "I know it when I see it." Judges do so when they test the transaction against their sense of market norms, and uphold the transaction because, whatever the statutory rule, they find no subversive collusion between debtor and favored creditor.

But commercial custom has strong and complex moral roots, and when judges act this way, they suggest deeper reasons why preference rules get undone. When judges nullify clear preference-avoiding rules, they imply that the legislature has failed to establish a consensus about proper commercial behavior and about the goals of commercial law. For example, if a highly inclusive preference law purports to redistrib- ute some wealth from secured to unsecured creditors, the courts that undermine it may be reflecting a controversy in our commercial culture about the relative worthiness of these classes of commercial actors. In- deed, the legislative and judicial history of preference law becomes a medium for political debate over such questions. Or the courts may be implying some deeper doubts about social duties within a credit culture. They may be questioning whether debtors and creditors do in fact owe any sort of general or abstract duty to creditors as a class. They may prefer to measure the moral validity of transactions in a case- specific way, and to argue that some technically preferential transactions are indeed morally worthy expressions of loyalty between debtor and individual creditor. In a state of uncertainty about the norms of a credit economy, we may only be able to evaluate transactions in terms of individual responsibility between a particular debtor and a particular creditor.

The undoing of clear and broad preference legislation has not been the work of the courts alone. As another part of the historical ritual, the frequent reconsiderations of bankruptcy law in Congress have be-

29. Eisenberg, Bankruptcy Law in Perspective, 28 UCLA L. REV. 953, 966 (1981); McCoid, Bankruptcy, Preferences, and Efficiency: An Expression of Doubt, 67 VA. L. REV. 249, 262-68 (1981).

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come occasions for an explicit debate by legislators and scholars over the purpose and feasibility of preference law. These occasions have often produced very explicit attacks on broad and clear preference legislation.30 The language of the statute may reflect an elephantine compromise as a result of clumsy legislative efforts to accommodate conflicting views.

As a result of judicial or legislative subversion, preference laws have inadvertently become symptoms of the instability of our commercial norms. On the other hand, as we have seen very recently, the instability of preference law has resulted from very deliberate economic or political attacks on the very concept of systematic preference rules. The os- cillation from rule to standard often reflects a belief that, because there can be no clear moral confidence about what are good and what are bad transactions, we must abjure any attempt at scientific legislation and should simply accept the necessity of somewhat indeterminate legal standards.

F. The Contemporary Effort

Perhaps no aspect of the landmark 1978 Bankruptcy Code has dis-

played such a pretense to scientific formalism as section 547, which

purported to be the final scientific word on preferences, a radically systematic scheme of definition and exception.31 Yet shortly after its enactment, federal judges began reviving the grand old style of ignoring or manipulating the clear language of preference legislation to uphold transactions that appeared to accord with intuited norms of the credit market. And just six years later, we encounter an "Improvements" Act that further tinkers with section 547.32 The new law undermines the scientific formalism of the statute by indirectly incorporating a "customary norm" into the definition of preferential behavior, undoing the new formal rules with a standard thinly masked as a mild amendment to a subrule. In just the last few years of American preference law, the courts, Congress, and scholars have played out the whole ritualized pattern, and have demonstrated that bankruptcy law seems destined to return to difficult questions about evaluating commercial conduct in a credit culture.

This article is an interpretive history of preference law as it reflects the general debate over rules and standards in bankruptcy law. My ultimate concern will be American bankruptcy history as it leads up to this

30. See text accompanying notes 355-387 infra (discussing the 1910 legislation). 31. Pub. L. No. 95-598, tit. I, ? 547, 92 Stat. 2549, 2597-2600 (1978) (codified as

amended at 11 U.S.C. ? 547 (1982 & Supp. 1986)). See generally Ward & Shulman, Inl Defense of the Bankruptcy Code's Radical Integration of the Preference Rules Affecting Commercial Fi,nalnilg, 61 WASH. U.L.Q. 1 (1983). For a discussion of the new Code, see text accompanying notes 470- 495 infra.

32. See Bankruptcy Amendments and Federal Judgeship Act of 1984, Pub. LI. No. 98-

353, 98 Stat. 333 (codified at 11 U.S.C. ? 547 (Supp. 1986)); see also text accompanying notes 545-549 infra.

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last contemporary phase of the cycle. But I will begin with a long ex- cursus on the English historical background. I will argue that this Eng- lish history and early American history reveal a sort of collective unconscious in the life of bankruptcy law generally.

II. ENGLISH BANKRUPTCY LAW AND THE ADVENT OF THE PREFERENCE

A. English Mercantile Culture

Renaissance and Restoration English culture developed a morally complex image of the merchant character, an image that helps explain the ambivalence of English bankruptcy law in regulating, punishing, and rewarding merchant behavior. The image is actually a pair of images. The dominant image in the eighteenth century is the merchant as a noble but vulnerable statesman of international trade, always the helpless victim to the vagaries of elusive credit, reputation, and fortune. But the earlier and ever-persisting image is the viciously ugly picture of the cheat, the evil magician who manipulates intangible credit and property, who devours the store of others, and who literally and figuratively absconds.

1. The merchant as villain.

The imagery of the merchant derives from English culture's percep- tion of, or troubled attempt to comprehend, the new phenomenon of capitalist credit. Credit is essentially a form of property or money, an intangible wealth that depends on trust, reputation, and rumor. Like the merchant, it has its good and its bad images. Credit can be a noble bond or solvent trust among merchants and indeed among nations, and a means to leverage great wealth out of limited natural resources. Yet credit instruments are also a false wealth, an illusion, a design of smoke and mirrors manipulated by merchants to devour the property of others. The ugly images of credit and merchant emerge in the literature first, because the profession of commercial exchange is an uncomfortable new phenomenon that English writers cannot accommodate to their comfortable norms of a religiously hierarchical, land-based society. And the ugly images appear more particularly in the literature of bankruptcy, since bankruptcy is the crime or condition of commercial insolvency that illuminates the new phenomenon most sharply.

The images receive no more intense picture than in the early Jaco- bean writings of the playwright Thomas Dekker. Dekker makes only a brief gesture toward the affirmative imagery of the merchant, mainly for contrast: "The infortunate Marchant, whose estate is swallowed up by the mercilesse Seas, and the provident Trades-man, whom riotous Ser- vants at home, or hard-hearted debters abroad undermine and overthrow, blotting them with the name of Bankrupts, deserve to be pitied

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and relieved ...."33 But his portrait of the devious absconder is the most ghastly in all the literature: the "Politick Bankrupt" who exhibits an infinite variety of masks:

a Harpy that lookes smoothly, a Hyena that enchants subtilly, a Mermaid that sings sweetly, and a Cameleon, that can put himselfe into all colours .... [H]e wind[e]s himselfe up into the height of rich mens favors, till he grow rich himselfe, and when he sees that they dare build upon his credit, knowing the ground to be good, he takes upon him the condition of an Asse, to any man that will loade him with gold; and useth his credit like a Ship freighted with all sorts of Merchandise by ventrous pilots: for after he hath gotten into his hands so much of other mens goods or money, as will fill him to the upper deck, away he sayles with it, and politickly runnes himselfe on ground, to make the world beleeve he had sufferd shipwrack.34

The bankrupt then absconds, or barricades himself at home, or offers his helpless creditors cheap compositions. And then he magically re-

generates: "The victory being thus gotton by basenes and trechery, back comes he marching with spred colours againe to the City; advances in the open streete as he did before; sels the goods of his neigh- bor before his face without blushing ...."35

The moral ambivalence of the Renaissance view of the merchant debtor appears in imagery of reality and illusion, of manipulation of

appearance. The image thereby reflects a kind of social paranoia about a new economic phenomenon that is perceptually and conceptually elusive, and for that same reason morally suspect.

The merchant class that emerged in seventeenth century England can be defined, in a sense, as the class of people who made money by means other than owning land. But the merchant archetype must also be distinguished from the actual artisan, the manufacturer, and even the retailer of goods. Most of the wealth among nonlandowning merchants came from new and innovative forms of capital, and was concentrated among those who served as brokers-who neither manufactured nor retailed goods-and among those who traded solely in credit as a commodity itself, by serving as private bankers.36

Commercial capital struck the English mind as discomfortingly un-

33. T. DEKKER, THE SEVEN DEADLY SINNES OF LONDON 16 (1606) (emphasis in original). 34. Id. at 13-14 (emphasis in original). 35. Id. at 14-15. Dekker concludes with his image of the just bankruptcy law:

The Russians have an excellent custome: they beate them on the shinnes, that have money, and will not pay their debts; if that law were well cudgeld from thence into England, Barbar Surgeons might in a few yeeres build up a Hall for their Com-

pany, larger than Powles, only with the cure of Bankrupt, broken shinnes. I would faine see a prize set up, that the welfed Usurer, and the politick Bank-

rupt might rayle one against another for it.... Id. at 17 (emphasis in original).

36. See generally Grassby, English Merchant Capitalism in the Late SevZenteenth Ceentuii: The Coml- position of Business Fortunes, 46 PAST & PRESENT 87 (1970). The actual proportionate capital holdings of merchants were very small compared to those of the Crown, the Church, and the landed, but the merchants exerted a social influence beyond their size because of the difficulty

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moored from the solid reality of land, even though it was often the magical medium for liquidating the value of land. The bulk of the real wealth of England may still have been in land, but merchant capital became the crucial solvent of landed wealth.37 The merchants mostly made their great profits in short-term, indirect manipulation of the sale of commodities or direct manipulation of the money markets.38 The true worth of the business fortune was therefore vague, subject to con- stant variation, and based on highly speculative exchange values.39

The merchant class moved up, and somewhat unsettled, the land- based social hierarchy. While the landed used their status to create wealth, the merchants used their wealth to create status. The insatiable demand for ready cash gave the merchant great leveraging power. But it was in some ways an evanescent class whose members left little trace of their life's work. The flexibility of commercial wealth was a great financial advantage, but it also meant that merchants' estates did not achieve much lineal continuity. Symbolic money credit was too contingent to insure inherited respectability. Ironically, the very evanescence of the merchant class was part of its threat to English culture: The frag-

English culture had in accommodating the disturbingly unfamiliar forms that their wealth took. Id. at 87.

37. Id. at 105-06. Seventeenth century merchants, who tended to lease rather than own their urban houses entered the real estate market only indirectly, as contractors, agents, and commissioners for sale. They invested in mortgages, and dealt in urban, not rural, land, seeking the greater short-term capital gains. They profited from the credit and short-run exchange value of land, rather than long-term rents or development. Id. at 98-99.

38. Though some manufacturers of perishables, like beer, made great profits by eliminating middlemen, wholesalers and factors made more than retailers, processors were richer than producers, and middlemen and general merchants were wealthier than chapmen and retailing artisans. Id. at 97. Abundant labor and inelastic demand made distribution far more lucrative than manufacturing. Id. at 98.

In terms of finance, private usury was profitable until the statutory maximum interest rates fell, but merchants still made profits in bottomry and risk loans, secured loans, and speculative loans to miners. Id. Markets developed in stocks, licenses, and monopolies; an industry developed in passive stock trading and in the art of timing choices between capital appreciation and dividends. Id. at 99. The other kind of financial middleman was the private banker who took money to invest, pay bills, and make foreign exchanges and loans. Id. at 100.

Merchants also made great fortunes in government finance. Indeed, much of the morally complex view of merchants derives from the government's disproportionate dependence on them, in the form of customs farms, excise farms, military victualing and supplies of clothing and ordnance, and the political instability that many Englishmen then blamed on merchant lenders. The merchants brokered and placed money, and the state needed the merchants for their liquidity and business contacts. Grassby notes that the great fortunes and great bankruptcies occurred among merchants who got roles as Paymasters and Treasurers. Merchants thus became the money manipulators for the government, taking customs, collecting taxes and even anticipating provincial revenues on their own credit. Id. at 100-02.

39. Merchants' estates were inherently fragile because of the vagaries of investor confidence, low rates of exchange, and the difficulty of collecting overseas debts because of a lack of specie. Active businessmen kept their capital moving quickly in goods, shares, debts, and stocks, and had little fixed capital. They could manage with little cash only so long as their reputation was good. Merchants tended to plow profits back into investments in their businesses; they had a high proportion of their working capital in credit to clients and accounts receivable; they lived very unostentatiously and saved and reinvested at a high rate; when they made large capital gains, they tended to place them in loans to the government. Id. at 104-05.

16 STANFORD LA W REVIEW [Vol. 39:3

ile contingency of the merchant world became the fragile contingency of the economy generally, or so some perceived.40

The conservative political response to the discomforting rise of commercial exchange was to legislate restrictions. The harsh bankruptcy laws of the seventeenth century were only part of the statutory effort to control the morally and perceptually elusive forms of trade that the common law and law merchant had little power to constrain. The statutes were, in effect, atavistic attempts to maintain a world based on land status and duty.41

2. The merchant as hero.

The counter-response in this political battle over the role of commerce in English culture was an intellectual project by a great number of seventeenth century writers-an affirmative ideology of credit and trade. The emerging sympathetic imagery of the contingent life of the merchant, and of credit as the solvent of social relations, began to co- here into a political vision.42

The new ideology demanded a redefinition of money itself as a sort of symbolic force of nature, not an object of devious manipulation.43 Money was imagined in ideal terms as the pure passive medium, the

proxy for all things of value. Mercantile credit was not only desirable, but historically inevitable. The English government demanded credit,

40. The birth pangs of the market economy meant that the domestic economy became more dependent on the vagaries of overseas trade, as when a decline in overseas demand for wool hurt not just merchants, but also clothiers and farmers. Erratic exchange rates and inflation hurt everyone in the mercantile chain. J. APPLEBY, ECONOMIC THOUGHT AND IDEOLOGY IN

SEVENTEENTH-CENTURY ENGLAND 35-36 (1978). 41. One of the most dramatic examples of statutory efforts to constrain modern com-

merce was the regulation of the forestalling, regrating, and engrossing of food. The English had difficulty accepting the notion of trading in food as a commodity. Food was a social

necessity, not an economic good in a market, so the laws restricted the ability of farmers and merchants to play the market in food. Id. at 27-28. The Statute of Artificers and the Elizabe- than Poor Laws played oddly similar roles in restricting the roving vagabond populations. Id.

at 29. Parliament resisted the mobility and flexibility of wealth, and the concomitant mobility and flexibility of status. Political and intellectual battles were fought over the enclosure laws, which economically and figuratively meant the "privatization" of landed wealth, id. at 57-63, and the usury laws, whose premise that money was morally barren was obviously now subject to question, id. at 63-70.

The English laws may also reflect a frightened reaction to the model of economic disaster

provided by the Castilian state bankruptcy at the turn of the seventeenth century. See 1 F.

BRAUDEL, THE MEDITERRANEAN AND THE MEDITERRANEAN WORLD IN THE AGE OF PHILIP II, at

501-17 (S. Reynolds trans. 1972); D. MALAND, EUROPE AT WAR: 1600-1650, at 112, 158-59

(1980). 42. The early economist Thomas Mun developed the model of the orderly balance of

trade-the great chain of international being with merchants linking all. The new ideology conceived a commercial process from production to marketing, which created a place for the

pariahs-middlemen and bankers. J. APPLEBY, supra note 40, at 37-41. 43. Money had an extrinsic measure, determined by the king, but it also had an intrinsic

measure, determined by the merchant: "For let no man doubt, but that money doth attend

Merchandize, for money is the price of wares, and wares are the proper use of money; so that

their coherence is unseparable." T. MUN, A DISCOURSE OF COIN AND COINAGE 25 (1675), quoted in J. APPLEBY, supra note 40, at 50.


not treasure, to run its army and navy, and Parliament could do little to resist the inexorable force of mercantile credit in a modern economy. The specific political conclusion from this ideology, of course, was that the statutory restrictions on credit were either counterproductive or futile, since they fought with human nature itself.44 And the ideology of free trade exacerbated the legal problem of choosing between firm statutory rules or open standards for regulation. According to the free trade ideology, the natural progress of commercial development required violations of usury laws, export/import restrictions, and other regulatory statutes.45

Economic reality thus lay in subtle but powerful forces of calculation, anticipation, and expectation. The merchant was the secret spe- cialist, the artist and oracle of these forces, but he was also, in the disingenuous terms of the new ideology, merely an actor in a natural drama that no king could control.46 Yet the result was to undermine some comfortable, land-based notions of social hierarchy. Credit in the free market of reputation became the new form of honor. Commerce became the great leveler of social status.47 The Christian norm was replaced as a paradigm of behavior by the commercial predictability of traders.

Of course, a counter-ideology persisted,48 but the argument re-

44. Usury laws were denounced as inefficient because usury puts poor people's money to work. The pro-usury people argued that high interest rates stimulated trade: "[A]s credit is the sinew of conversation, and nourisher of correspondency, the great manager of affairs: So is the Usurer the causa emanativa of this Credit." T. MANLEY, USURY AT SIX PER CENT. EXAMINED 3 (1669), quoted in J. APPLEBY, supra note 40, at 92.

45. The mercantile writer Edward Misselden characterized credit as a sort of elusive spiritual solvent of trade, but he thought it was subject to natural laws beyond official power. See J. APPLEBY, supra note 40, at 41-48. Locke recognized that the exchange economy was fragile, that commerce was a system of promises and trust rooted in self-interest. There was no point in legislating good faith. SeeJ. LOCKE, SOME CONSIDERATIONS OF THE CONSEQUENCES OF THE LOWERING OF INTEREST 4 (1692), quoted in J. APPLEBY, supra note 40, at 188.

46. Mun argued that "necessity or gain will ever find some means to violate" legislation inimical to profit. T. MUN, THE PETITION AND REMONSTRANCE OF THE GOVERNOR AND COM- PANY OF MERCHANTS OF LONDON, TRADING TO THE EAST INDIES 9 (1628), quoted in J. APPLEBY, supra note 40, at 160-61. The natural order of credit was described by James Hodges: The government could not regulate credit because credit depended upon natural forces of opinion, reputation, and satisfaction. See J. HODGES, A SUPPLEMENT TO THE PRESENT STATE OF ENGLAND 11-15 (1697), cited in J. APPLEBY, supra note 40, at 266-67.

47. For example: "Every Man in a Society . . . from the King to the Peasant is a Merchant, and therefore under a necessity of taking care of his Reputation." T. SHERIDAN, A DISCOURSE OF THE RISE & POWER OF PARLIAMENTS 225 (1677), quoted in J. APPLEBY, supra note 40, at 188. "[S]hop keepers are, like all other Men (led by their profit), and if it be for their Advantage to send out Manufactures, they will do it without forcing ... [and] if it be for their Profit to send over Money or Bills of Exchange, they will do that .. ." J. CHILD, A NEW DISCOURSE OF TRADE 86 (1693), quoted in J. APPLEBY, supra note 40, at 191.

The concept of commercial trust promoted one means of credit as especially important- the surety. A surety is more reliable than conscience and religion, "because in these we are sure there may be Hypocrisie, but in Interest we know there is none." J. BRISCOE, A DIS- COURSE OF MONEY 136 (1696), quoted in J. APPLEBY, supra note 40, at 189. This special role of the surety will prove important in the development of preference law. See notes 259-262 infra and accompanying text.

48. Dekker's terrifying imagery of the politick bankrupt, see text accompanying note 34

17

18 STANFORD LA WI REVIEW [Vol. 39:3

mained that trade, if not morally admirable, was nevertheless socially inevitable, and that the elusiveness of its phenomena, though raising moral doubts, nevertheless made trade regulation futile.

All the possessions [of commercial societies] consist[ed] of scattered and secret securities, a few warehouses, and passive and active debts, whose true owners are to some extent unknown, since no one knows which of them are paid and which of them are owing .... The wealthy merchant, trader, banker, etc., will always be a member of a republic. In whatever place he may live, he will always enjoy the immunity which is inherent in the scattered and unknown character of his property, all one can see of which is the place where business in it is transacted. It would be useless for the authorities to try to force him to fulfill the duties of a subject: they are obliged, in order to induce him to fit in with their plans, to treat him as a master, and to make it worth his while to contribute voluntarily to the public revenue.49

Moreover, the new ideology of trade succeeded by inventing a more

specific ideology of the merchant character. If the moral problem lay with the image of the merchant as a creature of pure interest, uncon- strained by any traditional standards of religious virtue or social re-

sponsibility, the solution had to lie in the justifying ideology of mercantile self-interest as potentially restraining and socially responsible itself.50 It was natural, and thus predictable, for people to act ac-

supra, finds a descendant later in the century in the view of the crucial analyst of trade Gerald de Malynes, who held up against the apologists of flexible wealth an ideal world of fixed and real value. Malynes blamed money for manipulating value, rather than respecting it for representing value. Merchants speculated in and overvalued foreign coin and thereby toyed with

kingly power. Financial trade was subversive-it literally gave merchants royal power. See J. APPLEBY, supra note 40, at 41-47. Pamphleteers reminiscent of Dekker denounced mercantile middlemen as leeches. Conservatives denounced the middlemen as "Broggers, Jobbers, Wool-Drivers, Staple-wool buyers, Combsters, [and] Market-Spinsters." W. SMITH, AN ESSAY FOR RECOVERY OF TRADE 4 (1661), quoted in J. APPLEBY, supra note 40, at 117. Divorced from the more obviously pernicious stereotype of the politick bankrupt, the merchant still was a

morally equivocal figure in English culture. Adam Ferguson spoke in effect of alienation,

contrasting the solidarity of closely knit tribes with "the spirit which reigns in a commercial

state, where ... man is sometimes found a detached and a solitary being." A. FERGUSON, AN ESSAY ON THE HISTORY OF CIVIL SOCIETY 19 (D. Forbes ed. 1966).

Davenant typified the continuing moral ambivalence toward trade. For him trade was

necessary to give land a value; it was the solvent of society. But it was also a pernicious thing, inviting luxury and corruption. Though trade was a necessary evil partly because England had to defend itself against other great trading powers, it nevertheless bred violence and was bred by it. For Davenant, trade created war, war created debt, debt killed trade; luxury created war and trade, which created money, then paper money, then debt, then corruption. See

C. DAVENANT, An Essay upon the Probable Methods of Making a People Gainers in the Balance of Trade,

(1699), reprinted in 2 THE POLITICAL AND COMMERCIAL WORKS OF CHARLES D'AVENANT 275 (C. Whitworth ed. 1771).

49. Quesnay & Mirabeau, Extract from 'Rural Philosophy,' quoted in A. HIRSCHMAN, THE

PASSIONS AND THE INTERESTS 94-95 (1977). 50. What emerged toward the end of the seventeenth century was the new affirmative

stereotype of the Weberian puritan, for whom what appeared to be greed was really a calling. A new bourgeois ideal replaced the old heroic chivalrous ideal. The new figure starts with the

idea of using passions as counterweights to other passions. Economic self-interest becomes a

dependably predictable form of passion, which, if properly channelled, could become a public virtue. And passion was directed toward money, rather than more elevated aspirations, be-

November 1986] HISTORY OF PREFERENCE LA W 19

cording to measurable economic self-interest, rather than variable or volatile heroic aspirations. Thus, despite their subtlety and invisibility, commercial transactions were socially desirable. Because mercantile self-interest ensured the predictability of private economic transactions,51 it created reliance interests among commercial actors, and so commerce became a form of ethical bonding.

Measured by older chivalric or heroic standards, the concept of social virtue under this new mercantile ideology might seem paradoxical or even perverse,52 but it was an intellectual achievement that permitted the apologists of trade to proclaim the ideal of "le doux commerce." Since "[t]here are few ways in which a man can be more innocently employed than in getting money," the merchant figure became an unheroic hero, praised for his benignity if not his nobility.53 The chameleon quality of merchant capital, which the opponents of trade see as its moral barrenness, in fact shows it to be a communal, public good.54 The fragile commercial links among people and nations, denounced as a means by which traders can manipulate tangible

cause it was a more measurable goal that therefore produced greater predictability. The figure was attractive because it meant that the merchant himself, like the more abstract phenomena of trade and credit, acted like a predictable natural law. See A. HIRSCHMAN, supra note 49, at 56-67.

51. "As the physical world is ruled by the laws of movement so is the moral universe ruled by the laws of interest." C. HELVETIUS, DE L'ESPRIT 53 (1758), quoted in A. HIRSCHMAN, supra note 49, at 43.

52. The conceptual problem for the apologists of trade was to explain how an interest in profit could restrain merchant behavior. The solution was to argue that frugality was the key virtue that actually enhanced interest. The merchant could display Augustan virtue by rein- vesting his surplus in the circulating common stock, assuming the circulation of goods to be a public benefit. J. PococK, THE MACHIAVELLIAN MOMENT 445-46 (1975).

53. [Divine Providence] has not willed for everything that is needed for life to be found in the same spot. It has dispersed its gifts so that men would trade together and so that the mutual need which they have to help one another would establish ties of friendship among them. This continuous exchange of all the comforts of life constitutes commerce and this commerce makes for all the gentleness of life....

J. SAVARY, LE PARFAIT NEGOCIANT 1, quoted in A. HIRSCHMAN, supra note 49, at 59-60 (emphasis in original). But the claim was often stronger: It was that the merchant, accused of subverting royal power and fomenting war, was the hero of international concord. The suspicious mo- bile character who seemed loyal to no nation and morally and economically untied to native soil was indeed the reconciler of all nations. For Montesquieu, "Commerce ... polishes and softens barbarian ways." C. MONTESQUIEU, 20 DE L'ESPRIT DES Lois 1 (1749), translated by A. HIRSCHMAN, supra note 49, at 60. For Robertson, it tended to "wear off those prejudices which maintain distinction and animosity between nations. It softens and polishes the man- ners of men." W. ROBERTSON, THE HISTORY OF THE REIGN OF THE EMPEROR CHARLES V 65 (Ist Am. ed. 1804). Montesquieu also insisted that the natural effect of commerce is to lead to peace. Two nations that trade together become mutually dependent: "[I]f one has an interest in buying, the other has one in selling; and all unions are based on mutual needs." C. MON- TESQUIEU, 20 DE L'ESPRIT DES LOIs 2 (1749), translated by A. HIRSCHMAN, supra note 49, at 80.

54. While the farmer, employed in the separate cultivation of land, considers only his own individual profit; while the landed gentleman seeks only to procure a revenue sufficient for the supply of his wants, and is often unmindful of his own interest as well as of every other; the merchant, though he never overlooks his private advantage, is accustomed to connect his own gain with that of his brethren, and is, there-


property and undo social stability, once properly inverted, are the sources of a utopian vision of a commercial society.55

Despite these smug apologies for the ethical and political virtues of trade, the Augustan literature of the eighteenth century suggests a more tortured, uncertain rationalization. Augustan writers generally tried to accommodate trade into the structure of a land-based society and to rationalize the threat of instability by assuming a harmony of land and trade. But trade, built on elusive credit, upset the epistemological foundation of a landed society.56 The virtue of credit remained subtle and equivocal because the phenomenon itself was fragile:

Of all beings that have existence only in the minds of men, nothing is more fantastical and nice than Credit; it is never to be forced; it hangs upon opinion; it depends upon our passions of hope and fear; it comes

many times unsought for, and often goes away without reason; and when once lost, is hardly to be quite recovered.57

The notion of credit as a natural force also has its weaker, less confident version:

It very much resembles, and, in many instances, is near akin to that fame and reputation which men obtain by wisdom in governing state

affairs, or by valour and conduct in the field. An able statesman, and a

great captain, may, by some ill accident, slip, or misfortune, be in dis-

grace, and lose the present vogue and opinion; yet this, in time, will be

regained, where there is shining worth, and a real stock of merit. In the same manner, Credit, though it may be for a while obscured, and labour under some difficulties, yet it may, in some measure, recover, where there is a safe and good foundation at the bottom.58

Credit is the symbolic currency through which society expresses its moral and economic health.59 Credit is a civilizing influence and can lead to a mercantile utopia. It is also potentially a corrupting influence

fore, always ready to join with those of the same profession, in soliciting the aid of

government, and in promoting general measures for the benefit of their trade. W. LEHMANN, JOHN MILLAR OF GLASGOW, 1735-1801, at 339 (1960), quoted in A. HIRSCHMAN,

supra note 49, at 91. 55. [M]en's minds will become quiet and appeased; mutual convenience will lead them into a desire of helping one another. They will find, that no trading nation ever did

subsist, and carry on its business by real stock; that trust and confidence in each other, are as necessary to link and hold a people together, as obedience, love, friend-

ship, or the intercourse of speech. And when experience has taught each man how weak he is, depending only upon himself, he will be willing to help others, and call

upon the assistance of his neighbours, which of course, by degrees, must set credit

again afloat. 1 C. DAVENANT, supra note 48, at 152.

56. J. POCOCK, supra note 52, at 463-64. 57. 1 C. DAVENANT, supra note 48, at 151. 58. Id. Defoe treats Credit as an elusive female, the younger sister of money, a coy lass,

a fickle lady to be courted. He uses the same rhetoric as that by which Machiavelli described fortuna and occasione, and the instability of secular things. Trade is a mystery without visible causes, but with convulsive fits and disorders. But it is also virtue, the energizing force of modern society. SeeJ. PcOCK, supra note 52, at 452-55 & nn.70-75 (quoting Defoe).

59. E.g., J. POCOCK, supra note 52, at 451-56.

20 [Vol. 39:3


because it is based on the passions of fantasy and opinion. To prevent corruption, society had to engineer these passions. The first two centuries of English bankruptcy law, and of preference law in particular, show a revealing form of this engineering.

B. English Bankruptcy: A History of Compulsive Classification I offer here a brief interpretive history of the two core concepts in

early English bankruptcy legislation: the requirement that a bankrupt be a trader or merchant, and the requirement that he commit "acts of bankruptcy." The requirement that I shall call the "trader rule" estab- lishes the conflict between the "rules" and the "standards" approaches to bankruptcy law and the cultural issues underlying those approaches that will illuminate all later bankruptcy law, and preference law in particular.

1. The advent of bankruptcy legislation. The first English bankruptcy statute, enacted in 1543, defined its

coverage in a preamble that forthrightly announced the moral norm inspiring the legislation:

Where divers and soondry persones craftelye obteyning into theyre handes greate substaunce of other mennes goods doo sodenlie flee to partes unknowne or kepe theyre houses, not mynding to paie or restore to any of theyre creditours theyre debtes and dueties, but at theyre owne willes and pleasures consume the substaunce obteyned by credyte of other men, for theyre owne pleasure and delicate lyving, againste all reasone equity and good conscience ....60

The imagery of the preamble offers a portrait of an antisocial commercial character; the bankruptcy law itself was essentially a criminal law designed to brutally punish this character.61 The law denied the debtor any discharge and left his person and property vulnerable to further actions by creditors whether or not they had participated in the ratable bankruptcy distribution.62

Apparently, the 1543 statute sought to overcome flaws in the older debt collection laws.63 But the coverage of the 1543 statute was hopelessly vague, based as much on literary sentiment as on legislation. Be-

60. 34 & 35 Hen. 8, ch. 4 (1542-1543). 61. The commissioners could take any steps to imprison the debtor and could break

down his door to seize all his assets for ratable division among the creditors. They could forcibly examine him and his wife under oath and criminally sanction those who resisted process or concealed assets. See W. JONES, THE FOUNDATIONS OF ENGLISH BANKRUPTCY 15-16 (1979).

62. Id. at 16. 63. The continent had a rich commercial law coordinated with efficient collection rules,

so creditors were relatively satisfied with individual remedies. By contrast, English debtor- creditor law was crude. It gave creditors rights against the debtor's body, but the debtor could evade execution easily through limits on the sheriff's power under a writ offierifacias and through exemptions for intangibles (such as bonds, bills of exchange, and notes), and for super-personal tangibles (such as jewelry). Imprisoning the debtor denied the creditor all

21


yond the lively imagery of character and conduct in the preamble, it failed to explain the precise conditions that invoked the novel bankruptcy process. The statute mentioned "bankrupts" only in the title, and then referred only to "divers and soondry persones" who had committed the commercial sins of hoarding or consuming the property of others and then hiding or absconding.64 It was only in the second statute, the Elizabethan law of 1571, that Parliament attempted to capture in particulars the two themes of the Henrician law-a kind of immoral character and a kind of immoral conduct-in legislative rules.

2. The trader rule.

The rule and its origins. The 1571 law, in contrast to its predecessor, was a model of precise regulatory legislation. The first key element of the new statute was a rule defining a type of occupational or social status associated with the furtive, manipulative behavior described in the 1543 preamble. In the first version of the trader rule, Parliament said that a person shall suffer bankruptcy process only if he is a "merchant or other person using or exercising the trade of merchandize by way of

bargaining, exchange, rechange, bartry, chevisance, or otherwise, in

gross or by retail, ... or seeking his or her trade of living by buying and

selling."65 This clause is one of the central texts in the history of bank-

ruptcy law, and its emanations demanded the attention of Parliament and the courts for the next three centuries. It is the prime source of the fundamental tension between closed rules and open standards that vexes bankruptcy jurisprudence.

Bankruptcy in early English law was far from an arithmetically measurable state of insolvency: It was a social condition and a kind of conduct. Although, as we will see, early bankruptcy law conceived of

bankruptcy as a specific form of undisputedly fraudulent conduct identified by "acts of bankruptcy,"66 the trader rule simultaneously tried to

apprehend the moral flaw of bankruptcy as a form of occupation, a mixture of a type of status and a type of commercial activity, that made a

person unusually susceptible to the deviant behavior depicted in the 1543 preamble. The trader rule reflected the vague moral suspicion in

precapitalist England about the elusive, manipulative role of those who deal in money, credit, and other people's goods.67

useful remedies, and prison, ironically, was often very comfortable for the debtor. Id. at 11- 15.

64. There is some evidence that the statute only operated against merchants, but of course the commissions had no guiding principle as to what a merchant was or exactly how one could tell when he had become a bankrupt. Id. at 17.

65. 13 Eliz., ch. 7 (1570). 66. See text accompanying notes 110-120 infra. 67. In treating the merchant debtor as a villain and a deviant, bankruptcy law actually

conflicted with the imagery of an older and equally important form of statutory regulation of

trade-usury laws. In usury law, the villain is the creditor, not the debtor, and the evil image of the usurious creditor as the outsider, especially as the Mediterannean Jew, ironically paral-

22 [Vol. 39:3


The trader rule is thus the legal instrument designed to distinguish the two images of debtors conceived in early commercial law. One is the honest but unfortunate shopkeeper who preserves his estate as best he can for the sake of his creditors and offers or agrees to the most efficient composition possible. The other is the self-exiling, absconding Lombard who runs up debt without regard to the survival of his creditors, secrets his estate, and hides from the law and his creditors in his comfortable house, or abroad, or even in a prison he has turned into a sybaritic retreat.68

The instability of the trader rule. The legislative and judicial development of the trader rule over the next three hundred years reflects the instability of the merchant as a legal and moral category. The phenom- enal moral intensity and complexity of the social view of the bankrupt merchant would have made any lawmaking difficult. But bankruptcy law compounded the difficulty with the novelty of the statute as a legal form governing commercial behavior. Bankruptcy law was a purely statutory form contrived to overcome the inadequacies of common law collection procedures. The statutory rule as a political art form was a

lels bankruptcy law's image of the evil debtor. Indeed, in The Merchant of Venice, not only is the villain the Jewish creditor, but the victim-hero is the merchant debtor, Antonio. Shake- speare's sympathetic depiction of the fragile merchant debtor, vulnerable to such contingencies as shipwrecks, ironically parallels the later, positive image of the merchant debtor under bankruptcy law as it emerged in the eighteenth century and was summarized by Blackstone. See notes 101-103 infra and accompanying text.

The larger subject of the relationship between bankruptcy law and usury law is complex and relatively unexplored. Usury law parallels bankruptcy law as a medium for capturing the ambivalence of English culture about credit and trade. Although anti-usury laws date from the tenth century in England, Jews were sometimes exempted because they were not bound by the canon law, and as foreign trade and the demand for capital-grew in Renaissance Eng- land, Parliament began to put numerous loopholes in the usury prohibition. See D. ORCHARD & G. MAY, MONEYLENDING IN GREAT BRITAIN 13-38 (1933). In the early nineteenth century, spurred by the need for industrial credit and the rise of Benthamite philosophy, commercial and landed interests persuaded Parliament to repeal many of the usury laws and even enhanced the collection rights of high-interest creditors. In fact, moneylending creditors managed to achieve priority in bankruptcy. Id. at 38-47. This priority was limited by the Bankruptcy Act of 1869 so as not to cover after-acquired property, id. at 46, and for the first time, in the 1890 Act, a moneylending creditor's priority claim in bankruptcy was limited to the principal and a maximum of 5% interest. Id. at 65. Thus, bankruptcy contained a qualified sort of usury law even after the repeal of usury laws. Indeed, bankruptcy courts seemed to retain some equitable power to strike down usurious loans as unconscionable when they arose as claims against the estate. Id. at 70; see In re A Debtor, 1 K.B. 705 (1903). Similar finetuning of the moneylending creditor's dominance over other creditors in bankruptcy continued through early twentieth century amendments to the bankruptcy law. D. MESTON, THE LAW RELATING TO MONEYLENDERS 158 (1968); D. ORCHARD & G. MAY, supra, at 75-77, 126; see In re A Debtor, 2 K.B. 60 (1917).

68. See notes 33-35 supra and accompanying text. In Dekker's language, the "honest bankrupt" is "undone by suretyship, casualties or losses at sea." But the "politic bankrupt" is "a voluntary villain, a devouring locust, a destroying caterpillar, a golden thief." Furtive in- solvents are "anthropaphagi-men-eaters." Bankrupts are:

English Wolves ... the Rats that eate up the provision of the people: these are the Grasshoppers of Egypt, that spoyle the Come-fields of the Husbandman and the rich mans Vineyards: they will have poore Naboths piece of ground from him, though they eate a piece of his heart for it.

T. DEKKER, supra note 33, at 16-17.


relatively undeveloped means of translating moral and economic goals into administrable practice and of accounting for the irreducible variety of commercial practices. The statutory trader rule proved haplessly overbroad and underbroad not only because the imagery inaccurately captured the economic problem, but also because the language of the rule inaccurately captured the imagery.69

For example, the statute was unclear in its application to people who manufactured tangible goods. Small-time craftsmen made visible contributions to the economy; they were solid native characters, opposite in moral image to the devious usurer. But many craftsmen nevertheless seemed to fit the trader rule because they bought supplies and sold finished products. Indeed, many types of craftsmen might have fallen prey to the difficulties and temptations the law was concerned with because they engaged in the new creative financing of bills of exchange and other credit instruments associated with the merchant.70 The apparent inclusion of these craftsmen forced the courts to exercise the whole variety of result-oriented rhetorical maneuvers we associate with modern statutory interpretation.7'

One ironic flaw of the trader rule was that in focusing on people who merely dealt in other people's goods without making or consum-

ing them, it failed to cover people who were in a sense the most purely mercantile characters of all-those who only dealt in money and therefore never touched tangible goods. Anxious about commercial actors who manipulated the purely abstract value of things, Parliament had nevertheless failed to deal with the emerging money market.72 Thus, in 1623, Parliament had to add those "that shall use the Trade or Profes-

69. See G. BILLINGHURST, THE JUDGES RESOLUTIONS UPON THE SEVERAL STATUTES CON- CERNING BANKRUPTS 86-91 (1676); Duffy, English Bankrupts, 1571-1861, 24 AM.J. LEGAL HIST. 283 (1980); Friedman & Niemira, The Concept of the "Trader" in Early Bankruptcy Law, 5 ST. LoUIS U.L.J. 223 (1958).

70. Thus, the courts were ultimately unable to resist the inclusion of shoemakers, Stan-

ley v. Osbaston, Cro. Eliz. 268, 78 Eng. Rep. 523 (K.B. 1592); drapers, Tuthill v. Milton, Cro.

Jac. 222, 79 Eng. Rep. 193 (K.B. 1610); dyers, Squire v. Johns, Cro. Jac. 585, 79 Eng. Rep. 500 (K.B. 1621); bakers, Hawkins v. Cutts, Hutt. 49, 123 Eng. Rep. 1093 (C.P. 1623); and

carpenters, Chapman v. Lamphire, 3 Mod. 155, 87 Eng. Rep. 100 (K.B. 1688). 71. For example, courts excluded "purely manual" laborers like husbandmen or tailors

on the theory that in making garments they did not so much sell goods as provide a service. See, e.g., Crumpe v. Barne, Cro. Car. 31, 79 Eng. Rep. 630 (C.P. 1627). A tailor might buy cloth and sell clothing, but buying and selling were not his trades-rather, they were adjuncts to making the garment, and merely extra services to the customer. See G. BILLINGHURST, supra note 69, at 88. By that reasoning, a clothier who hired out work to poor people might be a

bankrupt, but not if he did the work himself and kept his own looms and servants.

Perhaps the best evidence of the moral intensity with which Renaissance English society perceived bankruptcy was that many of the important cases interpreting the trader rule were not bankruptcy cases at all. Rather, they were defamation cases, in which the defendant

charged with falsely calling the plaintiff a bankrupt replied that the plaintiff was not legally susceptible to such defamation because by his occupation he did not fall within the trader rule. See Friedman & Niemira, supra note 69, at 226.

72. The courts read the statute to exclude bankers, brokers, and financiers; Parliament had to add them to the statute a century later. E.g., Bird v. Major, 2 Ld. Raym. 851, 92 Eng. Rep. 69 (Ch. 1702).

24 [Vol. 39:3


sion of a Scrivener, receiving other Mens Moneys or Estates into his Trust or Custodie."73

Parliament had certainly never anticipated the application of the statute to two particular social groups-farmers and the landed wealthy.74 The economic lives of both groups rested on the ontologi- cally reassuring earth, and they therefore were supposedly not susceptible to the economic vagaries of movable and intangible property. Moreover, neither the solidly virtuous farmer nor the landed gentleman fit the moral profile of the elusive merchant. But farmers, as well as ranchers, graziers, and drovers, bought and sold goods, so it was hard to exclude them from coverage. Since they often went broke, bringing creditors down with them, coverage made a certain sense. The courts thus had to strain to exclude them by such rhetorical maneuvers as declaring that their trade was merely incidental to their primary occupation as workers of the soil.75

And though the trader rule aimed to distinguish merchants from gentlemen, merchants grew wealthy enough to be gentlemen, and gentlemen in search of liquidity began to act like merchants. Parliament therefore had to expressly amend the rule to exclude them.76 Most dramatically, Parliament had to reverse by statute a court holding that an aristocrat who had invested in the East India Company could be a bankrupt, excluding from the rule "Noblemen, Gentlemen, and persons of quality, no wayes bred up to Trade or Merchandize."77 Thus, a rule that was logically construed to violate its implicit social and moral standard had to be amended to rather baldly incorporate that standard.

English bankruptcy law, in its obsessive classifying, began to lose its coherence because no clear social category matched the ill-articulated principles of moral worth associated with dealing in credit.78 Strug-

73. 21Jac., ch. 19, ? 2 (1623). 74. W.JONES, supra note 61, at 21-22. 75. E.g., Phillips v. Phillips, Style 420, 82 Eng. Rep. 828 (K.B. 1654). 76. E.g., Anon., Godbolt 40, 78 Eng. Rep. 25 (K.B. 1586). Similarly, adventurers to

Greenland and Virginia who went broke after trading with the Indians were primarily discov- erers or prospective plantation owners, and only incidentally buyers and sellers. J. STONE, THE READING UPON THE STATUTE OF THE THIRTEENTH OF ELIZABETH 42 (1656) (chapter 7, entitled "Touching Bankrupts"), cited in W. JONES, supra note 61, at 22 n.38.

The problem with the landed aristocrats was that they often had to resort to base commercial credit to achieve some liquidity or to join in mercantile speculation to invest surplus funds, especially by investing in joint stock companies. See W.JONES, supra note 61, at 21-22.

77. The case, involving Sir John Wolstenholme, is cited in G. BILLINGHURST, supra note 69, at 88. It was overruled by 14 Car. 2, ch. 24 (1662).

78. Perhaps no occupation so tested the trader rule as that of innkeeper. Innkeepers certainly bought and sold as a primary part of their livelihood, but after some controversy, the courts excluded innkeepers because they "uttered" rather than sold their provisions, see G. BILLINGHURST, supra note 69, at 87-88, and because they sold them under price-fixing regula- tions, see Crisp v. Prat, March N.R. 34, 82 Eng. Rep. 399 (K.B. 1640). Tradesmen as fundamental to the economy as innkeepers could not be left to trade without state regulation. Bankruptcy, in effect, was the residual, novel statutory regulation for the otherwise purely unregulated merchants who acted on the moral margins of English society under suspiciously free contract principles. Thus, a victualer who sold chiefly to the government to provide for

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26 STANFORD LAW REVIEW [Vol. 39:3

gling to retain some coherent lines in the trader rule, the courts throughout the seventeenth and eighteenth centuries experimented with various formal tests: to be a bankrupt, one had to both buy and sell,79 or one had to seek all one's living or some substantial quantum of it from trade.80

The problem with the trader rule was English culture's deepening moral ambivalence about trade. The very factors that made the trader a

suspicious character could make him a sympathetic one; the amorphous liquidity of his assets made his economic foundation contingent and unstable. And the rigid rules of bankruptcy that might give the clever trader room to maneuver at the margins could also be traps into which the helplessly insolvent trader might fall. So bankruptcy law began to reflect the emerging affirmative image of the merchant in the early seventeenth century literature, ironically, as the economic actor least de-

serving the condemnation of the bankruptcy laws. Gerard de Malynes depicts the merchant as the least willful of crea-

tures, and the bankruptcy law as an arbitrary set of rules insensitive to the realities of mercantile misfortune. Far from conniving to evade the rules, the merchant helplessly falls prey to them because of the "muta-

bility and inconstancy" of commercial life:

[F]or to be rich and to become poor, or to be poor and to become rich, is a matter inherent to a Merchants estate, and as it were a continual and successive course of the volubility of variable, blind fortune, .... So that by the frequency of it, Merchants have made a great difference and distinction between a Merchant which is at a stay, and taketh days for the payment of his debts, or one that is broken or bankrupt, having an especial regard herein for the preservation of credit, which is as tender as the apple of an eye.81

the military could not be a bankrupt, because he operated under a government-regulated contract. Sir Thomas Littleton's Case, 1 Freeman 391, 89 Eng. Rep. 290 (K.B. 1675). In

Newton v. Trigg, 1 Salk 109, 91 Eng. Rep. 100 (K.B. 1691), the court caught the essence of

the sentiment of the bankruptcy laws, excluding the innkeeper because he did not "live by the

meer advance of the value of a commodity," so the law groped at identifying those who

manipulated the elusive value of things rather than provided tangibles. The court also noted

rather illogically that innkeepers normally sold for cash (had they not dealt in credit they would never go insolvent), but clearly the court simply could not conceive the familiar figure of the innkeeper as the suspicious character of the merchant.

The litigation career of the innkeeper under the trader rule was not over, however. In later cases, the courts faced the problem of the innkeeper who engaged in a side trade of

"package store" wine and had to finesse the issue by setting a minimum quantity of these

ancillary sales that might make the innkeeper a trader. See Patman v. Vaughan, 1 T.R. 572, 99

Eng. Rep. 1257 (K.B. 1787). Innkeepers were finally included in the rule by statute in 1825. 6 Geo. 4, ch. 16, ? 2.

79. Hawkins v. Cutts, Hutt. 49, 123 Eng. Rep. 1093 (C.P. 1623). 80. Mayo v. Archer, 1 Str. 513, 93 Eng. Rep. 669 (K.B. 1722). 81. G. MALYNES, LEX MERCATORIA 156 (1686). The merchant is more the victim than the

beneficiary of his new form of wealth: For it hapneth many times, that Merchants having taken up money at interest to

augment their trade, and thereby doing good to their Prince and Countrey, shall receive some unexpected losses by wars on land, or Embargo's or restraints of Princes upon the seas, of their ships and goods, or by having sold their goods and


The picture of the swindling debtor evading his creditors turns to the picture of the helpless debtor undone by creditors. Malynes acknowledges that the Statute of Bankrupts "was done to a very good intent, if it were executed accordingly, with due consideration of the quality of persons, and their behaviour."82 But the statute fails to distinguish the evil from the virtuous debtor because its rigid rules trap the helpless while offering a roadmap for evasion to the clever:

But some can prevent the means of suing for the same, and so break the strength of it, as easily as a Spiders Web, whiles plain dealing men are laid hold of, that have an honest intention to pay every man according to their ability present or future, as God shal enable them ....83 Parliament constantly tinkered with the Elizabethan statute in the

years following its enactment. But for a century, the tinkering remained within the framework of a generally condemnatory norm. Par- liament and the courts jousted, nominally to determine the right rules to carry out that norm, but essentially to correct the failure of that norm to apprehend the complex cultural standing of the merchant debtor.84 Ironically, the law was designed precisely to apprehend the new phenomenon of commerce, yet it was regularly denounced as insensitive to the demands of commerce and to merchants' needs for devices to raise cash and enhance capital investment. The common law itself had only clumsily handled commercial law, and Parliament could do little better.

Specifically, if the 1543 statute had been hopelessly vague, the 1571 and later statutes were hopelessly rigid, and legislative tinkering only worsened their mechanical flaws. Parliament reacted and overreacted to every problem arising under the statute, such as a perceived increase in fraudulent conveyances, especially when any easing of the usury laws expanded the credit market.85 Sometimes the result was a brutal tight- ening of the law,86 and sometimes the purported technicality of the

merchandises at home at long days of payment, . . . having their best means in remote places, whereby the said Merchants cannot suddenly make the payment of such Monyes as they have taken up at interest, . . . and so they are driven at a stay, although they have very good estates. For some rich men (who like an Ape tied to a Clog, which thinketh that he keepeth the Clog, when the Clog keepeth him) are so tied to the Clog of their wealth, that upon the least rumours of troubles and accidents happening to their debtors, they become suspicious of these mens estates, and fearing to become losers, are so inquisitive of their debtors means (without reason and direction) to the great hurt and impairing of Merchants credit and reputation, that thereby they are driven into a streight on a sudden, and so overthrow them (unawares many times) to their own hindrance and loss.

Id. 82. Id. at 157. 83. Id. 84. Francis Bacon explicitly complained of legislative failure-the lack of sufficiently

purposive preambles and the faulty drafting of the statutory language. 9 THE WORKS OF FRANCIS BACON 322-24 (J. Spedding, R. Ellis & D. Heath ed. 1857-1874).

85. W. JONES, supra note 61, at 18-19. 86. A 1601 bill against "cozening bankrupts and lewd apprentices and factors" pro-

27


statutory rules created loopholes.87 Indeed, one result of the harsh- ness of the rules was the evolution of a parallel system of equitable relief which mitigated the effect of the rules, as if recognizing the sympathetic view of the merchant debtor's plight depicted by Malynes.88

Echoing Malynes, Defoe provides a deeper view of the merchant's moral situation and the complexity of the cultural imagery of the merchant that had escaped commercial rulemaking. Writing on the advent of the first right of discharge in bankruptcy legislation, and hence at the key transitional moment in the moral posture of bankruptcy law, Defoe offers some representative imagery of the portrait of the merchant as victim:

[S]ome disasters may befall a tradesman, which it was not possible he should foresee; as fire, floods of water, thieves, and many such; and in those cases the disaster is visible, the plea is open, ... the man can have no blame. A prodigious tide from the sea, join'd with a great fresh or flood in the river Dee, destroy'd the new wharf below the Roodee at West Chester, and tore down the merchants warehouses there, and drove away not only all the goods, but even the buildings ... into the sea; Now, if a poor shop-keeper in Chester had a large parcel of goods lying there, perhaps newly landed in order to be brought up to the city, but were all swept away, if... the poor tradesman was ruin'd by the loss of those goods on that occasion, the creditors would see reason in it that they should every one take a share in the loss; the tradesman was not to blame.89

posed that bankrupts be punished under the embezzlement laws unless they discharged the burden of proving that their losses came from bad debts or shipwrecks. Id. at 19.

87. The statute prevented the commissioners from forcing the bankrupts' debtors to pay the estate and allowed creditors to use the quominus fiction to evade the commissioners and

bring suit in Exchequer. Id. at 32-33. The quominus writ permitted the creditor to claim he was the king's debtor, and that the insolvent debtor had impaired his ability to repay the king. BLACK'S LAW DICTIONARY 1130 (5th ed. 1979).

88. Where a merchant could not escape the trader rule and the other rules defining bankruptcy, the Privy Council and Chancery operated on the margins of the statute, enforcing debts but ensuring debtors relief from harassment and sometimes offering virtual discharge, as well as inducing creditors to accept extensions. The result was a bitter jurisdictional battle, as the Privy Council and Chancery, along with special and religious commissions, intervened in bankruptcy cases, speeding up corrupt commissioners and softening obdurate creditors.

Chancery, more sensitive than the common law to the bill of exchange and other commercial

practices, had some parallel bankruptcy power, sometimes softening the law, sometimes mak-

ing it more efficient. W. JONES, supra note 61, at 35-51. And in any event, equitable liens, recorded bonds, confessions of judgment, and other recorded obligations fell outside the

purview of the statute. Id. at 44; see Jones, An Introduction to Petty Bag Proceedings in the Reign of Elizabeth I, 51 CALIF. L. REV. 882 (1963).

But the harsh legislative approach persisted, and, under the 1624 statute, a debtor who

sought an extension composition became a bankrupt unless he acted in good time, so a mi-

nority of creditors could force bankruptcy. 1 G. SANDERS, ORDERS OF THE HIGH COURT OF CHANCERY 132-34 (1845). The severe 1624 statute was conceived in an era when the credit

system was rudimentary, record-keeping poor, most transactions were in cash, and most credit unsecured or nonnegotiable, and Parliament wrongly assumed that any honest trader

pressed to repay his debts could quickly liquidate his assets. This view was naive, but Parlia- ment did virtually nothing to change the statute for seven decades after 1624, putting im- mense pressure on judicial interpolation to adjust the statute to the facts of commercial life.

89. DEFOE TRADESMAN, supra note 20, at 91-92.

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Here Defoe introduces a crucial theme in English bankruptcy law. The credit market is not necessarily a competitive arena: It may be a brotherhood of traders united by the fragility and contingency of their lives. A merchant who exhibits no particular moral flaw in suffering such contingency may gain admission into this brotherhood.

The trader rule inverted. Defoe's view represents a dramatic transition in the characterization of the merchant debtor. Some dishonest debtors cause their own misfortune. Even the debtor who falls into peril honestly might violate the moral norms of commerce by refusing to break publicly and honestly and by secreting or squandering his creditor's assets. Defoe therefore acknowledges that some find the law too favorable to bankrupts, and suggests a subtler and more effective control-a mixture of carrot and stick.90 As a kind of ethical manual for traders, Defoe's Complete English Tradesman delivers to all merchants an Ecclesiastian warning that the contingency of mercantile wealth can in a moment throw any of them into a brotherhood of misery: "Let him that thinketh he standeth, take heed lest he fall .... [M]en in trade can but think they stand.... "91 Defoe conceives a generous utopian community of forgiving traders, of merchants bound by mutual recognition of their fragile condition and by their mutual dependence on commercial transactions. "[I]t seems strange that tradesmen should be outrageous and unmerciful to one another, when they fall.... Why then should any tradesman, presuming on his own security, and of his being out of the reach of disaster, harden his heart against the miseries and distresses of a fellow tradesmen ... ."92

Bankruptcy, then, takes on a more complex moral cast as a univer- sally inherent commercial crisis in which all must recognize their duties to each other. Trade is the profession of human contingency. Defoe exhorts the honest befallen debtor to stop early and thereby fulfill his duty to his creditors, yet he also urges the creditors to accept the first reasonable proposal- in self-interest as well as mercy-in "reflection upon the sad changes which human life exposes us all to."93 The honest debtor who stops in time "will certainly be receiv'd by your credi-

90. Indeed, after noting the tragic fragility of the merchant condition, Defoe heartily approves a new parliamentary provision of capital punishment for fraudulent concealment. The law is made for relief of debtors-that is the novel view Defoe embraces-but never forgets the original and continuing aim of protecting creditors. Id. at 201.

At the same time, Defoe shows his ambivalence about the new carrot of discharge by warning against abusive friendly statutes and by suggesting a punishment for repetitive petitions. Id. at 210-11. He makes clear that a debtor owns nothing and is merely a bailee for the property of his creditors. Id. at 93. Trying to reconcile regulatory instrumental law and moral norms, Defoe warns the debtor not to succumb to the temptation of trying one more quixotic project. To "break in time" is rational self-interest and moral duty. Id. at 94-96. He assures the debtor that the commercial community will deal with him mercifully. Defoe laments that the tendency of a few merchants to squander all before breaking creates the common social view that all bankrupts, and potentially all merchants, are knaves.

91. Id. at 198 (emphasis in original). 92. Id. at 198-200. 93. Id. at 204.

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STANFORD LAW REVIEW

tors with compassion and with a generous treatment ... [and] you will be able to begin the world again with the title of an honest man."94 Defoe thus introduces into the bankruptcy literature a notion of moral community among merchants-and hence a moral duty of a debtor to the general class of his creditors, and, by implication, a duty of each creditor to others of his class.

Parliament finally decided, in 1704, that a statute that was all penalty and no reward was self-defeating, at least in its effect on honest debtors. In creating the right of discharge in the Statute of Anne, Par- liament may have intended not so much to make the law generous as to make it more sophisticated in its instrumental effects.95 Discharge would give debtors an incentive to cooperate in bankruptcy, or would at least mitigate their disincentive to do so. Indeed, the new law was still called "An Act to Prevent Frauds Frequently Committed by Bank- rupts." Parliament provided capital punishment for recalcitrant bankrupts, but it offered cooperative debtors allowance, freedom from prison, and discharge.96

But the effect of the new concept of discharge was to ratify the more positive cultural imagery of the merchant character. The advent of discharge was both the cause and effect of the new attitude toward the bankrupt. Here we see the great, ironic reversal in the history of Eng- lish bankruptcy law, a reversal noted but hardly appreciated in the conventional literature.97 The moral terms of the issue began to reverse themselves. Before the right of discharge, the pressure on the trader rule was relatively unilateral: On the whole, debtors did not want to

94. Id. at 196. 95. 4 Anne, ch. 17, ? 1 (1705); see Duffy, supra note 69, at 286-87. The original goal of

the Statute of Anne may have been very modest-to provide some short-term relief to merchants who had faced unusual difficulties after the wars of the late seventeenth century. Cohen, The History of Imprisonment for Debt and its Relation to the Development of Discharge in Bank-

ruptcy, 3J. LEGAL HIST. 153, 156-57 (1982). And the 1705 statute and its short-term predeces- sors seemed instrumentally designed to deter fraud by making bankruptcy somewhat less onerous, rather than to reconceive bankruptcy as a benefit system for deserving debtors. Id. Indeed, discharge simply replaced the discretionary power of such bodies as the Commission for Poor Prisoners, which relieved debtors imprisoned for debt by arranging compositions with their creditors. Id. at 157-58. The Statute of Anne thus must be read in relation to statutes designed both earlier and later to limit the power of the creditor to imprison his debtor. In that sense, it reflects the general relationship between the expansion of bankruptcy eligibility and the parallel issue of curtailing, and eventually eliminating, imprisonment for debt in England. Bankruptcy, in a sense, was the substitute for imprisonment. The political debates over bankruptcy and the abolition of imprisonment are an erratic mixture of new, humanitarian views of debtors, and subtle instrumentalism about enhancing debt payments. For a summary of how the relationship was resolved in the nineteenth century, see note 109 iln fa.

96. The statute was quickly amended to exclude small traders, forcing them into the

insolvency laws, and the required four-fifths vote for discharge ensured that a malicious mi-

nority could block it. 5 Anne, ch. 22, ?? 2, 7 (1706). 97. See, e.g., G. ROBSON, A TREATISE ON THIE LAW OF BANKRUPTCY 2-3 (1894): [A] new character was given to the whole system of bankruptcy; and instead of being, as it was previously, a peculiar species of criminal law . . . the bankrupt law became an

equitable system, founded upon the principles of humanity and justice ...

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become bankrupts.98 Even though England did not develop our modern concept of voluntary bankruptcy, once Parliament granted bankrupts discharge, bankruptcy inevitably became attractive to many debtors.99 Thus, the trader rule faced a new counter-pressure to expand to include "deserving" debtors. The contradictory pressures on the trader rule perfectly reflect England's fundamental moral ambivalence about insolvent merchants: They "deserved" bankruptcy, either as punishment or as relief. Yet the irony is that Parliament and the courts persisted in their previous obsessive, abstract classifying. As the moral norm underlying the trader rule became wholly paradoxical, the lawmakers continued their somewhat comic efforts to refine it by tinkering with the same legal forms of rule and standard.

As bankruptcy changed from a reprehensible crime to a sympathetic commercial crisis, the doctrinal twists of the trader rule became more bizarre. The liquidity of commercial wealth had made the life of the trader unstable, but as the economy came to depend increasingly on commercial credit, the definition of a trader inevitably became unstable as well. As rich merchants became ennobled and as the landed went broke and fell into trade, the categories of economic actors blurred. As more people, and more respectable people, went into trade, the law had to concern itself with subtler questions of the state of mind with which one engaged in trade. Conduct, not status, became a key deter- minant of one's moral culpability under bankruptcy, and the earlier efforts at setting a minimum "quantum of trade" requirement for merchant status proved inept.

The new form of judicial torture of the statutory rule measured a person's eligibility for bankruptcy according to his subjective motive, his intention to submit his economic life to the vagaries of the credit market.?00 One became a trader subject to-or deserving of-bankruptcy by committing oneself to the instability of trading life. The law had to discern more subtly what sort of behavior bankruptcy would regulate-or privilege-and thus, the great subtlety of mens rea analysis that later characterized the law of preferences entered bankruptcy law.

The new counter-principle underlying the trader rule was that only, or primarily, traders should have access to bankruptcy, since only they suffer losses by accident, while others go broke through willful prodigality.'0' Blackstone's view of the merchant debtor is a wonderfully

98. Of course, even before the Statute of Anne, some debtors found it in their interest to collusively arrange "friendly statutes."

99. See Friedman & Niemira, supra note 69, at 243. 100. Under some cases, even a single act of trading might make a man a trader if he

performed it with the intention of getting into trade. Ex parte Bowes, 4 Ves. Jun. 168, 173, 31 Eng. Rep. 86, 89 (1798). Indeed, even a debtor who was primarily a farmer might fall into the statute if he sold a few horses with an eye to a flourishing horse business. Bartholomew v. Sherwood, 1 T.R. 573, 99 Eng. Rep. 1258 (1786). A debtor might be a bankrupt if he set up a business and then failed before his first sale. Ex parte Neirinckx, 2 Mont. & Ayr. 384 (1835).

101. Bankruptcy became a crucial device for protecting merchants from disastrous debt

31


ahistorical rationalization of the trader rule's ironic history.'02 For Blackstone, the nontrader is liable to fall insolvent out of prodigality- it is his own fault if he has so encumbered himself with debt as to risk disaster. He has acted willfully, "voluntarily." But as for the merchant in Blackstone's view, the very softness and contingency of the merchant's assets that had made him a threatening villain when he first emerged, now make him the most fragile and sympathetic figure; for the merchant's collapse is his misfortune, not his fault, a fact of nature, not a willful action.103 The merchant is now the victim, not the manipulator, of fortune.

Blackstone's view reflects the success of the ideology of commerce that took hold in the eighteenth century and turned the morally questionable and perceptually elusive phenomena of trade and credit into necessities, and then into virtues. A trader's capital is uncertain and invisible-the very epistemological problem that originally made the merchant dangerous now made him sympathetic. The uglier implications of credit-rumor, dishonesty, collusion, manipulation-did not define credit, but were the corruption of credit. Credit was at worst morally neutral, the symbolic currency by which modern economic forces played themselves out. And credit could be morally affirmative, the currency of trust and honor by which virtuous merchants bound themselves.

As the courts continued to expand the trader rule, the formal tests to determine one's "intent" to take on the life of trade became more strained.104 The judicial torture revived heavily in the 1780s and continued well into the nineteenth century, when, inevitably, further legislative tinkering compounded the confusion.'05 The courts came to be

because the other logical device-limited liability through incorporation-was essentially unavailable in England until the middle of the nineteenth century. See Cohen, supra note 95, at 161. Joint stock companies began evolving in the seventeenth century, but they were the erratic product of royal charters and private acts, and, in any event, English lawyers were slow to associate incorporation with protection from personal liability. Id. at 161-62.

102. Duffy, supra note 69, at 288-90. 103. 2 W. BLACKSTONE, COMMENTARIES 473-74 (4th ed. 1770). 104. In Hankey v. Jones, 2 Cowp. 745, 98 Eng. Rep. 1339 (K.B. 1778), the debtor was a

clergyman who drew bills of exchange in order to raise cash to drain some land he owned. The case raised the question of whether the clergyman "used the trade of merchandize," or fell within the statute because he followed the "profession of a scrivener, receiving other men's monies or estates into his trust or custody." Facing a conflict between the letter of the statute and the testimony of expert commercial witnesses, Lord Mansfield held that the cleric was no trader, since otherwise everyone who drew a bill would be a trader. "This man got no

profit, only ruin, and the bill were never redrawn or trafficked in." Mansfield began to sketch out an intention test-the cleric had not purposely committed himself to what might be described as a life of trade.

105. The 1825 Parliament added "commission consignment" to "bartering" and

"agents" to "factors," and "buying and letting for hire, or by the workmanship of goods and commodities." It included such previous ineligibles as bleachers, builders, calenderers,

carpenters, sheep and cattle salesmen, innkeepers, and ship insurers. 6 Geo. 4, ch. 16, ? 2

(1825). And yet further tinkering was necessary in 1842 to add alum-makers, apothecaries, auctioneers, brickmakers, carriers, stablekeepers, and shipowners. 5 & 6 Vict., ch. 122, ? 10

(1842).

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described as "ships at sea without a compass,"'06 and though they had begun to rely on various subjective "motive" tests, they also erratically revived older "objective" tests rooted in old assumptions about trade as a distinct occupational status.107

The trader rule finally died of exhaustion in the nineteenth century.'08 The rule became essentially unnecessary when the bankruptcy statute merged with the parallel insolvency laws that had regulated the lives of the nontrader debtors who had not qualified for bankruptcy, and when Parliament decided to resolve the controversy over imprisonment for debt, which was the major entailment of a debtor's falling under the insolvency and not the bankruptcy law.109 But the history of

106. 1 E. CHRISTIAN, THE ORIGIN, PROGRESS AND PRESENT PRACTICES OF THE BANK- RUPTCY LAW at ix (1818). Scriveners had disappeared, but the statute then bore an unclear relation to lawyers, who waffled in their attitude toward coverage depending on whether they wanted it as businessmen or feared it as lawyers. Malkin v. Adams, 2 Rose 28 (1814). A proprietor of a lunatic asylum tried to escape into bankruptcy by setting up a servant in a cottage to sell drugs. Welbourne, Bankruptcy Before the Era of Victorian Reform, in 2 ESSAYS IN ECONOMIC HISTORY 51, 56 (E.M. Carus-Wilson ed. 1962). A man hawking a few gallons of milk in a London street was considered a trader, but a keeper of 400 cows who bought cows and hay and sold milk was not a trader because he bought and sold different things. Id. at 55.

107. For example, the courts revived the requirement that a debtor must both buy and sell to be a trader, and excluded a fisherman who primarily sold fish but sometimes bought a few fish to supplement a bad catch. Heanny v. Birch, 3 Camp. 233, 170 Eng. Rep. 1365 (1812). The courts also occasionally persisted in the old notion that trade was limited to personalty, and a debtor's economic alliance to land entailed exclusion. Thus, miners were excluded, Port v. Turton, 2 Will. 169, 95 Eng. Rep. 748 (K.B. 1763), yet a brickmaker was included if he did not own the land but merely enjoyed a license to extract clay, Ex parte Harrison, 1 Bro. C.C. 173, 28 Eng. Rep. 1062 (1782). Land speculators who, one would think, would raise all the traditional concerns about absconding debtors, were originally excluded because of their ties to land. Clarke v. Wisdom, 5 Esp. 147, 170 Eng. Rep. 767 (1804). Later cases somewhat incoherently finessed the personalty requirement by including builders but not developers who hired others to build on their land, or landowners who built to improve their own property. Ex parte Edwards, 1 Mont. D. & D. 3 (1840); Ex parte Neirinckx, 2 Mont. & Ayr. 384 (1835). The law continued to exclude those, like fleet victualers, who sold to limited markets. Ex parte Lewis, 2 Deac. 318 (1837).

108. The rule was essentially repealed by 24 & 25 Vict., ch. 134, ? 69 (1861). 109. The nineteenth century political developments leading to the virtual abolition of

imprisonment for debt also reflect on the notion of class distinctions in bankruptcy. The tortuous legal history of the trader rule delineates the expansion of the middle class and middle class values, and the demise of the trader rule reflects the triumph of a supposed consensus on the social value of mercantile trade and credit.

In the early nineteenth century in Britain, a person could enter bankruptcy, and thus enjoy discharge and avoid imprisonment, only if he were a trader and only if his debts exceeded 100 pounds. See Kercher, The Transformation of Imprisonment for Debt in England, 1828 to 1838, 2 AUSTRALIANJ.L. & SOC'Y 60, 61 (1984). Nontraders and small traders faced imprisonment both before ("on the mesne process") and after judgment ("on the final process"), the latter persisting under English law for thirty years after the former was abolished. If the debtor could not pay, his only hope to escape prison was to obtain some charitable help to pay off the debt, and the charitable organizations that paid debtors' ways out of jail also helped form the political campaign for abolition of imprisonment for debt. Id. at 61, 69-70. Most imprisoned debtors were thus fairly poor people, including small-time traders who could not meet the minimum debt amount for bankruptcy. Some wealthy debtors nevertheless ended up in prison, but for them imprisonment was an ineffective sanction since they were able to live very comfortably in jail or were even free to leave the prison walls while technically incarcerated, all the while retaining their property. Id. at 64-65. The move toward abolition was to be balanced by increased alternative powers of collection, including greater


the trader rule nevertheless remains crucial to the history of bankruptcy because the rule had lent bankruptcy law its enduring moral and legal rhetoric.

3. Acts of bankruptcy.

The needfor an act-based rule. The early English statutes viewed commercial status as a necessary but insufficient condition for susceptibility to bankruptcy. Once proved a trader, a person was still only subject to bankruptcy if he performed certain prohibited acts. 10 Of course, the law was therefore somewhat redundant because the difficulty of defining the status of trader caused the interpreting courts to import into the definition a conduct element anyway, as if a trader was someone who committed himself to the unstable world of commercial trade. The law could logically have declared anyone a bankrupt who met that definition of trader and became insolvent according to some mathematical measure of insolvency.

That sort of rule would still have accommodated fault principles, although only in a very overbroad way: If you were insolvent, and if you had run the special risk of insolvency inherent in a life of unstable trade, you merited the punishment of bankruptcy. Indeed, a status- plus-insolvency test would have sufficed equally well when the moral posture of English bankruptcy law began to reverse itself at the time of the Statute of Anne. One could imagine the law saying that if you have

remedies against real property, and against intangible personalty such as negotiable instruments. So, in this sense, the gentry favored imprisonment, even though they were rarely creditors of imprisoned debtors. Ironically, much of the opposition to abolition came from

fairly small traders, since they tended to be the major creditors of the poor people who were not eligible for bankruptcy. Id. at 65. These small-time trade creditors often favored imprisonment for debt precisely because they feared that, if they were unpaid, they would become

imprisoned debtors themselves. Larger middle class trade creditors were less concerned with

imprisonment because their own debtors were usually large enough to qualify for bankruptcy anyway.

Ultimately, middle class, mercantile, pragmatic attitudes, not humanitarian impulse, won the day for abolition. Imprisonment might have been a general deterrent to getting into debt but it certainly did not help the actual imprisoned debtors pay their debts if they were insolvent; if it was meant to punish fraud, it failed, since the clever frauds avoided prison, and

mainly the unsophisticated filled the jails. Id. at 74. Moreover, imprisonment contradicted

bankruptcy policy because it rewarded a single aggressive creditor. Finally, imprisonment actually enabled some comfortably incarcerated propertied debtors to avoid handing over their wealth. Thus, a law that may have begun in a moralistic sentiment that excessive debt was a crime had become subject to conflicting instrumental arguments, all subject to an assumed, if unstable, normative consensus that commercial credit benefited British society. In-

deed, one of the strongest arguments for imprisonment was a sort of cultural efficiency: Even if it was counterproductive with respect to specific debts, it taught the poor people "stern

principles of commercial morality" essential to proper socialization. Id. at 83. But the debate over imprisonment reflected an extremely confused class picture in England, marked by erratic self-identifications of classes as debtor classes and creditor classes. We will see similar confusion in the early history of American bankruptcy legislation. See notes 204-231 itnfra and

accompanying text. 110. See generally G. BILLINGHURST, supra note 69, at 91-98; Treiman, Acts of Bankruptcy: A

Medieval Concept in Modern Bankruptcy Law, 52 HARV. L. REV. 189 (1938).


gone insolvent, and if that insolvency is likely due to the special, inevitable perils inherent in the contingent and fragile life of the noble tradesman, you merit the special privileges of discharge. But the fault principle in the historical core of the law demanded a conduct-based law as well.

The concept of "acts of bankruptcy" is hinted at even in the 1542 statute, which mentions people who "make bankrupt" and flee from sight or retreat into their homes. i Thus, the bankruptcy law assumes an image of intrigue, of escape, an image associated, of course, with the negative imagery of the merchant character type. Flight as a self-help debtor's remedy seemed to originate on the Continent, and indeed in England it was largely associated with foreign traders. The foreign association helps explain the image of insolvent debtors as absconding men without countries and the infection of this image into the efforts to interpret the trader rule."2

The norm captured in the image of "making bankrupt" was roughly translated in the 1570 Act to an enumerated list of acts-in effect, criminal provisions: betaking oneself to sanctuary, making an alienation in fraud of creditors, or voluntarily procuring arrest to avoid execution on one's property-all with the mental state of intending to defraud and hinder one's creditors."3 The movement to the enumerated list reflects the law's somewhat clumsy assumption that the immoral state of risky trading must find representation in specific acts of conduct. It also probably represents at least a temporary tropism toward strict legislative rules, grounded in the very persistent principle that statutory law was an unfortunate excrescence on the common law and that strict rules permitted limited incursion of statute on common law. 14

But ironically, the criminal-law style scheme of formal rules describing illicit commercial conduct created problems for creditors. It did not protect them from the honest debtor who was falling hopelessly into debt with their property (though for many decades it could be ar-

111. 34 & 35 Hen. 8, ch. 4, ? 2 (1542); see Treiman, supra note 110, at 193-94. 112. The earliest Lombard insolvency laws spoke not of"banca-rottie" but of"fugitivi."

Treiman, Escaping the Creditor in the Middle Ages, 43 LAW Q. REV. 230, 230-31 (1927). The medieval treatises apparently contain elaborate rules for evidentiary proof of flight or with- drawal from the marketplace. Id. Indeed, the first relevant English law is a 1350 law explicitly directed at fleeing Lombards. 25 Edw. 3, stat. 5, ch. 23 (1350). Flight had to be covered by the law of bankruptcy, because by fleeing the debtor escaped or undid the creditor's common law remedies. If flight was a general crime and if the debtor was an outlaw, his goods would not go to his creditors but would escheat to the state. Treiman, supra, at 236-37.

113. 13 Eliz., ch. 7, ? 1 (1570). English law added to the Italian concept of flight and secretion the purely indigenous act of keeping to one's home (the home was not as much a legal sanctuary in Italy as it was in England). In an ironic historical reversal, Continental creditors came to complain of English debtors escaping to their homes. Treiman, supra note 112, at 233-34. As for sanctuary, the places deemed to be official sanctuaries were numerous and large; they included the entire part of London known as Westminster and entire smaller cities as well. Sanctuary became a sort of inverse of market overt, expanding equally beyond its original conceptual and geographic limits.

114. 2 W. BLACKSTONE, supra note 103, at 479.

35


gued that the bankruptcy laws were not concerned with those honest debtors anyway). And the formality of its criminal-law style provisions made it easy for dishonest debtors to avoid crossing the line into acts of bankruptcy: A creditor had little recourse if his debtor did not flee, so the legislature and courts faced pressure to create fictions of constructive flight. '5

From the start, as with the trader rule, the effort at statutory rulemaking to capture the moral norm led the courts to bizarre interpretations. The courts tried to refine Parliament's formal rulemaking by amazing efforts at parsing physical actions, mental states, and their concurrent or discrepant relationship."16 The 1604 statute added to the 1570 list, shifting the focus from outright absconding to a wider and subtler range of fraudulent behavior. For example, where the 1570 statute punished the fraudulent receipt of a debtor's assets before or after an independent act of bankruptcy, the 1604 statute made any fraudulent conveyance an act of bankruptcy. And the 1604 statute took the first step toward constructive or "passive" acts of bankruptcy by making it an "act" to lie in prison for at least six months after being

115. Precise rules of commercial behavior were simply more subject to manipulation than normative standards. Hence Dekker's acerbic criticism of dishonest merchants who could avoid their creditors while stopping short of technical acts of bankruptcy:

Strong and cunning nets were spread by those Parliaments to catch these foxes. Yet how many of them have been since, and at this hour are, earthed in the King's Bench, the Fleet and that abused sanctuary of Ludgate! Here they play at bowls, lie in fair chambers within the Rule, fare like Dives, laugh at Lazarus, can walk up and down

many times by habeas corpis and jeer at their creditors. T. DEKKER, ENGLISH VILLAINIES DISCOVERED BY LANTERN AND CANDLELIGHT 275 (1637).

116. For example, keeping to one's house had to be consistent behavior; if you went inside erratically to avoid process, you could escape bankruptcy. Even if a trader was consist-

ently secreting himself at his house, he could escape bankruptcy by appearing occasionally at market. Anon. Cro. Eliz. 13, 78 Eng. Rep. 279 (1582); see W. JONES, supra note 61, at 24.

Bankruptcy could stand or fall on the spoken word of a servant: If the servant said "the master is not home," there might be an act of bankruptcy, but the result would be different if he said, "the master only does business at his office in the city." See Welbourne, supra note 106, at 56. Some old cases held that a debtor did not commit an act of bankruptcy by staying at home unless he specifically denied a creditor an overdue debt while at home. E.g., Garret v. Moule, 5 T.R. 575, 101 Eng. Rep. 322 (1794). But eventually the courts construed the rule to find the debtor had committed an act of bankruptcy whenever in staying home he evinced in some way his intent to delay or defraud his creditors. Dudley v. Vaughan, 1 Camp. 271, 170

Eng. Rep. 954 (1808); Heylor v. Hall, Palm. 325, 81 Eng. Rep. 1105 (1622). The courts also had to constructively define the debtor's home as all places other than his regular place of business: The statutory provision for "otherwise absenting himself" was extended to being absent from his counting-house or other regular place of business. Gillingham v. Laing, 6 Taunt. 532, 128 Eng. Rep. 1142 (1816); Holroyd v. Gwynne, 2 Taunt. 176, 127 Eng. Rep. 1044 (1809). If a trader upon notice of process kept to his house, went out, and then went home again after getting another notice of process, he was not within the statute, because he "used" to go at large, and he may have suffered the bad luck of being hit with process while in

public. See G. BILLINGHURST, supra note 69, at 92-93. If a man without a home simply failed to

appear abroad in any normal place of business as he did formerly, he did in fact commit an act of bankruptcy. See id. at 93. The courts also had to interpolate where a debtor first left Eng- land and then incurred debts he could not pay, holding that the statute did not require any concurrence of departure with intention to delay creditors. Robertson v. Liddell, 9 East 487, 103 Eng. Rep. 659 (1808); G. BILLINGHURST, supra note 69, at 92; J. STONE, Supia note 76, at 133.


arrested for an unpaid debt. 7

The 1623 statute repeated and extended the definitions of acts of bankruptcy, including such acts as procuring protections and inducing compositions that reduced debt or extended time.118 More impor- tantly, it confirmed the disingenuous process of converting conduct- based acts of bankruptcy into "passive acts" of getting oneself into legal trouble for one's debts. And the new doctrine of what might be called "constructive absconding" led the courts to continue their formalist tinkering throughout the seventeenth century.

The balance between condition and act became elusive. The "act of bankruptcy" of getting arrested captures the problem very subtly: One had to willfully procure one's arrest, perhaps by inducing a friend to arrest one on a fictitious claim via a capias ad satisfaciendum.119 A passive "procurement" of arrest-passively subjecting oneself to prison by simply failing to pay one's debt, was insufficient, because it would have amounted to bankruptcy upon a condition of insolvency, rather than bankruptcy by antisocial manipulation of the property of others. But even if one failed to meet the mens rea requirements for suffering imprisonment or arrest, one could still "commit" an act of bankruptcy merely by remaining in confinement or in debt long enough to meet the statutory periods.120

4. The instability of the act-based rule.

The manipulative interpretation of the statute and the tortured relation of formal rule and normative standard reflected the developing

117. 2Jac., ch. 15, ? 2 (1604). According to Blackstone, this provision captured the idea that if a debtor could not procure bail, the law could, in effect, presume the debtor was defi- cient in credit because of poverty or ill character, or that his neglect to procure bail arose from fraudulent intention. 2 W. BLACKSTONE, supra note 103, at 478.

118. 21Jac., ch. 19, ? 2 (1623). 119. Treiman, supra note 110, at 194. If a trader absented himself for fear of arrest by a

writ of de excommunicato capiendo, and a chancery decree was issued against him to make a conveyance, he was not a bankrupt. But if the decree ordered him to pay money, then he was a bankrupt because that would be fraudulent avoidance of debt. See G. BILLINGHURST, supra note 69, at 92.

120. G. BILLINGHURST, supra note 69, at 95. A debtor might be arrested upon a bond before the debt matured because the creditor could hold him hostage in a prophylactic effort to find the debtor's sureties. Id. at 96; see also Tynan v. Bridges, Cro. Jac. 301, 79 Eng. Rep. 257 (1612). If the debtor then lay in prison for the required time, he "committed" an act of bankruptcy, since the imprisonment still derived from the debt. Id. One might semi-actively "yield" oneself to prison if one thereby exhibited an amorphous form of intent to avoid debt. Exparte Barton, 7 Vin. Abr. (Eng.) 61, 62, pl. 15; Robertson v. Liddell, 9 East 487, 103 Eng. Rep. 659 (1808). Yielding oneself to prison was an act of bankruptcy only where voluntary, and the courts avoided finding a voluntary yielding where a debtor acted willfully merely in getting into serious debt and so, in effect, recklessly or negligently incurred prison. See G. BILLINGHURST, supra note 69, at 95. One might be in prison passively and only briefly, and yet act by escaping. Escaping from prison was an act of bankruptcy, because that again showed the debtor could not procure bail. Yet if one "escaped" from prison by procuring "hired" or common law bail, he committed an act of bankruptcy anyway. Id. at 97. Getting oneself out on a private bail might amount to a kind of preference, since it was a side deal cut with a single creditor.

37


ideological conflict about trade and credit and left the fundamental purpose of the "acts of bankruptcy" rules utterly ambiguous: Was an act of bankruptcy precisely the conduct that the bankruptcy laws sought to punish? Or was it, as in Continental law, evidentiary-a reflex action of insolvency, an image of the inevitable, fragile condition of even honest, virtuous merchants?121

The extension and softening of the acts of bankruptcy seem to have served several purposes. Merely by dropping the requirement of specific absconding actions, the law closed loopholes and made it easier to capture elusive dishonest debtors. But this loosening of the law inevitably, if inadvertently, moved the law closer to a condition law than a conduct law-in effect, captured various images of insolvency and characterized them as constructive forms of willful flight or secretion of assets. Creditors thereby received the double benefit of greater ease in capturing the elusive dishonest debtors as well as the use of bankruptcy process to prevent squandering by honest debtors.

But in an ironic parallel to changes in the trader rule, the change in the law of "acts of bankruptcy" also paved the way for the historic reversal under the Statute of Anne, whereby the new generous bankruptcy process could become available to honest debtors who fell helplessly into a condition of insolvency. The law had started as a criminal law and, aiming to become a broader and more effective criminal law, made itself susceptible to the paradoxical concept of the merchant and English mercantile credit culture which had fully developed by the start of the eighteenth century. Bankruptcy could be a form of relief to the honest debtor as well as a punishment of the absconding crook, and the flexibility of the "passive" acts of bankruptcy enabled the English statute to accommodate both parts of the paradox.'22

An "act" of bankruptcy was thus transformed into a condition of

being. This change in the concept may have made it easier for a creditor to prove a rule-manipulating debtor a bankrupt. In the long term, however, it enabled the bankruptcy law to absorb the more sympathetic

121. Treiman, supra note 110, at 212-13. Treiman describes the acts of bankruptcy as a sort of probable cause standard permitting the state or the creditors to at least engage in fuller discovery of the debtor's finances. Id.

122. Of course, the nature of the "reversal" under the Statute of Anne is subject to some

dispute. The contemporary evidence from Defoe and others suggests that discharge was

something less than an attractive privilege offered to deserving insolvent merchants; bank-

ruptcy was still only involuntary. Rather, discharge was simply a means of making the bank-

ruptcy less frightening to an honest debtor who might be willing to cooperate. See notes 95- 96 supra and accompanying text. In short, it mitigated the anguish of involuntary process. The sympathetic description of the bankrupt offered by Blackstone in rationalizing the limitation of bankruptcy "privileges" to the categorically deserving class of merchants, see text ac-

companying notes 102-103 supra, ignores the real intention of the discharge provision-the intention to make a law originally designed to protect creditors even more effective. Duffy, supra note 69, at 288-89. Nevertheless, the rationalizations offered by Blackstone and others are themselves important historical data, reflecting how English jurisprudence had absorbed and perhaps exaggerated the affirmative ideology of trade and the affirmative imagery of the merchant.

38 [Vol. 39:3


view of the merchant, designed to make bankruptcy less frightening: the shift from status to conduct to condition may have first made a condition a crime. But no condition, so conceived, can remain a crime for long, and it soon makes the person exhibiting the condition the beneficiary of state relief.'23

The concept of "acts of bankruptcy," in its utterly diluted form, survived far into English law, where today a debtor "commits an act of bankruptcy" if "execution against him has been levied by seizure of his goods under process and the goods have been either sold or held by the sheriff for twenty-one days."124 As we shall see, the concept also survived in America, in its most comically constructive form, until the middle of the twentieth century.'25 For centuries, it remained in bankruptcy law as a sort of cultural palimpsest, a reminder of the moral conflict inherent in even the most seemingly scientific regulatory legislation. In that sense, the concept of "acts of bankruptcy" helps explain the other very curious element of early English bankruptcy law-the law of the preferential transfer.

C. The Origins of English Preference Law

Though the preference has little visible history for the first two hundred years of English bankruptcy law, its evolution bears an important relationship to the principles of the trader rule and acts of bankruptcy, a relationship virtually ignored in scholarship on the subject. All three legal notions are rooted in the cultural ambivalence about the moral status of the character type of the merchant and the phenomenon of credit. And all three demonstrate the moral issue underlying the legal choice between rules and standards for governing commercial behavior.

Early English law barely apprehended the concept of the preferential transfer. Unlike the fraudulent conveyance, the preference was not illegal at common law.126 And because it benefited at least one creditor, it did not seem the sort of antisocial act that inspired the original criminal form of bankruptcy. Once English law evolved toward viewing bankruptcy as a debtor's condition, rather than his crime, the preferential transfer became more visible: English law came to view the bank-

123. In his wonderfully quaint 1719 treatise, Thomas Goodinge reminds merchants that debt is the inevitable consequence of trade: "For it is morally impossible to think that a Merchant can make a solemn Protestation in this sort; I owe no Body, and no Body owes to me. Affairs of this Nature, cannot admit of such even Ballances." Thus, every merchant should be aware that he may have committed or be about to commit acts of bankruptcy, "which they never understood would bring them within the Compass of the Statutes, but have thought that it only consisted in Absconding, or downright running." T GOODINGE, THE LAW AGAINST BANKRUPTS: OR A TREATISE WHEREIN THE STATUTES AGAINST BANKRUPTS ARE EXPLAIN'D BY SEVERAL CASES 3-4 (1719).

124. 4 & 5 Geo. 5, ch. 59, ? 1(e) (1914); see Treiman, supra note 110, at 197. 125. See Treiman, supra note 110, at 197-210; notes 403-407 infra and accompanying

text. 126. 2 G. GLENN, FRAUDULENT CONVEYANCES AND PREFERENCES 654 (1940).

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ruptcy process more as a fair settlement or adjustment of claims among worried parties than as a crime or a tort. But the fault-based view of the debtor has never really disappeared from English law. The English trustee has never been able to void a preferential transfer without proving the debtor possessed a strange sort of criminal mens rea, a state of mind so oddly defined as to produce some wonderfully metaphysical doctrine similar to the familiar doctrinal excesses of the substantive criminal law.

1. The advent of the "relation-back" doctrine.

To the extent that English law drew on the Roman law, it found nothing to forbid an insolvent person from paying a legitimate debt to a preferred creditor, though the history contains vague hints that the law could reach such a payment if the debtor acted fraudulently.'27

But by 1584, the courts had come to recognize what might loosely be called a preferential transfer. Assuming that the Commissioners at least had the power to stay or avoid any transfers by the debtor to a creditor after the commission was sued out, the question was whether the "preference period," or, more strictly, whether the Commissioners' title to the bankrupt's property, related back to the original act of bank-

127. Id. at 653-54. The two Jacobean revisions of the bankruptcy statute punished by ear-clipping and pil-

lory a fraudulent transfer of property. This might include a payment to an otherwise legitimate debtor if done with the effort to evade the commissioners. But the statutes do not

clearly describe transfers to true creditors, and in any event they gave the trustees no power to avoid these transfers. Nor do they illuminate precisely how a payment of a bona fide debt to a creditor-as opposed to a fraudulent conveyance-can be a fraud. See 21 Jac., ch.19, ? 7

(1623); 1Jac., ch. 15, ? 1 (1603). Malynes attributed to the civil law the principle that if a "fraudulent man" engages in

"any bargain or sale made two or three days before his breaking, by goods sold good cheap," the transfer might be voided as a fraud on the other creditors, and "recalled for the general- ity." G. MALYNES, supra note 81, at 159. The rhetorical references to fraud do not help much to distinguish a fraudulent conveyance from a preference, because they do not explain how it can be a fraud to pay a real debt. The references to the somewhat ill-named "fraudulent

preference," arise in scattered places in early English law, perhaps intimating that some credit that looks legitimate on its face may really be collusive.

The vague efforts made by English law to apprehend the issue of the preference thus reflect the persistent difficulty Parliament and the courts had in disentangling the preference from the fraudulent conveyance. Indeed, as Robert Clark has shown, one of the great ironies of the history of commercial law is that the most famous English case on fraudulent conveyances, Twyne's Case, 3 Coke 80b, 76 Eng. Rep. 809 (Star Ch. 1601), apparently involved not a fraudulent conveyance at all, but a preference. Clark, The Duties of the Corporate Debtor to its

Creditors, 90 HARV. L. REV. 505, 513 (1977). Pierce owed money to both Twyne and others, and secretly conveyed all his property to Twyne to pay off that debt. This would seem to be a

preference, despite the secrecy, since even if secret, the payment was for a legitimate debt, and the principle that the debtor also owed a generalized duty of ratable payment to his general class of creditors was relatively immature in English law. As Clark suggests, there may really have been a fraudulent conveyance under the facts, since the opinion hints that Pierce

might have had a kickback arrangement with Twyne whereby Pierce would actually retain

possession of the assets and possibly ultimately retain full ownership. Pierce and Twyne would thereby have deceived the other creditors into pursuing their efforts longer than was worthwhile. Id. at 514.


ruptcy that had precipitated the commission.'28 Lord Coke, in dictum in The Case of Bankrupts,'29 said that the bankruptcy law imported a dis- trust of a bankrupt's handling of his own assets and a principle of equal division among creditors that justified the voiding of the transfer.'30 This was the maximum interpretation the courts would give to the Eliz- abethan statute's order that the Commissioners distribute the estate to the creditors "rate and rate alike."131 Coke said that "if, after the debtor becomes a bankrupt, he may prefer one it would be unequal and unconscionable, and a great defect in law, if after he hath utterly dis- credited himself by becoming a bankrupt, the law should credit him to make distribution of his goods ...."132 This interpretation itself was a considerable advance in the law of preferences and began to develop the central theme of early English preference law as it would be ex- pounded by Lord Mansfield: The debtor must not supplant the Com- missioners and set himself up as the law-giver in bankruptcy distribution, the judge of the relative worthiness of creditors.

But the relation-back doctrine also invited a good deal of uncertainty in the application of the statutory rules. It put great pressure on the "acts of bankruptcy," which themselves were becoming increasingly "constructive," to define the point at which the Commissioners owned the debtor's goods. The relation-back doctrine made sense as a punishment for the debtor who abused or evaded the bankruptcy process, or as a regulation of a debtor who ipso facto was incompetent to manage his assets, only so long as the act of bankruptcy was a manageable concept for measuring the debtor's crime or condition.

Indeed, a century and a half after The Case of Bankrupts, Parliament expressly recognized the problems inherent in the relation-back doctrine, problems that reflect yet another episode in the history of the rules/standards debate in English bankruptcy law. Strictly applied, Coke's dictum gave the courts the power to avoid any transfers made by a debtor to a creditor after the debtor had committed an act of bankruptcy. But this rule-like approach turned out to be unfair to creditors since, as the drafters of the 1746 statute recognized, bankrupt debtors often "commit secret acts of bankruptcy unknown to their creditors," thereby discouraging trade and commerce. 33

Parliament thereby created a new bona fide creditor law, protecting such payments from avoidance where the payment was to an innocent creditor "in the usual and ordinary course of trade," where the creditor

128. The Case of Bankrupts, 76 Eng. Rep. 441 (K.B. 1584). The general notion that the commissioners' title related back to the time of an act of bankruptcy derives from 13 Eliz., ch. 7, ? 2 (1570).

129. 76 Eng. Rep. 441 (K.B. 1584). 130. Id. at 473. 131. 13 Eliz., ch. 7, ? 2 (1570). 132. 76 Eng. Rep. at 473. 133. 19 Geo. 2, ch. 32 (1746); see T. COOPER, THE BANKRUPT LAW OF AMERICA COMPARED

WITH THE BANKRUPT LAW OF ENGLAND 330 (1801).

41


neither knew nor had reason to know that the debtor was insolvent or faced bankruptcy.134 The relation-back doctrine was an overbroad rule, insensitive to the commercial reality that many creditors in the ordinary course of business accepted payments without knowing their debtors were bankrupt. Creditors, of course, often could not know this, because Parliament had compounded the problem of the subtle, elusive bankrupt by legislating highly constructive acts of bankruptcy, subject to manipulation by debtors. Thus, Parliament had to soften the relation-back rule with a normative standard.

The standard looks ahead to American law in two important ways: It tests a suspect payment against some intuited sense of the ordinary course of commerce, and it looks to the mental state of the creditor to discern the commercial morality of the payment. But in this latter sense, the 1746 statute is anomalous135 because, as we will see, when the courts later addressed the more difficult preference problem-the payment before an act of bankruptcy-the mental state of the creditor became subordinate, if not irrelevant, and all moral scrutiny focused on the debtor.

For decades after Coke's dictum, the Commissioners themselves had a good deal of trouble with the relation-back doctrine, especially where favored creditors had arranged unusually subtle forms of credit.'36 General creditors often had to appeal to Chancery when the Commissioners proved impotent to reverse technically legal payments to creditors under subtle arrangements.'37 As at least one early case

134. 19 Geo. 2, ch. 32, ? 1 (1746). 135. The provision for bona fide creditors went through various transformations in Eng-

lish legislation, and eventually disappeared in the nineteenth century after Parliament began to measure the preference period according to a strict time zone rather than by reference to acts of bankruptcy. See M. HUNTER & D. GRAHAM, WILLIAMS AND MUIR HUNTER ON BANK- RUPTCY 346-47 (19th ed. 1979) [hereinafter WILLIAMS ON BANKRUPTCY].

136. See In re Hall, 4 A.B. Rep. 671, 679-80 (1900); 2 G. GLENN, supra note 126, at 528. The famous Allen's Case involved an aggressive creditor who manipulated the Commis-

sioners to obtain a special deal on the debtor's land, and then fought for ten years to block the Commissioners from retaking the land to distribute the proceeds of a full-value sale among all the creditors. See W. JONES, supra note 61, at 43 & n.64 (for a detailed description of this case). Allen managed to obtain some sort of judgment on the full debt even after the Commission was sued out, and it took heroic efforts by Chancery to stop him. Ironically, it took Chancery to enforce the strict and least controversial rule-that creditors could not evade the process after the Commission was sued out. Thus, the law struggled to act where the problem lay not with the debtor but simply with the partial and aggressive action of one creditor against the

others, perhaps because that is precisely not the problem that bankruptcy law conceived as its essential target.

In the revealing case of Bird v. Carrell in 1600, see id. at 42-43, a debtor named Nicholson had consigned much of his estate to a single creditor through some sort of floating lien with an after-acquired property clause. The 1571 statute seemed to leave the commissioners pow- erless when the creditor took all the debtor's assets after the debtor committed an unpublicized act of bankruptcy. Certainly until the eighteenth century, the bankruptcy law seemed as unconcerned with these maneuvers that preceded acts of bankruptcy as much as it was

impotent to deal with them. 137. The problem lay especially with the common types of recorded security interests

which the debtor technically acknowledged before he committed an act of bankruptcy, but which the secured creditor then executed later. Jones notes that the most important contract


recognized, the metaphysical subtleties of secured credit arrangements could combine with the equally metaphysical subtleties of English civil procedure to help a transaction escape the rather uncertain grasp of early preference law.138 But in any event, even where the bankruptcy law was successful in carrying out the technical mandate of Coke's dictum, it was not attacking preferences in the modern sense at all. Even if the act of bankruptcy proved a measurable, administrable point of reference, the Commissioners had little power to constrain the creditors and debtors who established some legal basis for a transfer before the act of bankruptcy. 39

mechanisms in the infancy of the common law's treatment of commercial transactions were recorded and enrolled bonds, conditional or future judgments, confessions ofjudgment, and other so-called "pocket" judgments which were often accorded the same status as court judgments. See id. at 44-45.

138. In Audley v. Halsey, 3 Car. 1 Roll 943, 4 Cro. Car. 149, 20 Eng. Rep. 731 (1629), two traders, John Hill and Alice Squire, owed Halsey a debt on some purchased goods secured by a statute staple. The debt matured, and on October 30, Halsey obtained an "extent" upon the statute, a writ ordering the sheriff to appraise the goods. The sheriff apparently executed that writ on October 31. On November 3, the debtors committed some unnamed act of bankruptcy. On November 6, Halsey obtained a liberate, a secondary writ ordering the sheriff to actually seize the goods. The other creditors did not sue out the bankruptcy commission until November 8, and the commissioners purported to sell the goods to Audley on November 23.

Audley argued that the goods lay in custodia legis, held by the King for the protection of the debtor, and hence were part of the latter's estate. But the court decided instead that the property was quasi in custodia legis, gaged or distrained as a pledge for the purportedly preferred creditor, Halsey. It rationalized the limbo status of the goods in a curious way: The conveyance to the creditor was conditional, and so the creditor had no absolute power over them- but this rule served only to benefit the creditor. That is, the levying creditor would want to retain the power to reject the valuation as excessive. So the court treated the goods in limbo as pledged to the creditor, and in a wonderful reversal of the commissioners' own power, the creditor's title under the writ of liberate "related back" to his title under the writ of extent.

139. In his (perhaps revisionist) historical treatment, Blackstone hardly thought preferential transfers of this modern sort merited discussion. He notes that French law developed an extended version of the doctrine of relation back, voiding as presumptively fraudulent any merchant transaction within ten days before the act of bankruptcy.

But with us the law stands upon a more reasonable footing: for as these acts of bankruptcy may sometimes be secret to all but a few, and it would be prejudicial to trade to carry this notion to its utmost length ... no money paid by a bankrupt to a bonafide or real creditor, in the course of trade, even after an act of bankruptcy done, shall be liable to be refunded.

2 W. BLACKSTONE, supra note 103, at 486. The goal of preference law is to capture fraud, "not to distress the fair trader," and thus a preference in the ordinary course of business was not at all illegal. As we shall see, Blackstone fairly accurately portrays the very modest preference- avoiding powers emerging during his era, and correctly notes the theme that the bankruptcy process will only intervene in that rather elusive area where a debtor pays a legitimate debt in an illegitimate way or for an illegitimate motive. But the especially interesting point in Black- stone's brief discussion is the idea that the secrecy, or indeed the perceptual elusiveness, of the act of bankruptcy is something of which a preferred creditor may be the innocent "victim," not the manipulator. The focus of ethical inquiry remains on the debtor, not the creditor, as will be true throughout English preference law. Where one might expect to find collusion between the debtor and the preferred creditor, the only moral impulse here is to blame, if anyone, the debtor.


2. The mens rea of the preference.

The courts and Parliament, as I have shown, tried to bind the concept of acts of bankruptcy in a fragile, tortured set of formal rules. 140 It would have put an even greater strain on the fragile rule-boundedness of the bankruptcy law to invent a debtor's duty before he committed the rather constructive act of bankruptcy in the first place. It is one thing to impose a duty on debtors after they commit acts of bankruptcy but before the commission is sued out. But it is another thing to engage in moral scrutiny of the debtor's mens rea before he commits what is in any event a "constructive" action.

If the key to bankruptcy law is some sort of statutory certainty, it faces a problem of infinite regress in controlling transactions outside the rules.'14 Yet something in commercial reality put a counterstrain on bankruptcy law to create just that duty. Parliament fitfully retained the concept of acts of bankruptcy as triggers to the bankruptcy process in part because its intuitive, moralistic view of bankruptcy required some imagery of bad action by the debtor, rather than just his state of insolvency. But Parliament in its ambivalence rendered these acts less visible and public, and more constructive, and so undid their legal value. Precisely because the acts of bankruptcy were technical and constructive, and so very subject to manipulation, creditors must have perceived some need to regulate collusive or fraudulent actions by debtors before they decided to officially go broke.142

Moreover, the problem English culture faced in perceiving and ap- prehending elusive forms of credit and tying them to formal rules is

140. See text accompanying notes 110-120 supra. 141. At the beginning of the eighteenth century, in his moral exhortation to debtors,

Defoe recognizes this indirectly when he urges the honest failing debtor to break early. See note 90 supra and accompanying text. Doing so not only preserves one's assets; it also triggers the bankruptcy law. Indeed, Defoe shows an interesting twist in the concept of an act of

bankruptcy. Though it may still be a willful act technically, it is a very technical legal act that the debtor can manipulate after his condition can be described in economic or normative terms as "bankrupt." In short, Defoe implicitly recognizes the lag between the rule-defined act and the condition it sought to describe.

142. Defoe, ever the capturer of the moral ambivalence of the law, recognizes the problem even under the less controversial form of preference recapture covered by Coke:

where some creditors, by . . . judgments or by other attachments of debts, goods delivered, effects made over, or any other way, have gotten some of the estate into their hands, or securities belonging to it, whereby they are in a better state, as to

payment than the rest.... DEFOE ESSAY, supra note 8, at 204. But Defoe laments:

For perhaps some Creditor honestly receiv'd in the way of Trade a large sum of money of the Debtor for goods sold him when he was sui juris; and he by consent shall own himself a bankrupt before that time, and the Statute shall reach back to

bring in an Honest Man's Estate, to help pay a Rogue's debt. Id.

One irony of the confused relationship between preferences and acts of bankruptcy is that under the somewhat vague authority of the 1603 statute, 1 Jac., ch. 15, ? 1 (1603) (making a fraudulent conveyance with the intent to defeat creditors an act of bankruptcy), the courts began to treat certain very collusive preferences as acts of bankruptcy themselves. See

Worsley v. Demattos, 31 Geo. 2, at 467, 470, 96 Eng. Rep. 1160 (K.B. 1758).

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inseparable from the moral issue. If people in commerce cannot always discern the subtle indicia of credit and insolvency, who is to blame, and who is the victim?'43 Once widespread credit combined with abstract credit instruments to create an epidemic of "invisible commerce," the question arose as to who is the exploiter and who is the victim of the invisibility. Once English law and literature began to accept the ideology and imagery of the merchant as a respectable and sympathetic figure, and indeed an important strand in national and international community, preference law might have become the means of securing the bond of intermerchant moral duty. Yet the concept of commercial interdependence seems to have remained a sentiment, and one that the law could adopt only slowly and unsystematically.'44

On the other hand, if bankruptcy law is seen chiefly as punishing or

143. This issue receives interesting treatment in the crucial case of Harman v. Fishar, 1 Cowp. 117, 98 Eng. Rep. 998 (K.B. 1774); see notes 157-166 infra and accompanying text.

144. The virtual impotence of English preference law before the era of Lord Mansfield has perplexed legal historians. Referee Hotchkiss, in his famous judicial historical review of preference law, In re Hall, 4 A.B. Rep. 671, 679 (1901), says that it was "hardly conceivable" that for a century and a half after the Jacobean statute, the modern form of the preferential transfer was not avoidable. The major historian of preference and fraudulent conveyance law, Garrard Glenn, offers one intriguing explanation of the lag between bankruptcy process generally and the legal regulation of preferences. Glenn turns us again to the Statute of Anne and the major transition it wrought in English bankruptcy law. A preferential transfer was actionable only on the theory that it was a breach of a debtor's duty to his creditors, but until he had a right of discharge the debtor had no such duty, because he received no quid pro quo for it. Moreover, a preference law was unnecessary before 1705. So long as creditors had complete discretion whether to forgive the debtor's post-bankruptcy debts, they could refuse discharge to a preferring debtor. See Glenn, supra note 4, at 529.

Glenn's explanation is helpful, but incomplete. Glenn assumes a rather abstract premise that the devisers of the bankruptcy laws either were trying to be roughly equitable to debtors, or at least wanted to avoid overly discouraging debtors from openly submitting to bankruptcy. But if anything, the problem with the pre- 1705 bankruptcy laws lay in their unfair or counterproductive punitive treatment of debtors. Nor is it clear that creditors, at least without the erratically available help of Chancery, could manage to get together to engage in some sort of systematic deterrence of pre-act of bankruptcy preferences that the Commissioners had no legal power to touch. Indeed, the instrumental arguments offered by Defoe and others, see notes 95-100 supra and accompanying text, in favor of discharge suggest that the creditors had little power over a debtor who could manipulate and delay his official act of bankruptcy until he had emptied his estate. Moreover, one must not overestimate the generosity toward debtors Parliament showed in creating the right of discharge; for almost 30 years after the original law granting discharge, Parliament erratically tinkered with it, setting harsh limits on the right of discharge and granting creditors some power to block discharge. See Duffy, supra note 69, at 286-88.

Glenn also fails to apprehend the place of the preference in the broader cultural context of English bankruptcy law, with its morally ambivalent view of trade and credit. And he does not address the moral and economic assumptions of the oddly asymmetrical scheme of remedies for a preference under English law: The debtor may be punished by suffering a denial of discharge, see WILLIAMS ON BANKRUPTCY, supra note 135, at 123, 131-32; 5 Anne, ch. 22, ? 2 (1706), while the preferred creditor only makes restitution of the transferred payment.

Glenn also seems to argue that once debtors had a right to discharge, they would face no disincentive to preferring creditors unless the law forbade them. That argument oddly assumes that debtors, rather than creditors, have a very strong economic interest in engaging in preferential transactions. That is an empirical or psychological speculation, but Glenn simply assumes the English posture of blaming the problem of preferences on the debtor, not the preferred creditor, without examining that posture.


regulating the debtor's behavior, it is not intuitively clear why a preferring debtor has violated the norm. A preferring debtor hurts some creditors individually, but does not necessarily hurt creditors in the aggregate. So to "blame" him for a preference, which is exactly what the still morally-bound English law did, is to assume an established principle of intercreditor equity based on some moral theory of a duty of a debtor to the general class of his creditors, or some economic theory that, moral concerns aside, preferences encourage wasteful extensions of credit or cause an inefficient dismemberment of the estate.

Of course, Coke at least vaguely implied these principles in The Case of Bankrupts, but they took hold only partially, given the paradoxical view of the merchant in seventeenth century England. Even as the bankruptcy law had by then accommodated the image of the debtor as the victim of a commercial crisis rather than an absconding criminal, it took even longer to treat the preferential transfer as simply an arithmetically unfair distribution of assets, or at least as a violation of some relatively abstract duty of debtor to the creditor class.

As Lord Mansfield ultimately developed the idea, the debtor commits a preferential transfer before he commits an act of bankruptcy only if he exhibits a very strange sort of moral will. If the creditor puts great pressure on the debtor, the transfer does not meet that test. Rather, it is only a preferential transfer when, in effect, the debtor tries to create his own scheme of distribution. The sin of the debtor to violate a norm of commercial fellowship is captured in the idea of ratable distribution, an idea intimated in Defoe's vision of a utopian commercial fellow- ship145 and in Blackstone's view of the community of noble, dependent merchants.'46 Yet the obligation of loyalty to this commercial fellowship remains in the debtor, not the creditor. The creditor may hold on to the preference where he puts pressure on the debtor, as if he is not fully responsible to the commercial fellowship, but the debtor is. And of course, the only sanction for a technically preferred creditor was loss of the payment, while the debtor could suffer the true punishment of denial of discharge. Lord Mansfield thereby sets in motion a historical confusion about states of mind in preference law which later vexes American bankruptcy law.

Worsely v. DeMattos,147 in 1758, the first Mansfield case to explicitly address the legality of a preferential transfer in the modern sense, sets the moral form of early bankruptcy law in its two aspects: Though it is hard to imagine any illegality in merely paying off a bona fide debt, a

preference is void where it reflects some deliberate effort by the debtor to undo the concept of political and economic community imagined by modern bankruptcy law.148 Slader, the bankrupt, had delivered almost

145. See notes 90-94 supra and accompanying text. 146. See notes 102-103 supra and accompanying text. 147. 31 Geo. 2 at 467, 96 Eng. Rep. 1160 (K.B. 1758). 148. As Lord Mansfield says at the end of the case: "The policy of the bankrupt law

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all his land and personalty to Demattos in a sort of bulk sale, but stayed in possession and then committed a deliberate act of bankruptcy.'49 Interestingly, the lawyer for Slader argued that the statute should be construed in his favor under the rule of lenity, since this was still nominally a criminal statute. But Lord Mansfield subtly recast the argument that preference law involves moral scrutiny of the debtor's conduct. The debtor may have anticipated he was going broke and intended to skew the distribution rules in favor of one creditor. Indeed, he may have hastened his commercial demise by paying all precipitously to one creditor.

"But if a bankrupt may, just before he orders himself to be denied, convey all, to pay the debts offavourites; the worst and most dangerous priority would prevail, depending merely upon the unjust or corrupt partiality of the bankrupt."'50 Though the debtor and creditor argued the commercial necessity of this sort of transfer, Mansfield stressed the theme that "credit" is reputational. A trader's credit depends on "visible commerce." Slader had drawn other creditors in on false appear- ances-he had "imposed on mankind."'51 Mansfield thus invokes the negative imagery of trade from the century before, the imagery revived in the eighteenth century when Quesnay spoke of the "scattered and secret securities, a few warehouses, and passive and active debts, whose true owners are to some extent unknown, since no one knows which of them are paid and which of them are owing."152

The original evil merchant character punished by the bankruptcy laws was the trader who was invisible in the most concrete sense-who was invisible in the marketplace because he had absconded from Eng- lish society, or had secreted himself with his goods in his house or in a sanctuary. Now that "invisibility" takes more abstract, constructive shape in the form of complex security interests, Mansfield intuits that the debtor may manipulate invisible property while the general creditors haplessly await a tangible store of assets.153

introduced by 21 Jac. 1, ch. 10, and followed ever since, is to level all creditors, who have not actually recovered satisfaction, or got hold of a pledge which the bankrupt could not defeat." 31 Geo. 2 at 483.

149. The problem for the other creditors of Slader was that Slader really was paying off a debt, so there was no fraudulent conveyance here. The lawyer for the creditors even argued that the deed itself was fraudulent enough to be an act of bankruptcy, hoping to bring the case within the established relation-back doctrine. That argument says something about the tem- poral elusiveness of the preference concept. Id. at 470.

150. Id. at 478. 151. Id. at 483. 152. See note 49 supra and accompanying text. 153. Iord Mansfield acknowledges that if we look for moral culpability in an act that

constitutes, on its face, the morally unobjectionable payment of a legitimate debt, we face serious doctrinal problems. The problems of illusion and reality created by invisible commerce create mens rea issues that bear an interesting analogy to the later difficulties the common law of crimes faced with inchoate attempts. Here, I,ord Mansfield finds that the late delivery of the deed and other suspicious signs of consultation between debtor and creditor prove the debtor had an illicit motive, especially where Slader had no other reason for the

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3. The complex ethics of the preference.

The themes Lord Mansfield introduces in the Worsley opinion illuminate all of English preference law. Ten years later, in Alderson v. Tem- ple,154 he defined the mens rea of a preferential transfer more explicitly. A payment on a debt is a preference only when it lies outside the normal course of trade: It is still a fraudulent preference. But Mansfield defines the fraudulent intent in a somewhat circular fashion: The debtor must "intend to give a preference."'55 Thus begins the concept of mens rea with respect to preferences, but it is a very curious mens rea. Most obviously, it focuses on the state of mind of the debtor and "punishes" the debtor who volitionally sets himself up as a private arbiter of the creditor's class. The focus on the debtor's state of mind might, of course, be an indirect way of getting at creditor misbehavior. But Mansfield seems curiously hesitant to recognize any intercreditor moral responsibility. Indeed, quite the opposite: His doctrine rewards the nasty creditor who put pressure on the debtor, because then the transfer would not be a preference. A creditor who imposes duress on a debtor to pay a preferred debt wins the payment out of the estate- and that may be the really important incident of the preference doctrine.'56 Alderson seems to give later courts a vague moral mandate to

police debtor payments for intuited signs of collusion or departure from an intuited sense of trade practice.

Harman v. Fishar,157 in 1774, gave a more colorful sense of the commercial and moral issues: Fishar was a creditor who got paid just before the debtor absconded. The debtor is nicely described as having "set up all night settling his books and affairs in contemplation of ab-

sconding." When the debtor sent notes to pay the debt, he gave his

agent an explicit message to the preferred creditor: that he (the debtor) "has the honour to shew him that preference which he conceives is

certainly his due."'58 The debtor, of course, absconded to the Conti- nent. According to the court, the payment was certainly "voluntary,"

delivery, since no default had occurred to give DeMattos a new reason to grab assets. 31 Geo.

2, at 484. For a general discussion of this theme of "ostensible ownership" in the law of secured transactions, see Baird &Jackson, Possession and Ownership: An Examination of the Scope of Article 9, 35 STAN. L. REV. 175 (1983).

154. 96 Eng. Rep. 384 (K.B. 1768). 155. "If [the creditor] demands it first, or sues [the debtor], or threatens him, without

fraud, the preference is good. But where it is manifestly to defeat the law, it is bad." Id. at

385. 156. Lord Mansfield adds: [I]f a bankrupt, in a course of payment pays a creditor, this is a fair advantage in the course of trade; or, if a creditor threatens legal diligence, and there is no collusion; or begins to sue a debtor; and he makes an assignment of part of his goods; it is a fair

transaction, and what a man might do without having any bankruptcy in view.... if done in the course of trade, and not fraudulent may be supported.

Id. 157. 1 Cowp. 117, 98 Eng. Rep. 998 (K.B. 1774). 158. Id. at 118 (emphasis in original).

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not the result of pressure,159 thus making the ethics of this apparently unilateral act the issue.

Lord Mansfield accepts Fishar's generous characterization of the payment as a sort of testamentary act of a debtor about to commercially die. But Mansfield must then invoke the standard trope of the emerging preference law to denounce the transfer: It is "a fraud upon the whole system of the laws concerning bankrupts."160 Or, as the winning lawyer says, upon the "general spirit of the bankrupt laws."'16

Yet the debtor's lawyers, Dunning and Alleyne, deserve an important footnote in the history of bankruptcy law. They offer a wonderful opposite moral argument about preferences: In some situations, preferences are not only morally permissible but required-

[T]here may be a just reason for a sinking trader to give a preference to one creditor before another; to one that has been a faithful friend, and for ajust debt lent to him in extremity; when the rest of his debts might be due from him as a dealer in trade, wherein his creditors may have been gainers: whereas the other may not only be ajust debt, but all that such creditor has in the world to subsist upon: in this case, and so circumstanced, the trader honestly may, nay ought to give a preference.162

This argument ironically inverts the moral presumptions of the emerging, robustly realistic English commercial law. A debt out of the ordinary course may be worthier than one in the ordinary course, where the debtor can demonstrate some noble justifying goal that makes the preferred creditor worthy for reasons independent of the assumed worthiness of the common merchant. The debtor's personal loyalty to a particular creditor outweighs any abstract loyalty to the general class of his creditors.

Dunning and Alleyne's argument, moreover, suggests an interesting moral criterion that bankruptcy law could have adopted, but has never adopted, at least in any general sense: that the legality of a preference depends on the worthiness of the preferred debt.163 The debtor here was arguing that he could be the arbiter of the relative moral value of debts. If this hypothetical rule seems fanciful in a scheme of economic regulation, we can forgive the lawyers for thinking they were actually adhering to Lord Mansfield's preference principles. Though this hypothetical rule seems impractical because it requires courts to make ad hoc moral judgments, Mansfield's commitment to a mens rea test for preferential transfers suffers from the same weakness. In fact, Dunning

159. The creditor apparently did not even know about the payment, since the notes and the message of honored preference were delivered among agents. Id.

160. Id. at 120. 161. Id. at 119. 162. Id. at 121. The argument is actually quoted from an earlier fraudulent conveyance

case, Small v. Oudley, 2 P. Wms. 427 (1727). 163. Of course, the modern bankruptcy law does do some ranking, though according to

supposedly objective rules. See notes 481-494 infra and accompanying text.

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and Alleyne merit historical note because they nicely snare Mansfield in the rules-standards dilemma.

Though Lord Mansfield, ironically, invites treatment of the preference under a broad moral norm, he retreats to the purported rule- boundedness of the bankruptcy scheme of distribution and the assumed implicit rules of ordinary course trade to govern these transactions. Lord Mansfield is then forced to acknowledge that his effort at

rule-making begins to look like arbitrary formalism. If he wants to treat the debtor here as a fraud, he must define fraud not as against a creditor or any specific creditors, but as against a legal system that is supposedly the image of a morally bound community.164

The notable lawyers in Harman also raised the timing question: It has been insisted that no inconvenience can arise if the line were to be drawn at the beginning of an insolvency. That is not so; for then all the creditors subsequent to the time when the court determines that the line of distribution should be drawn, must be involved in the wreck. The contemplation of becoming bankrupt, is equally difficult to ascertain: but neither the point of insolvency nor the resolution to become

bankrupt is the period of bankruptcy; nor can the contemplation of

bankruptcy be the true line to be drawn: for each is so indefinite and uncertain, that the rule in either case would tend to endless

litigation.165 The uniquely elusive nature of commercial capital makes victims of debtors and creditors if they must be able to discern something so

amorphous as the moment of the debtor's insolvency. The 1746 statute had resolved a similar but somewhat easier problem: It had protected a good faith creditor who took payment from a debtor after the

debtor committed a secret act of bankruptcy. But Parliament had left unresolved the even greater difficulty a creditor faces in telling when a debtor has fallen to the brink of bankruptcy before he has technically committed an act of bankruptcy. If the bankruptcy creates moral duties

upon the moment of insolvency, the victim of the invisibility of capital may be the innocent creditor who takes a payment not realizing the

debtor was already under the mandate of ratable distribution.

By explicitly tying the perceptual to the moral issues that impale the

law on the rules versus standards dilemma, Dunning and Alleyne thus

exposed the problems that then vexed preference law for two centuries. As the liberal ideology of the eighteenth century struggled to develop a

theory of individual unitary property rights, bankruptcy struggled with the question of when, along a vaguely bounded continuum, the wealth

164. Iord Mansfield even acknowledges that the creditor was a honest fellow who had

done the debtor a "great act of friendship," and says he is sorry to rule as he does. IHarmnl, 1

Cowp. at 122. But ironically, this transfer must fail precisely because the debtor was not

acting under creditor pressure to save his neck. Rather, it is the raw willfilness of the payment that undoes it: The payment is a deviant act of a morally independent merchant pre-

tending to be a bankruptcy law unto himself. Id. at 123. 165. Id. at 121-22.

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of the debtor ceased to be his and began, in some abstract sense, to be the wealth of his creditors. The emerging complexity of preference law in England, and even more so in the United States, may reflect the breakdown of a unitary principle of property rights, a breakdown associated with the growth of large, complex, capitalist institutions.166

Preference law always invites an infinite regress from any legally measurable point of bankruptcy-whether the state's formal declaration of the debtor's insolvency or the debtor's own declaration in his act of bankruptcy-precisely because neither the economic moment (when a man is actually insolvent) nor the moral moment (when a debtor might fall prey to the antisocial tendencies of the dying merchant described in Defoe's exhortations) captures its target precisely. The morally equivocal act of paying a debt that, in retrospect, seems to violate a scheme of rules, must be examined for indicia of moral culpability, and hence to questions of illusion and reality.167

4. English preference law after Mansfield.

English bankruptcy law contained only this common law definition of preference for decades after Mansfield, and the definition invited the most exquisite moral and psychological metaphysics from the courts. Perhaps the most revealing case is Fidgeon v. Sharpe in 1814, which reveals the Mansfield doctrine as a complex moral norm rooted in a cultural ambivalence about merchant behavior.168 The debtors, Becher and Barker, were cotton brokers who bought in England and sold in Russia. They bought supplies from an English seller on October 8, 1812, but when military and political events appeared to end their business in Russia, they sensed that they would not be able to meet their obligations, and they returned the goods to that seller-creditor. On October 19, their general creditors tried to force them into bankruptcy. Becher and Barker resisted because they thought they were still worth almost twenty-thousand pounds, but all that capital was tied up in goods in Russia that they might not recover.169

The general creditors argued that the debtors automatically invoked the preference law when they returned the goods knowing they were on the brink of insolvency. The debtors, on the other hand, argued that they had evaded preference liability because they sincerely had hoped they would not go bankrupt-that they in fact had intended to resist

166. See Grey, The Disintegration of Property, 22 NOMOS 69 (1980); Donahue, The Future of the Concept of Property as Predictedfrom Its Past, 22 NoMos 28 (1980).

167. This criminal law approach to preference law is apparent in Thompson v. Freeman, 1 T.R. 155, 99 Eng. Rep. 1026 (K.B. 1786). Thompson, for no articulated economic reason- Lord Mansfield provided none in the earlier cases-excused a preferring payment on what can only be described as a mistake of fact that negates the required mens rea: the debtor feared (incorrectly, but reasonably, one supposes) that a creditor threatening execution of a capias writ against his body was really serious.

168. 5 Taunt. 539, 128 Eng. Rep. 800 (1814). 169. Id. at 800-01.

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bankruptcy, whatever their technical state of insolvency. Thus, the debtors were suggesting that preference doctrine is a moral norm, not a technical rule. To resolve the issue, the court in effect has to resort to a criminal-law style analysis in which it must decide whether "bankruptcy" or "insolvency" is the objective element of the crime of preference-giving and whether "contemplation" is a mens rea of purpose or knowledge, or perhaps of mere recklessness or negligence.170 Underly- ing these doctrinal questions was a fundamental moral one: If a preference is to be in some sense "fraudulent," did these debtors commit a preference when they honestly returned goods because they thought it was the commercially responsible thing to do? Did it make a difference that, having used the goods, they did not pay back the debt in money, but rather retained the goods because they could not put them to their intended use?

The jury found that the debtor had not acted "in contemplation of

bankruptcy,"'17 though it is not clear whether the jurors had any notion of what those terms meant or simply had made a normative decision that this debtor was a fundamentally honest person. The

arguments on appeal are a perfect study in the rules versus standards dilemma, invoking both the procedural and substantive aspects of the issue. In particular, the losing lawyer for the general creditors illuminates the normative choice made by English bankruptcy law by precisely articulating the modern, amoral view of preference law which the

English courts firmly and finally reject in this case. The lawyer for the general creditors argued against any subtle, sub-

jective moral scrutiny of the debtor's state of mind, even if the debtor showed "the nicest sense of moral duty." He argued for a fixed, automatic duty of a debtor facing possible bankruptcy to act solely for the benefit of the general creditors. Even if the debtor hopes he faces no more than a temporary suspension of trade, he necessarily "contem-

plates bankruptcy." Thus, preference law demands that he serve as his own temporary bankruptcy trustee, placing a preliminary injunction on himself not to favor any creditors. He need not subjectively anticipate bankruptcy; he need only realize "one of the consequences which tem-

perate and dispassionate persons of superior judgment might anticipate."172

170. Id. at 802-03. 171. Id. at 801. 172. Id. at 801. The debtors had urged the creditors that they had "no doubt whatever

of being able to make good our payments, if the creditors would give us time." Id. at 802.

But "contemplation of bankruptcy" can be something short of a "fixed determination to com-

mit an act of bankruptcy," especially since, as the doctrine of "act of bankruptcy" has evolved, it can take the wholly constructive form of falling deeply into long-term debt. Id. at 801.

Ironically, the argument runs that a debtor can passively or inadvertently "contemplate bank-

ruptcy" precisely because he may have no control over the trigger-if the act is constructive, so can be the contemplation.

If he contemplates ["adverts" to the possibility] that with their indulgence he can pay all, he therefore necessarily also contemplates the other alternative, that if they re-

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The court rejected this argument by the general creditors and found no preference. It thereby sealed English preference law in its Mans- fieldian form. It reverted to the rhetoric that the debtor must intend a fraud on the bankruptcy laws. And, once again, the moral question incorporated the themes of reality and illusion in the world of credit and identified the most deserving commercial characters as those who are most subject to loss because of the invisibility of commercial transactions. A more objective test of preference "would place all the commercial world in greater difficulty to investigate the rule of action, and would rescind even more payments than hitherto has been the consequence of the doctrine that has been followed."'73 But the problem is the circularity of the concept of bankruptcy that English law created when it changed acts of bankruptcy from willful criminal acts to passive indicia of morally sympathetic economic distress.

The post-1813 insolvency laws contained a definition of preference that legislated a specific rule on the time zone of debtor moral duty. 74 In search of some rule, the courts adapted this definition to bankruptcy cases, except that they added the moral theme that the "sole moving cause" of the transfer had to be the debtor's intent to go bankrupt.'75 Then, in 1861, the trader rule finally disappeared from bankruptcy law. The insolvency laws thereby lost their independent purpose, and the modern preference definition entered the bankruptcy statute: a payment by a person unable to pay his debts when due with a view to giving such creditor a preference over others if a bankruptcy adjudication followed within three months.176 English law, however, hardly diverged from Mansfield's decision to focus solely on the state of mind of the debtor.177 The English courts were soon back on their metaphysi-

fuse that indulgence, he, being without funds in England, must become a bankrupt, either by some voluntary act of his own, or in consequence of their arresting him.

Id. at 802. In addition, the depth and cause of insolvency, and questions of the individualized moral worth of debt and credit, are irrelevant.

173. Id. at 803. 174. A preference was a voluntary transfer by an insolvent who intended to seek a dis-

charge from prison, within four months of the beginning of his imprisonment. See 5 Geo. 4, ch. 61 (1824); 7 Geo. 4, ch. 92 (1826).

175. See In re Hall, 4 Bankr. 671, 681 (W.D.N.Y. 1900). The interrelation of the laws is curious: For decades, the insolvency law, like a legislative act of Chancery, had softened the purported rule-boundedness of the bankruptcy law's trader rule, which denied poor nonmerchant debtors any bankruptcy relief. Yet it was the insolvency laws that provided an arithmetic definition of the moral danger zone of insolvency.

176. See Bankruptcy Act of 1868, 32 & 33 Vict., ch. 71, ? 92. For a comprehensive study of the political and economic relationship between bankruptcy and insolvency laws in nineteenth century England, see I. DUFFY, BANKRUPTCY & INSOLVENCY IN LONDON DURING THE INDUSTRIAL REVOLUTION (1985).

177. The only moment of divergence came with Butcher v. Stead, 9 L.R.-Ch. App. 595 (1874), which over-interpreted the bona fide creditor immunity clause derived from the original 1746 statute. See note 133 supra and accompanying text. After Parliament codified the preference doctrine and measured the preference period according to a fixed time from the petition, rather than from any act of bankruptcy, it left unclear whether the bona fide creditor clause could immunize otherwise preferential payments where the preferred creditor could claim reasonable ignorance of the debtor's imminent bankruptcy. Butcher reads the bona fide

53


cal track, examining alleged preferences according to the subtle mens rea principles inspired by Mansfield.'78 And a whole new century of

creditor rule just that way, as if to import the emerging American rule: The debtor's state of mind becomes a necessary but insufficient condition for avoidance. But, as if to prevent courts from opening up normative questions of creditor behavior, Parliament neatly overruled the case in 1883 and restored the common law rule. The savings clause was left to serve the much narrower purpose of protecting bona fide purchasers from the preferred creditor. See WILLIAMS ON BANKRUPTCY, supra note 135, at 347.

178. In Ex parte Taylor, 18 Q.B. Div'l Ct. 295 (1886), the court acknowledged that if the issue is the motive with which a debtor performed the facially neutral act of paying a creditor, then the jury has a complex task. Taylor posed perhaps the subtlest case for applying Lord Mansfield's mens rea test. The facts suggested that the debtor paid the favored creditor not

exactly out of an aggressive desire to set up his own scheme of distribution, nor to prefer the creditor in any normative sense, nor in response to a firm threat of legal process by the creditor. Rather, the debtor had acted out of a vaguely intuitive fear of public infamy if he did not

pay. Here was the jury's instruction: You have to perform the metaphysical operation of finding out what a man's intent was, surely then you ought not to throw away all the tests which have been adopted by great and careful judges for the purpose of doing this .... You must take into account the man's own kind, and see whether, if he has done a very wicked and abominable thing, he may not afterwards have been doing that which, if he had a

scrap of conscience left, he ought to have done-repair his former evil deed. If you can come to the conclusion that that was the dominant motive in his mind, you must hold that he made the payment, not with a view of preferring the person to whom he made the debt, but in order to satisfy his own conscience.

Id. at 300. In Sharp v. Jackson, 1899 A.C. 419, 68 LJ.Q.B. 866 (1899), the court faced the problem

of divergent jury behavior under the criminal model of preference law. Though the jury, perplexed by these metaphysics, might invoke some sort of overly objective test of mens rea to avoid the amorphous, undefined question of intent to prefer: It must be instructed to look to what the debtor really intended, not just to "the natural and probable consequences" of the act of paying a creditor on the eve of bankruptcy.

In Ramsay v. Deacon, 2 K.B. 80 (1913), the morality play of English preference law turns to comic opera. We see the hapless complexity into which the doctrine falls when the court tries to identify the key element of the debtor's wrongful volition in a rather typical instance of debtor-creditor negotiation where individual human volitions blur. Ramsay, an insolvent manufacturer, asked a creditor-supplier for a renewal. He knew he was broke and had been

frantically trying to stave off other creditors. The debtor had a number of other favored credi-

tors, so the trustee sought admission of these facts, as if by analogy to the pattern of "other crimes" evidence. But the court had to recur to the raw question of the debtor's voluntary intent to prefer. The court admits the evidence conditionally: The debtor had frantically engaged in transactions with other creditors, asking for extensions, returning some goods, borrowing on his wife's property and guarantee, and selling stock (some unpaid for) to cancel the loan. Id. at 84-87. When they met, the creditor did not threaten legal proceedings, but insisted that unless Ramsay offered a substantial payment or return, he would make it "hot" for him. The debtor arranged for return and payment, and the creditor picked up the goods himself. Ramsay then went bankrupt.

The trustee had concluded that the return was voluntary, not the result of pressure, so the mens rea question came down to this: As long as the debtor could negotiate, he showed he was legally subject to the "pressure" that would defeat the preference claim. The court

posits a rather elusive distinction in considering Ramsay's possible motives: He was either

trying to protect himself from the creditor's threatened legal action-which would not be a

preference-or he was "trying to gain an advantage"-which would be a preference. The question in Ramsay revolved around the most exquisitely formalistic analysis of a

morally equivocal moment: At the precise moment when the transfer occurred, which creditor had supplied the decisive pressure? Since Ramsay had been negotiating with all his credi-

tors, it was just a fortuity, not a "willful" preference, for him to pay this particular creditor, the one who had the good luck to bring home to Ramsay most forcefully at the right moment

just how bad his situation was. But the court finds it important that Ramsay himself had taken


English preference law can be summarized in the statement that it continues to treat the debtor's culpable mental state as the decisive is- sue179-a case of arrested doctrinal development in comparison to the tortuous modern history of the preference in the United States.

III. THE DEVELOPMENT OF AMERICAN PREFERENCE LAW: THE NINETEENTH CENTURY

A. The New American Commercial Ideology

1. Ideology and the needfor a bankruptcy law.

The early American ideologists of commerce inherited the British ambivalence about the ethics, ontology, and politics of credit. But probably the major intellectual strategy of American and European writers who played a role in American ideology was to invert the moral and perceptual elusiveness of credit that characterized much of the earlier British thinking. The emerging bourgeois ideology conceded that commerce was an expression of self-interest, but argued that though self-interest might seem a vice in private, it could become a public virtue in the aggregate.180 The ideology of the commercial republic was that the older heroic virtues, rooted in allegiance to land, king, and church, were indeed "unreal" because they located moral reality in abstract symbols, faiths, and fantasies.18l Indeed, the commercial ideologues thought the older version of public virtue dangerous because it encouraged men to fanatical physical violence in the pursuit of intangi-

the initiative in the meeting and had wanted to stop the onward pursuit of the wolves, and the creditor hardly had to press him further. Moreover, the court finds that Ramsay was moti- vated not exactly to avoid legal action on the debt, but rather to avoid the infamy in the market that legal action might bring. Id. at 86-87.

This odd view of volition seems to look back all the way to the eighteenth century ideology and the image of the helpless trader as one deserving bankruptcy protection. The merchant's fragile and sympathetic condition rests on a complex form of invisibility: His assets are intangible because they consist wholly of elusive and unreachable credit and yet, for the same reason, they depend on sheer commercial reputation. Here the only new creditor threat was that of exposing the merchant to further reputational infamy, not legal action. The creditor's threat not to supply more goods was irrelevant, since the debtor was giving up the goods anyway. The court supplies a useful epigraph for this interpretive history of English preference law, holding that Ramsay's wrongful motive was simply to "diminish the sort of moral threat against his commercial honour which men do not like." Id. at 87.

179. See, e.g., In re Cutts, 1 W.L.R. 728, 733-34 (C.A. 1956) (burden on party alleging preference to prove debtor's "requisite state of mind, his intention" to prefer); 1n re Wroe, 205 E.G. 1103, D.C. (1968) (absent evidence of any other intention, debtor's intention to prefer a payee-creditor can be inferred from suspicious surrounding circumstances); In re Al- len Fairhead & Sons, Ltd., 115 Sol. J. 244 (1971) (unreality of alleged pressure by director- creditors of bankrupt company supports finding of intent to prefer).

180. See Lerner, Commerce and Character. The Anglo-A merican as .Vew-Model Man, 36 WM. & MARY Q. 3 (1979); see also J. CROWLEY, THIS SHEBA, SELF: THE CONCEPTUALIZATION OF ECO- NOMIC LIFE IN EIGHTEENTH-CENTURY AMERICA (1974); L. DUMONT, FROM MANDEVILLE TO MARX: THE GENESIS AND TRIUMPH OF ECONOMIC IDEOLOGY (1977).

181. Lerner, supra note 180, at 5-7.


ble goals.182 The commercial republic created a more solid, if duller, form of public virtue rooted in private interest. Men pursuing raw economic self-interest achieved benign peace, if not grandiloquent hero- ism. They were reliable and predictable because the objects of their self-interest, utility and pleasure, were "real."'83 The old feudal ties were gone, and the linkage of men now lay in the interdependence of a credit economy. 84

The commercial man sought temperance, industry, and frugality.185 He reflects Tocqueville's "standards of prudent and conscious medioc-

rity."'86 It was the trader mentality that could properly assess the real and reliable value of things. The ideology leveled all social character

types into a world of burghers where private preoccupations and quiet virtues became the core of a new system of honor. The new commercial man, above all, would fall into line naturally and could be trusted not to aspire to be a law unto himself.'87 This man did not live without risk and adventure, but it was risk inherent in economic reality, and it

supplied the energy for economic progress rather than threatened the social order in the name of abstract ideals.'88

The ideologists of trade recognized that new commercial order

might entail the sacrifice of beauty and nobility,189 that commerce

might infect "the souls of men" and might "sink[] the man into a machine,"190 or diminish the "feast of reason and the flow of soul."'19 But the resulting benefit was a kind of universal brotherhood of physical need and vulnerability. The condition of contingency that the Eng-

182. Id. at 7, 11-12; see D. HUME, ESSAYS MORAL, POLITICAL AND LITERARY 347-48, 405, 484-85 (1963).

183. Hence the new man of Franklin, Smith, Benjamin Rush, and Tocqueville, the famil-

iar character type of the American bourgeois, is a special rationalization of the troubled char-

acter type of the English merchant. The old order of virtue supposedly rooted in land, and

hence reality, is seen as rooted in fantastic intangibles. Thus Montesquieu noted:

"[I]maginary needs are what the passions and foibles of those who govern ask for: the charm

of an extraordinary project, the sick desire for a vain glory, and a certain impotence of mind

against fantasies." 3 THE SPIRIT OF THE LAWS 7 (T. Nugent trans. 1900) (orig. publ. 1748). The commercial ideology denounced the past as Sparta, rather than glorify it as Athens. Her-

oism was vanity and rashness. The sane economic man might fight over interest or family, but

never over faith or principle. Lerner, supra note 180, at 12. 184. See Pocock, Virtue and Commerce in the Eighteenth Century, 3J. INTERDISCIPLINARY HIST.

119, 132-33 (1972). 185. A. SMITH, THE THEORY OF MORAL SENTIMENTS 350-53 (1976). 186. A. DE TOCQUEVIILE, DEMOCRACY IN AMERICA 45-46, 372, 433-34, 591 (.P. Mayer &

M. Lerner ed. 1966). 187. See Lerner, supra note 180, at 13. 188. Id. at 8-9. For Hume, the happy sovereign was the one who accommodated "the

common bent of mankind, and [gave] it all the improvements of which it is susceptible. Now,

according to the most natural course of things, industry, and arts, and trade, increase the

power of the sovereign, as well as the happiness of the subjects." D. HUME, supra note 182, at

262-69. 189. A. SMITH, LECTURES ON JUSTICE, POLICE, REVENUE AND ARMS 259 (E. Cannan ed.

1896). 190. 1 LETTERS OF BENJAMIN RUSI- 85, 285 (L.H. Butterfield ed. 1951) (orig. publ. 1782).

191. Id. at 85 (quoting A. POPE, 2 IMITATIONS OF HORACE: SATIRES sat. 1, line 127).

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lish commercial ideology attributed to merchants became, in the inversion that came to dominate American thinking, truly a universal condition, so the merchant became the model for all modern citizens. Thus the new ideology in America, in a sense, saw the domestic sphere according to the image the English ideology had developed for international relations: Commerce blurred national as well as international lines, since all people could belong to the general category of buyers and sellers, and commerce was chiefly a traffic in "movables" that are untied to land and nation.'92 The ideology assumed that men's mutual sense of vulnerability would drive them to cooperative behavior; merchants saw themselves as mirrors of each other's selfishness. The ideology rationalized away fears of commercial warfare among nations, as well as the danger that commercial people would isolate themselves in private spheres. 193

The new commercial ideology had essentially three intellectual bar- riers to overcome. The first was the charge that American commerce would, like British commerce, corrupt political life. The response here was aggressive: American commercial republicanism would be different. The American revolution would be a revolution in the culture of trade, replacing the corrupt mercantilist habits of England with free, natural, commercial vigor. 94

The second barrier lay in the special role that land came to play as a political and moral symbol in America. The English ideology roughly opposed merchant capital and culture to land-based capital and culture,

192. A. SMITH, AN INQUIRY INTO THE NATURE AND CAUSES OF THE WEALTH OF NATIONS 412, 800 (E. Cannan ed. 1937) (orig. publ. 1776); see Lerner, supra note 180, at 10-11.

193. Priestley on commerce as peacekeeper: By commerce we enlarge our acquaintance with the terraqueous globe and its in- habitants, which tends greatly to expand the mind, and to cure us of many hurtful prejudices, which we unavoidably contract in a confined situation at home. The exercise of commerce brings us into closer and more extensive connexions with our own species, which must, upon the whole, have a favourable influence upon benevo- lence; and no person can taste the sweets of commerce, which absolutely depends upon a free and undisturbed intercourse of different and remote nations, but must grow fond of peace, in which alone the advantages he enjoys can be had.

J. PRIESTLEY, LECTURES ON HISTORY AND GENERAL POLICY 327-28 (1788), quoted in D. McCoY, THE ELUSIVE REPUBLIC: POLITICAL ECONOMY INJEFFERSONIAN AMERICA 87 (1980).

194. D. McCoY, supra note 193, at 76. Indeed, the very cause of British mercantile corruption was the set of artificial political restraints on trade, which in its unrestrained American form would necessarily achieve public virtue, replacing idleness with industry, and making trade a noble calling.

This version of the Protestant ethic assumed that men had to be induced to produce commodities far in surplus of their needs, lest idleness lead to moral sloth. Id. at 78-83. This would be the result if farms predominated over agriculture with domestic consumption as the only goal. If America was not ready for specialized manufacture, it at least had to produce large agricultural surpluses for foreign markets.

The robust optimism of the commercial republicans met difficulty around the time of the Revolution. Treaties for free trade failed to prevent the United States from suffering terrible trade losses before 1793. And, ironically, part of the trade deficit was due to America's vain consumption of European luxury goods. Thus, the new mercantile ideology faced the criticism that it could not overcome the tendency of a credit-based society toward corruption. Id. at 90-95.


and tried to create a model of the merchant citizen whose private interest might mirror a larger public interest. But one of the American ad- aptations of Augustan cultural theories looked to land ownership as the basis of virtue and stability. Thus, commercial republicanism faced a competing Protestant ethic-the view that the landed man had the leisure and autonomy, and the anchor in reality, to pursue public virtue. What Pocock calls the "country" ideology had the advantage over the commercial ideology that land was an attractive symbol of reality, and thus a better basis for public virtue than the contingent and corruptible forms of mercantile wealth and credit.195 Some ideologists of commerce tried to accommodate the emerging figure of the merchant gentleman into this model, but the country ideology, in its effort to denounce the stockjobber and speculator, remains in sharp contrast to the commercial republican vision. In particular, the country ideology assumes that public virtue depends on the individual, conscious public interest of the citizens, not on a rather blind aggregation of individual economic interests.196

The country ideology is in a sense the right-wing, conservative mirror of the third major barrier to the commercial ideology-the Jackso- nian opposition to banking interests. If the commercial ideology portrays credit as a healthful, robust force in a modern, rationalized society, the Jacksonian position is, in a sense, an American atavism of the murkiest moral suspicions about the credit culture from the earliest days of English bankruptcy law.197 In theJacksonian view, the good are the farmers, mechanics, and others who actually earn their property.198 The less worthy are the promotional, financial, and commercial people. The enemies are money power, paper money, and credit, which induce uncertainty and speculation. The National Bank thus becomes the focus of theJacksonian moral campaign, and it is always expressly a moral

195. See Pocock, supra note 184, at 120-29. The land-rooted gentleman of the country had the leisure and autonomy to directly practice the arts of public citizenship and could defend against the corruption and patronage that the Americans decried in the England of Charles II, with its professional army and massive public debt. The country citizen was a

patrician of Renaissance humanism, whose public virtue was ensured by his economic secur-

ity, but was independent of his economic interest. 196. Id. at 128-30. When America began to fare better in trade in the 1790s, as the

European wars fueled an increase in demand for resources and created a great boom in ex-

port profits, the debate over virtue and commerce only intensified. The booming yet precari- ous success of American trade illuminated the virtues and vices of a credit, trade-based

economy. Some celebrated the triumph of American popular government, free of mercantilist restrictions, and the new active, public-spirited American character, a republican order that

produced a system of mutual dependencies in prosperity. D. McCoy, supra note 193, at 169

(quoting T. TUCKER, AN ORATION GIVEN IN ST. MICHAEL'S CHURCH 14 (1795)). Some feared that European democratic revolutions would eventually decrease American foreign markets and thereby force the United States to enter diversified manufacturing. Id. at 167. America faced the problem of becoming prosperous without becoming luxurious and corrupt. The commercial republican ideology, with its dull virtues, had to be proof against speculation, which inspired a belief in wealth without labor and hence without any virtue.

197. M. MEYERS, THE JACKSONIAN PERSUASION: POLITICS AND BELIEF 108-16 (1966). 198. Id. at 138-39.

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campaign. It is ironic that though credit is associated with instability, the Bank is an enemy chiefly if it is fixed and permanent. Its paper money is the "mere spectre of palpable value" and represents a "false, rotten, insubstantial world."199

The Jacksonians saw the blending of the merchant character into the general citizen as a contamination.200 William Leggett denounced merchants who infected society by spreading the disease of paper money and described them in comparison to the noble ploughman as "lank and sallow accountants," inferior morally, physically, and intel- lectually, yet richer.201 Trade is a phony aristocracy, peopled by fly-by- night "creatures of the paper credit system."202

Thus, underlying bankruptcy law is a deep cultural division over the moral worth of a credit economy as well as more fundamental questions about reality and illusion in which money and credit become epistemological symbols.203 By the beginning of the nineteenth century, the is-

199. Id. at 24-28. As Meyers quotes from James Fenimore Cooper: Extravagant issues of paper-money, inconsiderate credits that commence in Europe and extend throughout the land, and false notions as to the value of their possessions, in men who five years since had nothing, has completely destroyed the usual balance of things .... All principles are swallowed up in the absorbing desire for gain; national honour, permanent security, the ordinary rules of society, law, the con- stitution . . . are forgotten, or are perverted.

M. MEYERS, supra note 197, at 117-18 (quoting 1 J.F. COOPER, HOME AS FOUND (1838)). 200. The familiar rationalization of the trade ideologists-that all men can become

merchants- receives an ironic Jacksonian twist in the writing of James Fenimore Cooper: The man who sells his inland lots at a profit, secured by credit, fancies himself en- riched, and he extends his manner of living in proportion; the boy from the country becomes a merchant-or what is here called a merchant, and obtains a credit in Eu- rope a hundred times exceeding his means . . . and thus is every avenue of society thronged with adventurers, the ephemera of the same wide-spread spirit of reckless folly. Millions in value pass out of these streets, that go to feed the vanity of those who fancy themselves wealthy, because they hold some ideal pledges for the payment of advances in price like those mentioned by the auctioneer, and which have some such security for the eventual repayment, as one can find in a calling a thing, that is really worth a dollar, worth a hundred.

Id. at 120. 201. 2 A COLLECTION OF THE POLITICAL WRITINGS OF WILLIAM LEGGETT 164 (T.

Sedgwick ed. 1840). 202. Id. at 107. TheJacksonians wanted, in Hammond's words: to clip the wings of commerce and finance by restricting the credit that paper money enabled them to obtain. There would then be no vast debt, no inflation, no demoral- izing price changes, ... no fluctuat[ing] or disappearing values, .. . The precious metals would impose an automatic and uncompromising limit on the volatile tendencies of trade.

Hammond, Jackson, Biddle, and the Bank of the United States, 7 J. ECON. HIST. 1, 6 (1947). Later, Van Buren maintained this theme, praising the agrarian stability of our economy as

a "sure reward which is vainly sought in visionary speculations." 3 A COMPILATION OF THE MESSAGES AND PAPERS OF THE PRESIDENTS, 1789-1897, at 530 (J. Richardson ed. 1896). His banking policy is more moral than economic, blaming all our problems on credit and bank paper. Credit has infected the morals of the people with "luxurious habits ... founded on ... fancied wealth." Id. at 326.

203. One form of commerce-the carrying trade-became the central symbol in the ideological dispute. The carrying trade is a paradigm of commerce-it is the pure business of moving goods, never owning, making, or using them. It is therefore similar in its symbolic usefulness to the general image of the broker in goods who figured so heavily in the imagery


sue of whether to have a national bankruptcy law became one of the major questions in the general division over the moral validity of a commercial culture. Bankruptcy law supplied the political imagery upon which people would draw in expressing their view of the stage of capitalist cultural development they wished to see the United States achieve.204

The trade ideologists saw the need for a rationalized bankruptcy system in uniform, predictable, market-serving terms. Bankruptcy would facilitate credit and limit liability.205 The argument for the new bankruptcy law is an argument for the historical necessity of expanded capitalism and credit and for recognizing that the merchant, as a crucial participant in this historical progress, merits protection from the risks he takes in its name:

Debts of great magnitude must be contracted; and the most honest and prudent man may, by accidents and misfortunes incident to commerce, be deprived of the means of making good his engagements. In a state of society, chiefly agricultural, a bankrupt system is not wanted, because credits of so great an extent are not given, nor are persons engaged in pursuits liable to so many unforeseen accidents.206

Assuming we had reached the same stage of capitalist development as England, we needed to create a bankruptcy law on their model.207 And though the proponents did not argue strongly for a trader rule that would limit the right of bankruptcy to merchants, they did argue that we needed a bankruptcy law because merchants had become major figures in American economic life. To the argument that the English bankruptcy law was in fact a very bad law, with uncertainties and loopholes that permitted manipulative or fraudulent behavior by merchants, they responded that our new bankruptcy law would be a modern, com-

mercially scientific advance on the English law. The argument opposing bankruptcy took a number of forms. Some

conceded that a bankruptcy law is necessary in a modern trading nation, but denied that the United States had reached that stage of capitalist development208 or that it had actually developed a special class of

professional merchants as had England.209 Others argued that bank-

ruptcy was a bad thing in itself. Some took their view of bankruptcy from its ancient English origins and argued that it was a cruel punish-

of early English bankruptcy law. The purest form of merchant is indeed the most morally

suspect, the most unmoored from any solid reality. Moreover, the carrying trade was the most corrupting form of commerce because it required a large and expensive navy for protection; in a sense then, a whole society could be dangerously leveraged on it. D. McCoy, supra note 193, at 174-78.

204. Id. at 178. 205. Id. at 179. 206. ANNALS OF CONG. 2656 (1797) (statement of Rep. Bayard). 207. Id. at 2675. 208. 6 THE WRITINGS OF THOMAS JEFFERSON 145 (P.L. Ford ed. 1895). 209. See ANNALS OF CONG. 2649-51 (1797) (statement of Rep. Gallatin).

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ment for unfortunate debtors. In particular, some characterized bankruptcy in political terms by using poor people as the prototypical debtors. They then complained that under a new bankruptcy law, wealthy, distant creditors would be able to seize a debtor's land, while local insolvency and attachment laws-which were denounced as an- ticommercial anachronisms210-greatly restricted creditors' access to a debtor's land. Yet other opponents of a new bankruptcy law managed to make a dramatically different argument at the same time: that bankruptcy was an inherently corrupting force in society because it only exacerbated the corrupting effects of commerce. It did not punish debtors so much as reward, or deceptively encourage, excessive credit investment, and thus infected all of society-even farmers-with the instability and illusion of a trading economy.211 In effect, this argument conceded that all men could indeed become merchants, but found this a fact to lament as a sign of the moral decay of society.

2. The rhetoric of the new bankruptcy debate.

The wild struggles over the bankruptcy law reflect a conceptual confusion about the essential purposes of bankruptcy law, which in turn reflects the wonderful plasticity of bankruptcy as a medium for debate over a wide variety of moral and political issues in a changing economy.

Charles Warren's somewhat tarnished classic proves, in an ironic way, to be a wonderful history of these struggles.212 Warren unwit- tingly reveals the irrationality of political argument over bankruptcy laws, and the tortured moral form the debates often took. At almost every phase of historical debate, parties seem arbitrarily to identify themselves with debtor or creditor interests (or merchant or nonmerchant interests) and express contradictory views of their self-interest. The confusion seems to stem in part from inarticulate moral qualms about the idea of credit and the social value of the merchant. Though the first constitutional and congressional debates are perfect examples

210. Id. 211. D. McCoY, supra note 193, at 182-83. 212. C. WARREN, BANKRUPTCY IN UNITED STATES HISTORY (1935). McLaughlin has de-

rided the book as failing to treat serious ideas, but offering instead a "myriad of quotations from little noisy men who have repeated misinformation and appeals to passion at short inter- vals for nearly a century and a half." McLaughlin, Book Review, 49 HARV. L. REV. 861, 862 (1936). If short on intellectual analysis, Warren's book is nevertheless a useful source, because it reads like a raw primary document, a sort of social Rorschach test of the instinctive attitudes the various economic, regional, and moral constituencies held toward bankruptcy.

One reason the debates became such wild Dunciads of political posturing is that they usually were inspired by a sense of emergency after some speculation crisis and panic. Jeffer- son and others denounced the paper bubble of the stockjobbers in the 1790s, and a major impulse behind the first bankruptcy law was to solve the speculation problem. C. WARREN, supra, at 10-13. But the solution one chose depended on what precisely one thought the problem was. Was it to punish and deter the speculators, or relieve the honest people who had gone down with them?

61


by themselves, every episode in the decades-long legislative history em- bodies the whole range of debate.

The thematic background to Warren's history is the tortuous efforts of the states to define and execute the sorts of debtor-creditor laws ap- propriate to their self-perceived states of capitalist development. Most of the states went through an oscillating series of laws recapitulating the British confusion over ethical and instrumental goals of bankruptcy and over the choice between rules and standards to carry out those goals. American legislatures tried out carrots and sticks, discharge laws and cruel imprisonment laws, reenacting all the permutations of bankruptcy and insolvency laws in England.213

When it came to the debate over a national bill, every constituency seems to have had its own best-case or worst-case assumption about the form the bill would take. Some focused on discharge and complained that discharge would be an abusive tool for large merchants or Eastern debtors against Southern or Western creditors, or that discharge would be unavailable to debtors from the rural West.214 Others feared moral infection rather than abuse from a discharge law, predicting that dis-

213. See generally P. COLEMAN, DEBTORS AND CREDITORS IN AMERICA: INSOLVENCY, IMPRIS- ONMENT FOR DEBT, AND BANKRUPTCY, 1607-1900 (1974).

Coleman offers an exhaustive history of the cycles of short-lived legislation in the United States. In 1725 the General Court of Massachusetts repealed a nondischarging anti-imprisonment law, declaring it "a shelter to vicious and improvident persons, a great encourage[me]nt to idleness and ill-husbandry, and too much a temptation to perjury, as well as injurious and oppressive to many honest creditors." Id. at 41 (quoting 2 ACTS AND RESOLVES, PUBLIC AND

PRIVATE, OF THE PROVINCE OF THE MASSACHUSETTS BAY 363 [hereinafter ACTS AND RE- SOLVES]). Yet the General Court reenacted the law, and in 1757 it passed a new law, saying the attachment acts frightened debtors into keeping their houses to escape arrest or wasting their assets, or inviting preferences. But the Crown struck down the law, fearing it would hurt

English creditors. P. COLEMAN, supra, at 46; see also 4 ACTS AND RESOLVES, supra, at 29-44. In 1765, New Hampshire, responding to a depression in the mast and lumber trades, adopted a debtor relief law permitting a defaulter who owed no more than 100 pounds to exchange property for freedom, but allowed a creditor to keep the debtor in prison by paying the ex-

penses of imprisonment. In 1767, the legislature tinkered with this law, deciding that after 60

days in prison, a debtor who swore he had less than 3 pounds other than clothing could be set free, unless the creditor paid 5 shillings a week toward support, thus forcing the creditor to do his own cost-benefit analysis. P. COLEMAN, supra, at 56; see 2 LAWS OF NEW HAMPSHIRE xvi (A. Batchellor ed. 1913); 3 id. at 370, 471-73. The New York legislature tinkered endlessly with

adjustments in debt limits for nonimprisonment, weekly support fees, indentured labor as means of freedom, and so on, all creating uncertainty for lenders and borrowers. P. COLE-

MAN, supra, at 105-29. Ultimately, the state legislation seemed to fail of any coherent instrumental purpose. The debtor's jail ceased to be a good deterrent because of humane modifications, and dividends to creditors remained low. Id. at 119-23. Chancellor Kent said of a liberal 1811 version of the New York law that "[t]here never was a law that held out more

alluring and more dangerous temptations to debtors to forget what they owed to good faith, and to disregard the moral obligation of contracts. Its effects upon the community were rapid and deplorable." Id. at 128 & n.47. Yet Coleman's history reveals an important undercurrent to this Dunciad of legislation: In states like New York and Pennsylvania, debtors and creditors resolved disputes sublegally through informal adjustments during hard times, with merchants often carrying accounts over from season to season. Though these arrangements often resulted in preferential payments to helpful local creditors, state law flexibly accommodated them. Id. at 112, 144. And supporters of the law that Kent denounced argued that it helpfully attracted immigrants and enhanced the state's economy. Id. at 129.

214. C. WARREN, supra note 212, at 13-16.


charge would seduce small-time economic actors into dangerous leveraging and ultimate ruin.215 The Southern interests thus reflected the whole history of English ambivalence about the moral status of the trader and of the ironically shifting purpose of the trader rule in bankruptcy.

Those who saw the purpose of bankruptcy law as preventing fraud may have supported the national bill because they thought it would succeed, while others opposed the law precisely because they thought it would encourage fraud.216 Those who saw the national law as a means of preventing preferences either supported it because they opposed anachronistic provincial preferences, or opposed it because they ap- proved of the preferences that resulted from customary local commercial settlements and did not want to yield greater creditor rights to distant creditors. The national bill had narrower exemptions than the state insolvency laws, so proponents saw bankruptcy as a means of eliminating commercially inefficient exemptions as well as the preferences permissible under state laws, while Southern opponents saw bankruptcy as an attack on the social welfare principles of the state laws.217

The proposed bill was only for traders and was essentially a creditor's law.218 Generally, Northern Federalists supported it, and South- ern and Western interests opposed it, thinking it would oppress country traders and encourage, rather than curb, speculation. One scenario was that farmers frequently would make late payment to country traders, who would then be late in paying city merchants, who would then throw the country trader into bankruptcy, who would throw the farmer into insolvency.219 The opponents could thus invert the vision of a great mercantile chain of being that was adopted by the commercial ideologues.

Each party seemed to have a different theory of the relationship among all the parties. The bill's supporters said it would relieve honest debtors and restore them to active trade; the dishonest speculators would rise again even without help from the bankruptcy laws, but the honest debtors and their widows and orphans were doomed without a federal discharge right, and in any event, the bankruptcy law would give honest creditors control over the property of the wicked debtors.220 Indeed, bankruptcy law would prevent excessive credit and panic by giv-

215. Id. at 15. In fact, in the debate over the 1800 bill, the Southerners moved that the bill be construed not to apply to farmers, graziers, drivers, tavernkeepers or manufacturers, even though they complained that merchants would use bankruptcy to evade the demands of farmer and mechanic creditors under the actual operation of the bill. Id. at 19.

216. Id. at 17, 20-21. 217. Id. at 21 & n.26; see T. COOPER, THE BANKRUPT LAW OF AMERICA, COMPARED WITH

THE BANKRUPT LAW OF ENGLAND (Philadelphia 1801). 218. C. WARREN, supra note 212, at 13-14. 219. Id. at 15-16. 220. Id. at 16-18.

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ing creditors control over the wicked speculators who borrow with no intention to repay. Thus, the federal law would fulfill Daniel Defoe's dream of the ideal scheme of rules that could reflect precisely the natural moral taxonomy of actors in the credit culture.

The 1800 law lasted only three years. Like every bankruptcy law in the nineteenth century, it apparently managed to displease everyone.221 The complaint was again that the rich and wicked used it to evade debt, while the honest man went down as a result of the wicked man's extravagance. Even though the law was technically involuntary, collusion and fictitious demands ensured that merchants could use it voluntarily.222 Congress faced pressure for a bill in 1820223 and began a full 40-year battle over the same questions. A few new complicating additions to the moral imagery appeared each time, such as the elimination of the trader rule224 and the first provision for truly voluntary bankruptcy.225 These changes only further stimulated the imagination of the moral scenario-makers.226

The Panic of 1836-1837 led to new legislative efforts, with the usual conflicts.227 The cycles of political and moral debate over the bank-

ruptcy law seemed to parallel cycles of the credit culture generally. Throughout the nineteenth century, America followed a cycle in which favorable conditions encouraged too much credit, and sensible business people reined in their borrowing, and then denied credit to those who had failed to rein in their borrowing, and left the latter hanging and insolvent.228 In 1840, Senator Daniel Webster introduced a bill offering voluntary bankruptcy to all debtors, but providing compulsory

221. Id. at 19-20. 222. Id. at 20. 223. Id. at 27. 224. Id. at 27-35; 9 ANNALS OF CONG. (1821). 225. Some Southern, nonmerchant interests wanted open voluntary bankruptcy. C.

WARREN, supra note 212, at 28-35. These interests denounced any purely involuntary law as

hypocritical because it favored merchants who could engage in collusive "involuntary" maneuvers. Id. at 34. Yet these nontrader interests also attacked any compulsory bill that would

apply to farmers or mechanics, because at the same time they viewed bankruptcy as punishing, not rewarding, debtors. Id. at 31. Some Northerners simply replied patronizingly that farmers were too powerful and important to ever suffer discrimination. Id. at 34-36; 9 ANNALS OF CONG. (1822); 7 ANNALS OF CONG. (1818). And the Northern interests argued in any event that the great chain of mutual contingency united the supposedly diverse trader and nontrader interests. C. WARREN, supra note 212, at 34-35.

226. In the debate over the 1822 bill, James Buchanan spoke of the moral problems of

permitting nontraders any discharge. In his view, if farmers remained pure and uncorrupted, they would be the backbone of the nation's morality, but discharge would lead them to think

light of the solemn obligation of contracts. It would spread a moral taint throughout society. C. WARREN, supra note 212, at 31. Meanwhile, the Southerners were opposed anyway, because they did not conceive of the United States as a commercial society and, in any event,

thought the law simply was a privilege for merchants. Id. at 33; 7 ANNALS OF CONG. 907-18 (1818).

227. For a complete recapitulation of the earlier debate, see C. WARREN, supra note 212, at 52-92.

228. E.g., id. at 52-54. For a fascinating history of commercial credit relations in one

industry, see H. WOODMAN, KING COTTON AND HIS RETAINERS (1968).

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bankruptcy only for traders,229 and the ritual debate was reenacted.230 Shortly after the bill was enacted, the ritual complaints recurred.231 In 1842, the Fifty-Third Congress repealed the law.

B. Credit, Morals, and Preferences in America

I have argued that the history of bankruptcy law reveals a persistent debate over a few fundamental moral and political issues about commercial culture, but that the debate takes form in different specific legislative issues at different times. In Renaissance England the major question was the trader rule and the definition of the bankrupt character. In the early eighteenth century, the major question was the right of discharge, with a mild shift of focus later in the century to the preference. After the Revolution in the United States, the right of discharge as an element in bankruptcy was essentially assumed, though of course opponents of the concept of discharge could attack that concept simply by acknowledging that it was an essential feature of bankruptcy, and then for that reason attack any bankruptcy bill. The early legislative struggles also reveal a revival of the old English trader rule issue, and a great deal of energy was spent on the very novel issue of providing for voluntary as well as compulsory bankruptcy. But the debate also shifted with unprecedented energy to the issue of preferences.

Assuming that one major purpose of any bankruptcy law is to restrict preferences, opponents of a bankruptcy bill viewed the preferential payment as a healthful expression of local trust, family ties, and personal moral commitment. For the proponents of a modern bankruptcy law, preferences might be evil in at least two polar ways (with, of course, the whole range of views in between), the differences depending on the particular image one chose of the preferring debtor. If the image was one of the small-time local tradesman, then preferences

229. C. WARREN, supra note 212, at 60, 67-68. 230. The voluntary provision was roundly attacked as encouraging profligacy. Yet many

Northern Democrats and Whigs supported the bill only with the voluntary provisions, and indeed Senator Henry Clay actually moved to strike the compulsory part, arguing that creditors had all the advantage they needed under state laws. Id. at 63. The bill passed with both parts in 1840, the North and East besting the South and West. Id. at 68-69. A Tennessee Senator complained of the compromise that "the voluntary bankrupt is to be allowed to escape from his creditors upon condition that creditors may be allowed to oppress a particular class of debtors. . ." Id. at 69. In the House, some Whigs opposed the compulsory part, while Northern Democrats thought the voluntary provision simply encouraged profligacy, and that "voluntary bankruptcy" was a contradiction in terms. Id. at 72-73. Northern supporters told farmers that they would benefit from a bankruptcy law, since they sold more than they bought, and usually to distant points, often to Northern traders who might prefer local creditors. Id. at 74-75.

231. Creditors complained that debtors were getting off too easily and dividends were too low, and debtors complained that the exemptions were too narrow. Many people complained that the language was too technically complex, too hard to construe. The Charleston Chamber of Commerce complained that the law hastened the demise of debtors who would survive with extensions. Banks and corporations, which were exempted under the law, could throw the merchant into bankruptcy, having ruined him with their phony paper, and then escape themselves. Id. at 82-85.

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were bad because they were at best inefficient, provincial, and perhaps sentimental anachronisms that blocked the development of an efficient national machine of credit and commerce. If one's image of the preferring debtor was that of the devious speculator and absconder (the image derived from early English bankruptcy law), then the preference was one of the most nefarious, fraudulent leveraging tricks of the corrupt speculator. It was not an expression of homespun (if inefficient) trust and honor, but a horrible distortion of the whole concept of trust and honor; not a sentimental impediment to a modern paper economy, but the worst possible sin, and a sign of the moral instability of a credit economy.

1. Some early views on mercantile morals and the need for a preference law.

Examination of a few documents from the nineteenth century helps capture the complexity of the moral and cultural problems of credit and

bankruptcy and the pretense of their resolution. One of the most re-

vealing is Samuel Sewall's article in the 1829 American Jurist,232 an article which represents the pretenses of the "scientific" approach to credit and bankruptcy associated with the proponents of a uniform national

bankruptcy law. Once again, the arguments over bankruptcy in general, and about preferences in particular, reflect deeper concerns about the relationship between a credit society and moral and political virtue. The argument for a national bill generally viewed bankruptcy law as a robust, economical, and scientific instrument of commercial efficiency. Yet the documents also reveal, if not acknowledge, a murky, persistent moral anxiety about the credit culture they purport to celebrate.

Sewall boldly asserts his progressive stance in these matters. "The march of truth is ever onward," he states.233 To adopt a bankruptcy law is essentially to ratify our image as an enlightened modern nation.

Bankruptcy law "is to be found in the legal code of most commercial and civilized communities: it is a measure dictated by the plainest principles of justice, humanity, and economy;-we say economy, for its ob-

ject is to unfetter and promote the industry and enterprise of our

population."234 Sewall thus argues for a wholly rational, uniform federal law that will make the market more predictable.235 A uniform law

helps collect credit at a distance, to pierce the veil of local custom. It makes men better friends by making them better strangers. "No one

232. Sewall, On a National Bankrupt Law, 1 AM. JURIST 35 (1829). 233. Id. at 35. 234. Id. at 49. 235. Sewall states: Admitting these laws to be all good, founded on correct principles, and correctly administered, yet the very want of uniformity is itself a serious evil. The law which

regulates commercial contracts, is substantially the same throughout the United States,-we might almost say, the civilized world. In every part of our country the law of insurance, bills of exchange, partnership, principal and agent, is nearly the

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can transact business with a stranger residing at a distance, with safety and confidence, unless he has some knowledge of the peculiar laws and usages by which his rights may be affected."236

The general stance is one of highly rational moral enlightenment. Bankruptcy law has overcome its punitive, moralistic past-it will leave the punishment of fraud to the criminal law. The moral goal of a modern bankruptcy law is an instrumental or regulatory one: Simply reward honest debtors with discharge, and Defoe's goal of a scheme of rules that will distinguish the honest from the dishonest debtor will take care of itself. A scheme of clear rules can capture the moral goals of a credit culture without deep normative inquiries into the character of actors or their transactions. Thus Sewall defends the concept of a formal right of discharge, as opposed to the older concept of trusting to the good faith and customs of local credit markets in which creditors determine which debtors are morally and financially worthy of discharge. The law must be independent of the caprice or good will of individual actors.237

Sewall concedes that the faulty operation of English bankruptcy laws might argue against their adoption here. But the American pretense is that we can succeed at scientific rationalism in commercial matters where England has failed, because of our self-evident superiority in understanding the principles of commercial law and in conducting our affairs efficiently.238 He finds irrational those who approve the general principle of bankruptcy, but fear any particular law because "in some unknown manner [it operates] for the exclusive benefit of one class of

same. The diversities of the law ... materially affect the nature of the contract. The obvious advantages of this uniformity are felt and acknowledged by every merchant.

Id. at 36. He knows his own rights, and the rights of those with whom he is dealing, and he regulates his proceedings accordingly. If uniformity be in these instances an advantage, would it not be equally so with regard to the law of debtor and creditor?

Id. He offers a detailed criticism of state insolvency laws, lamenting that the stop, replevy, attachment, and relief laws are not true bankruptcy bills at all. They permit solvent men to escape with less than full payment, and hence "sap the foundations of commercial credit." Id. at 39. They do not meet the legitimate needs of creditors to seize land, negotiable instruments, and choses in action. On the other hand, they are inadequate to the demands of a commercial culture, because they afford debtors no discharge against creditors, but only individual bargains. Id. at 37-39.

236. Id. at 36. A bankruptcy bill would also give equal rights to foreign creditors: The time has long passed since every stranger was an enemy. The whole civilized world now forms but one community of nations. And while we profess to carry on commerce on principles of reciprocity and equality, it becomes us in all our intercourse with foreign nations, to give their citizens the same rights in our country which we enjoy in theirs.

Id. at 47. 237. Id. at 39-45. The author approves of the principle of neat, modern fixed rules in

praising the development-or dilution-of English law defining acts of bankruptcy to include a mere declaration by the debtor of his insolvency, if properly filed and advertised. Id. at 52- 53.

238. Id. at 48.

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men at the expense of others," or that it assists absconders and rogues, or that it benefits only merchants.239 To argue that bankruptcy has a particular constituency is to misconstrue its essence. Even if bankruptcy law did benefit merchants, it would not therefore hurt anyone else, and in any event, the author has no investment in the trader rule, and would be pleased to spread the benefits of bankruptcy to farmers and others. Credit per se is a great benefit to society. But the real point is that the Blackstonian image of the vulnerable merchant, whose contingent economic life entitles him to state protection through bankruptcy, is something like a universal condition. Of course, the merchant may suffer

loss or destruction of property by the perils of sea or land; a fall in the value of property; the failure or fraud of his debtors, or those for whom he is responsible.... But is not the cultivator of land exposed to similar chances? His barns, his houses, and his granaries may be burned; his flocks and herds may perish by disease; his crops may be destroyed by drought or inundation, or devoured by insects. In whatever way he may dispose of his produce, he is liable to loss from the unfaithfulness or misfortunes of those whom he trusts or employs.240

Sewall thus invokes a crucial idea in the history of the debate over commercial culture-an idea interpreted by all sides in this debate in their own ways: The notion that once a society has adopted commercial values, all people can be merchants. Those who favor the enlightened, progressive rationalization of society embrace the concept. Those who regret that process as a form of moral infection lament it. And those who believe that the commercial integrity of the society can survive

only if the mercantile life remains a professional calling, rather than a universal condition, fervently deny the idea.

Sewall then describes his worst vision: Pressured by the absence of

discharge, the debtor makes a side-deal with one or a few of his creditors in depreciated paper. The quiet settlement between debtor and creditor is not a laudable act of trust and humanity, but a crooked and coercive form of preference, violating an assumed moral duty the debtor bears to the general class of his creditors. Such deals "tend to break down the distinctions between right and wrong. The weak, the

ignorant, and the interested, the great mass of the community, will not practise a morality which the laws disregard.'241 Sewall thus cannot avoid a great moral investment in bankruptcy law. The valuation, set- off, and exemption provisions under local law permit corrupt debtors to escape, having spent all their personalty. And the worst of it is the true preference, which is actually encouraged in statutory form by the first-in-time rules. "To give one creditor the benefit of his debtor's effects to the exclusion of the rest, seems only suited to a barbarous age,

239. Id. at 49-50. 240. Id. at 51. 241. Id. at 39.

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in which the seizure of property gives the right of possession."242 The debtor may fear coercion into a preference, and so dilute his assets to avoid that. Or he hides his property, hoping to stall and work out some furtive compromise, perhaps blackmailing his creditors into a private discharge. If the compromise is not struck, the debtor wastes his assets. Either the creditors give up for a few cents on the dollar or the debtor "retires to some distant region, as bankrupt in character as in fortune, his spirit embittered by ill success, and skilled in every art of defeating and delaying creditors."243 The preference becomes the key symbol of the general moral degradation that only a bankruptcy law can cure. The mere thought of it invokes in Sewall, the rational, scientific plan- ner, fearful images of the murky, morally and perceptually elusive side of the world of credit, images which scientific rationalism tries to suppress:

This evil of [preferential] assignments is really the natural fruit of our present laws [which have] given birth to assignments in a thousand different shapes. Instead of one uniform, unbending rule for dividing the estate of an insolvent among his creditors, it is left to be disposed of by accident or caprice. One man prefers his father, brothers, and uncles, because they are his relations; another prefers his endorsers and custom-house sureties, because that is the general practice....244 The scientific view of preferences thus takes a moralistic tone, re-

jecting the argument that what seems to be an illegal preference may indeed be an admirable gesture of personal trust and confidence that should be sustained against the pressures of impersonal, rationalized commerce. But Sewall, as if uncomfortable in this punitive, moralistic discourse, shifts to a much more rationalistic approach. He next argues that the problem lies not in the moral characters of debtors so much as in the legal and economic system that tolerates preferences:

[F]or while the system prevails, it seems the duty of the debtor to give such preferences as are generally expected. If he neglects to do so, it is as great a fraud as it would be to conceal any of his property for his own use. Those creditors whose demands are considered confidential, who have lent money to a merchant, or endorsed his notes, under a confidence or understanding that he will make them secure in case of failure, have a claim on him which he cannot in conscience disregard.245

Sewall recognizes the nonscientific argument that the preference often arises from a transaction in which a debtor feels he must fulfill a confidential bond of honor with a favored creditor. Yet he finds the system of preferences leaves the law of commerce "uncertain and fluctuating" because "[n]o two men can agree exactly as to what debts ought to be

242. Id. at 40. 243. Id. at 41. 244. Id. at 45. 245. Id.

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considered confidential."246 Whenever a debtor gives a preference, nonpreferred creditors will complain that the transfer was unjust or even collusive and fraudulent. But though no legislative enactments can prevent all preferences by men on the verge of insolvency, a rational bankruptcy law can disregard all confidential debts and honorary engagements, avoid all transactions made with a view to bankruptcy, and place all creditors on an equal footing.247

Hence the more scientific argument against preferences takes the familiar form of an abstract choice between rules and standards. It recognizes that a preference may be an expression of moral honor, but laments that matters of moral honor are not wholly susceptible to modern rational predictable regulation. We cannot trust private assignments among debtor and creditors to ensure ratable distribution any more than we can trust private bargains to ensure discharge in the right cases.248 Sewall concedes that in the shady, blurry universe of credit, one cannot confidently distinguish honorable trust from dishonorable fraud-the blurring is perfectly captured in the ambiguous notion of "confidence"-and lawmakers must accept an irreducible moral inde-

terminacy that inhibits their scientific rulemaking. An obscure lecture by a Philadelphia Congressman and lawyer (and

later federal judge) named Joseph Hopkinson demonstrates the deep moral confusion in early nineteenth century America over credit, preferences, and the merchant character. Hopkinson asserts that the merchant class plays a central moral role in society: "There is no class of our citizens on whose conduct the reputation of our country, for pro- bity and honour, so immediately depends, as our merchants."249 The moral stature of our politicians, lawyers, and doctors, are purely domestic concerns, argues Hopkinson, but the commercial character of our merchants essentially determines whether the world views Ameri- cans as a moral people. The moral pressure on merchants is intense. The merchant holds "the character of his country ... in a sacred trust."

246. Id. at 45-46. 247. Id. 248. As for the particular rule the author chooses: He notes with approval the 1826

congressional proposal to protect bona fide transferees from the debtor in the time between the debtor's act of bankruptcy and the filing of the petition. He thus rejects what he perceives as the English "strict rule of avoiding all transactions of the bankrupt subsequent to the act of

bankruptcy, which is frequently secret, finding that rule often productive of the most mon-

strous injustice." Id. at 54. Indeed, he admires the neat French rule, which presumes as

fraudulent all debtor transfers 10 days before insolvency, finding the French rule to be

"founded on the correct principle of regarding with jealousy the transactions immediately

preceding an avowal of insolvency, and yet respecting the fair dealings of other persons." Id.

So he proposes a very modern, formal rule that would protect any transfers to a bona fide

transferee within two months before the petition, regardless of any earlier act of bankruptcy. Id. at 53-55.

249. Hopkinson, Lecture Upon the Principles of Commercial Integrity and the Duties

Subsisting Between a Debtor and His Creditors with Suggestions of the Causes of the Defects in These Respects in the American Commercial Character 3 (Mercantile Library Company, Philadelphia, Pa., Mar. 2, 1832).

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According to Hopkinson, our merchants must regard themselves "as the men by whom the great operations of the world are sustained, by whom the intercourse of the human family, however scattered and remote, is kept up.... Such high functions cannot be performed by ordinary men; and those who do perform them faithfully are the noblest benefactors of mankind."250 Hopkinson thus reflects an ironic inversion or sublimation of the traditional moral doubts about the merchant character in an emerging capitalist culture. Yet that character has become widely suspect abroad. American merchants should be chastened by our "looseness of principle and practice in contracting and paying debts.... [Our] disposition to contract debts becomes eager and reckless; the obligation to pay them is but faintly felt, and the failure to do so hardly produces a sensation of shame in the defaulter ... ."251 Moreover, Hopkinson recognizes that bankruptcy often derives from "inevitable misfortune, and is met with fidelity and honour. The life of a merchant is, necessarily, a life of peril . . . [of] vicissitudes [that] depend on causes which no man can control ... that no calculation could anticipate."252 But as if to resist too easy an assumption that mercantile disaster is an external, natural contingency, he complains that we too readily and generously treat "criminal extravagance" and "desperate speculations" as if they were mere misfortune.253 In short, our laws and customs have failed at sharp moral line-drawing. And Hopkinson cites the preference as perhaps the key element in our legal and moral failings.

In describing the preference, Hopkinson's ruling image is, once again, the debtor as the rogue who makes a cynical compact with "his friends or favourites, at his will and pleasure."254 He denounces the preference with moral intensity even greater than anything we have seen in English law: "Debtor and creditor retire from this dishonest mockery, mutually dissatisfied; the one to resume his business, his sta- tion in society, his pride and importance, his manner of living, without any visible degradation or retrenchment, and the other to repeat the same system of credit, with the same disastrous credulity."255

Hopkinson's diagnosis involves a remarkable twist on the now-familiar idea that, in American society, all men can conceive of themselves as merchants. Hopkinson at once acknowledges this levelling effect in American democracy, and yet denounces it as a perversion of the special moral vocation that should define the character of the merchant. Every man thinks himself qualified to be a merchant, as if by intuition:

250. Id. at 8. 251. Id. at 5. 252. Id. at 6-7. 253. Id. at 5. 254. Id. 255. Id. at 5-6.

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A successful mechanic who, by his industry and skill, has accumulated a few thousand dollars, scorns the honest means by which he has acquired his wealth, and must be a merchant; as if the mysteries of commerce could be unfolded on a shop-board .... Why should it not be necessary for one who aims at the honours and profits of trade ... to undergo a process of preparation, to obtain a knowledge of his art?256

In America, unlike other countries, entering trade is an act of pure volition: "A man but says, I will be a merchant-and he is a merchant."257 The moral supervisors of the commercial profession can hardly sustain their efforts at sublimating the moral complexities of the merchant character; as the life of trade becomes available for democratic distribution, the profession suffers a kind of entropy from honor to fraud. And Hopkin- son sees ruin as the inevitable destiny of this ersatz character, the self- created merchant. Either he will quickly fall to commercial casualty, or he may get lucky, swell with pride and conceit, borrow widely, but then fall "into irretrievable ruin."258

Hopkinson then offers a more specific evil scenario for the preference: The worst form of preference is the cross-exchange between drawers and indorsers, "these mutual assurance gentlemen." In the moral literature on bankruptcy and credit, the device of the accommodation party or suretyship seems to be a specially invested symbol. To those morally and epistemologically suspicious of credit, creating credit out of a mere signature purporting to represent a person's raw, inherent honor, is the worst of the elusive phantoms of the credit world. He warns of "the facility of obtaining credit on the faith of mere names, and the contrivances and deceptions which are resorted to, to keep up the false and hollow credit ... ." The sinking trader props himself up with indorsements, "draw[ing] his confiding friends into his difficulties."259 In Hopkinson's commercial paranoia, drawers and indorsers are linked in a murky conspiracy of ruin, and exemplify the alienation of the credit world from any substantial reality that could support social virtue: "CREDIT! CREDIT! is the fatal bane of commercial prosperity-of commercial honour and honesty. The transactions of business are little better than fictions. Goods are sold which have never been paid for- and a note is taken for them which will never be paid."260 But perfectly capturing the moral theme of preference law implicit in Lord Mans-

256. Id. at 9-10. 257. Id. at 10-11. 258. Id. at 12. 259. Id. 260. Id. at 13. Hopkinson then narrates the predictable life cycle of this corrupt debtor.

The sinking trader briefly enjoys the "proud splendour, the heedless extravagance, the un- bounded luxury, in which these ephemeral princes indulge themselves." But then the trader sinks in increments. He has warnings but he "shuts his eyes upon it; he strives to deceive himself, and continues to deceive others." Id. at 14-16. Like Defoe a century before, Hopkin- son exhorts the honest trader to break early. Once broken, even if late, the honest trader should surrender all his property for ratable distribution.

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field's opinions, Hopkinson notes that the dishonest, preferring debtor is a law unto himself.

The debtor constitutes himself the sole judge between him and his creditors; he sits down to make, at his pleasure, what he calls an assignment; he deals out his estate in such portions and to such persons as he may deem most expedient or find most agreeable; . . . he selects the persons, of course his kindest friends, who shall execute these trusts; and when every thing is thus prepared, he summons his creditors to meet him: not for consultation; . . . not to ask them what he shall do, but to tell them what he has done, to pronounce his judgment upon them.261

In this arrangement, the preferred creditor, usually an accommodation indorser, plays a key role. The indorser, if anything, should have low priority-he took a risk knowingly, and asked no security himself.

And yet this indorser is to be preferred to the man who has delivered his goods, his labour, his money, on the faith, probably, of the false credit, of the unsubstantial display of wealth, made by the aid of the indorser, whose name and promise have thus been the instruments of deception, the lures to entice the unsuspecting into a vortex of ruin .... And the case is aggravated ... when this indorser, after putting his preference into his pocket, never pays the engagement for which it was given, but settles with his creditors in the same way.262

Hopkinson infers that we must have a national bankruptcy law to counteract the existing law's bias in favor of willful debtors. We need a bankruptcy law that can draw moral distinctions among debts where the state laws have failed, to separate one "in the fair and regular pursuit of his business" from one "in the indulgence of flagrant immoralities and vices." He describes the scheme of bankruptcy discovery as a "purify- ing process."263

2. The advent of a formalist American preference law.

The early history of American preference law reflects the general effort of American bankruptcy and commercial law to achieve formality, abstraction, and scientific precision. But that movement nevertheless is marked by a continuing struggle with the underlying moral questions about preferences, depicted in the Hopkinson and Sewall documents.

As we have seen, the ideological battle over preferences involves contrasting images or scenarios of the preferential act. To the opponents of any national bankruptcy law that would restrict preferences, insolvency laws properly accommodated debtor payments to favored creditors as a socially healthful attribute of local custom. The favored creditor was in fact the local creditor who generously carried the sea- sonally insolvent debtor. Though the relationship might be between farmer and factor, customer and storekeeper, small tradesman and

261. Id. at 17-18. 262. Id. at 18-19. 263. Id. at 20-21.


bank, the image of the informal honorable preference was also applied to the international sea trade, where the agents of custom were such intermediaries as factors, correspondents, and supercargoes.264 These relationships assumed that debt collection was inevitably slow, and that seasonal irregularity in the cash flow of debtors required their creditors to be tolerant and to rely on a mutual sense of honor to efficiently re- construct debts.

The counter-scenario, of course, proffered by the supporters of a national bankruptcy bill, showed the preferring debtor as a conniving, colluding criminal, making cynical side deals, and often on cross-indorsement surety contracts with other equally conniving debtors. And

just as the image of the preferring debtor differed drastically, so did the

image of the social significance of the preference. Where the older, "local" view saw the preference as a flexible instrument of social bond-

ing, the view of those who sought national regulation of preferences saw the preference as a pernicious disease in the economy.

State law. During the long battle over federal bankruptcy legislation, the states had the power to regulate preferences under their insolvency laws. The fairly sparse state case law on preferences illuminates the issues that prompted the federal debate. Though some states enforced

statutory restrictions on preferential payments, the state cases reveal a flexible tolerance of favorable arrangements between debtors and particular creditors. Underlying this tolerance is an odd mixture of moral confusion and sophisticated moral agnosticism about the feasibility or wisdom of highly formal legislative regulation of preferences.

Delaware is perhaps the best example. Before and after the Revolu-

tionary War, Delaware experimented with versions of a highly complex relief law.265 It also had an express statutory restriction on preferences and, as a starkly concise opinion from 1797 suggests, was quite capable of enforcing it to deny a debtor discharge.266 But throughout the nine-

264. P. COLEMAN, supra note 213, at 288-91. If the loser in this scenario was the North- ern or Eastern creditor, that was a tolerable cost. In any event, Coleman suggests that distant urban creditors normally had excellent intelligence about the affairs of their small-town debt-

ors. Id. at 288. 265. Id. at 208-14. Unmarried debtors under 40 who owed less than 20 pounds could

get out of jail by assignment and indenture. Married and older debtors could do so only if

they owed less than 2 or between 20 and 40 pounds. Id. at 208. 266. The opinion reads:

Dawson prayed by his petition to be discharged under the insolvent law, but,

upon being interrogated, it appeared that he had, to the great injury of his creditors, made a voluntary sacrifice of [375 pounds] (by releasing so much), which was the

one-half of the purchase money of a brig he had sold. He acknowledged that he had

given up half of the purchase money that he might get the rest in cash to satisfy some favorite creditors.

The Court remanded him to prison on account of the fraud appearing in this transaction against his creditors, but made an order that those creditors who wished to keep him in confinement should maintain his family ....

Jonas Dawson's Case, 1 Del. Cas. 502 (1797). Yet Delaware law created preferences for land- lords and lienholders, and "in regulating servitude for debt it ranked creditors according to

preferences." P. COLEMAN, supra note 213, at 212.

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teenth century, the courts and legislatures of Delaware, and in other states, floundered over the subtler question of whether a preference, beyond denying the debtor discharge, could be avoided,267 and also over complex mens rea issues, such as voluntariness, diligence, and pressure, that Lord Mansfield had invoked to decide when a payment was indeed an illegal preference. The Delaware courts invoked the Mansfieldian principle that we can define a category of transfers to favored creditors which are in some sense "voluntary," and coherently distinguish them from transfers that legitimately result from creditor diligence.268

The state courts thus evolved a preference doctrine that was superfi- cially consistent with an abstract principle of intercreditor equity, but which in operation would void very few payments to favored creditors. Moreover, the doctrine reflected a serious doubt about the moral necessity of regulating preferences. This doubt arose especially in that historically controversial form of debtor-creditor relationship, the surety transaction, where, depending on the moral predisposition of the observer, the relationship was one of either cynical collusion or intimate personal trust and faith. Indeed, late in the nineteenth century, while Congress and the federal courts were struggling to devise and sustain a highly formal rule for restricting preferences, one still finds in the state case law a fascinating undercurrent of moral agnosticism about preference rulemaking.

In Stockley v. Horsey,269 for example, the court had to scrutinize an extremely complex variant of the suretyship transaction, which the gen-

267. Cf Manro v. Gittings, 1 H. &J. 302, 492 (Md. 1804). 268. Thus, in Tunnell v.Jefferson, 5 Del. (5 Harr.) 206 (1849), the debtor had issued a

bond to his sureties, who were accommodating him on debts to minor wards. The court read the state law bar on preferences very narrowly as applying only to an assignment of all the debtor's property, rather than, as in this case, the giving of security for a single debt. The court's conditions for upholding the payment are a very subtle variation on the Mansfieldian formula. The debtor did not act voluntarily; rather he gave the bond "with much reluctance," at the creditor's "instance and urgent solicitation." Id. at 212. Thus the creditor is rewarded for being diligent and aggressive. In fact, the court admonished the complaining general creditor:

The complainant in this case was guilty of great neglect. He might by ordinary diligence have secured his debt, which he held without even entering judgment, for a period of more than eighteen months, during which time, or before the respondents entered their judgment, no other creditor so much doubted George Tunnell's sol- vency, as to enter any judgment against him. If during this time he was thriftless and improvident... the diligent creditor who first took warning, is entitled to the benefit of his diligence ....

Id. at 220; cf. Waters v. Comly, 3 Del. (3 Harr.) 117 (1840) (debtor committed illegal preference when he arranged trust to pay off a group of creditors without communicating with them, and without diligence on their part). But the Tunnell court introduced the issue of the creditor's-rather than the debtor's-mental state, an issue essentially irrelevant to English law, but one that became dominant in nineteenth century American law. Obviously, the favored creditor acted aggressively because he recognized that the debtors's "affairs were becoming embarrassed." But his concern for his money fell short of any actual recognition that the debtor was insolvent. Tunnell, 5 Del. (5 Harr.) at 216-17.

269. 9 Del. (4 Houst.) 603 (1874).


eral creditors tried to recharacterize as a virtual fraud. Under the state insolvency scheme, in the "pre-assignment" period, the court would not invalidate payments unless it found something like blatant fraud.270 In an essay on the moral indeterminacy of many commercial transactions, the court noted that the mens rea of commercial transactions "lies exclusively within [the party's] own breast, and all that can be known of it independently of, or contrary to his answer, is by inference only from his acts or conduct."271 State preference law thus sustained a keen sense of the subtle disguises that fraud can wear, and of the limited ability of legal authorities to draw relevant moral distinctions in the elusive world of credit.272

Congress and preferences. The 1800 Bankruptcy Act, a rather close imi- tation of the English law, did not mention preferences,273 but the courts did infer, from the mere passage of a national bankruptcy bill, a vigorous principle of ratable distribution. They articulated an aggressive preference doctrine, firmly condemning eve-of-bankruptcy transfers that constituted bona fide payments of bona fide debts.274 The courts thus ignored the rhetoric of the English cases that required some suspicion of fraudulent collusion, and embarked on a more categorical, objective preference theory. But the 1800 law lasted only three years, and the spirit of ratable distribution was in limbo for decades while

Congress fought over a new bankruptcy bill. As Congress moved to-

270. The favored creditor in Stockley had helped the insolvent by paying half his debts to creditors, in full satisfaction, without taking an assignment of them, and in return took ajudg- ment bond from the debtor for the full amount of the debts. The creditor then executed on the bond, and the other creditors thereafter sought to recover their deficiencies. The technical issue in this bizarre transaction was whether the favored creditor had induced the other creditors to grant the debtor a full discharge, or had merely purchased the debts from them. The court held the former, and made clear that there was no illegal preference so long as the favored creditor did not intend to defraud or coerce creditors into compromise. The court treated an assignment for the benefit of creditors as the equivalent of a formal bankruptcy petition under the state insolvency law, and held that normally, before the debtor makes that

assignment, he may prefer any honest creditor and thereby reward the creditor's diligence. Ironically, the court treated the insolvency law as a highly penal statute and invoked the principle that penal statutes must be construed in favor of the potential offender. It then noted that a preference restriction triggered by the debtor's insolvency, rather than by the technical moment of assignment, would be unfair because neither debtor nor creditor can accurately measure the moment of insolvency. Id. at 608-09.

271. Id. at 615. 272. "Fraud almost invariably veils itself under exactness in legal forms. Then the sub-

sequent conduct and declarations of these parties lack the circumspection which a fraudulent

purpose can hardly fail to inspire." Id. at 616. "The circumstances must be in a good degree demonstrative and not suspicious only." Id. at 620.

273. Act of Apr. 4, 1800, ch. 19, 2 Stat. 19 (repealed 1803). 274. The major case, Locke v. Winning, 3 Mass. 325 (1807), might seem relatively easy,

since both debtor and creditor apparently knew that the debtor was about to commit an act of

bankruptcy. But unlike an English court, the American court used the imagery of fraud only to denounce a general sort of disloyalty to the rather abstract redistributional "spirit of [the bankruptcy] laws," id. at 326, rather than any concrete collusive fraud. And though the creditor importuned the debtor to secure him, the American court utterly ignored the issue that would have been central in an English case-whether the debtor acted under "pressure" from a "diligent" creditor. See also McMechen v. Grundy, 3 H. &J. 148, 185 (Md. 1810).


ward the 1841 Act, Daniel Webster revived the campaign for a categorical national regulation of preferences, invoking many of the arguments laid out in the Sewall and Hopkinson documents that preferences were weakening the economy and moral fiber of the nation.

Senator Webster repeated the now familiar argument that the economic fragility of the nation rests on false credit, and that false credit rests on an insidious scheme of indorsement and preference. He lamented that immoral debtors break too late and conceal their assets, repeating the ritualized Defoe exhortation from more than a century before. He exhorted them to break early:

Men get trust upon the strength of other men's names .... [through] pure accommodation . . . of the discount of paper representing no transaction of sale or purchase .... Endorsement and suretyship, therefore, are the means by which excessive and false credit is upholden. And how is this endorsement obtained? ... It is by promis- ing to secure endorsers at all events. It is by giving an assurance that, if the party stops, a preference shall be made, and the favored creditors shall be his endorsers .... This has become a sort of honorary law. A man that disregards it is in some measure disgraced. We hear daily of honorary debts, and we hear reproaches against those who, being insolvent, have yet pushed on, in the hope of retrieving their affairs, until, when failure does come ... they have not enough left to discharge these honorary obligations. Now, at the bottom of all this is preference. The preference of one creditor to another, both debts being honest, is allowed by the general rules of law; but is not allowed by bankrupt laws. And this right of preference is the foundation on which the structure rests.

On the legal right or power of preference lies the promise of preference.

On the promise of preference lies endorsement. On endorsement lies excessive and false credit. On excessive and false credit lies over-trading. [If anything] endorsers should be paid last [not first].275

Webster's argument was the key legislative signal for a broader, more categorical restriction on preferences and another central document in American bankruptcy culture. It revealed the gnawing anxiety about the insidious social effects of the abstracted world of commercial credit, yet expressed confidence that a formal, categorical legislative rule could solve the problem.

The 1841 statute was boldly original in its breadth. It created the concept of voluntary bankruptcy and, as if following the commercial ideologues' vision of the merchant as the Everyman of American democracy, it extended the new privilege to nontraders as well as trad-

275. CONG. GLOBE, 26th Cong., 1st Sess. 814 (1840). Indeed, Webster focuses specifically on bank endorsement and accommodation as the source of the profligate paper which threatens the health of the republic, urging that we "keep the issues of paper nearer to the real wants of society." Id. at 816.

77


ers.276 The 1841 Act was also the first bankruptcy statute in English or American history to expressly forbid preferences, and the first great legislative expression of a broad, formal policy of ratable distribution according to objective rules. It introduced to Anglo-American bankruptcy law the notion of a determinate time period for measuring the legality of a payment.277 The statute did include pregnant language about the debtor's mens rea, somewhat clumsily absorbed from the English case law and the American insolvency statutes: A preference was illegal where the debtor created one "for the purpose of giving ... preference or priority" to a creditor, "in contemplation of bankruptcy."278 But during the brief life of the the 1841 Act, the courts aggressively renewed their campaign to remove from American preference law the vestiges of the subtle parsing of mental states that had characterized English law and American state law.

Judicial development of a formalist preference law. The key designer of the new formal, objective American preference doctrine was Justice Story, who, in a rather ironic way, worked within and inverted the mens rea approach to preference law.279 Even if the trustee or general creditors had to prove that the debtor intended to give a preference, the courts could finesse the issue by using a doctrinal trope developed in the criminal law, and in the law of homicide in particular: the rebuttable, or even conclusive, presumption that a person intends the natural and

probable consequences of his acts.280 If a debtor pays a particular creditor shortly before bankruptcy, the natural and probable conse-

quence is a preference that depletes the entitlement of the general creditors. Justice Story finessed the obscurity, and potential circularity, of the notion of "contemplating bankruptcy" by essentially translating it into the more determinate notion of "contemplating insolvency." Cleverly adapting and manipulating criminal law doctrine, Justice Story held that if a debtor knew he was insolvent or on the verge or insol-

vency, the court could infer that the debtor intended this natural and

probable consequence of his conduct.281

276. Act of Aug. 9, 1841, ch. 9, 5 Stat. 440 (repealed 1843). 277. Id. ? 2, at 442. The fixed time period entered the law indirectly, in the clause ex-

cepting from the preference prohibition any bona fide "dealings or transactions" between the debtor and any person lacking notice of the debtor's act of bankruptcy or intention to go bankrupt occurring more than two months before the filing of the petition. Section 2 also

adapted English doctrine by denying discharge to a preferring debtor who is a voluntary bankrupt, unless a majority of the nonpreferred creditors assent.

278. Id. 279. See Arnold v. Maynard, 1 F. Cas. 1181 (C.C.D. Mass. 1842) (No. 561); Everett v.

Stone, 8 F. Cas. 898 (C.C.D. Me. 1844) (No. 4577). 280. See Commonwealth v. Chance, 174 Mass. 245, 54 N.E. 551 (1899) (Holmes, CJ.). 281. The most important opinion is Arnold v. Maynard, 1 F. Cas. 1181 (C.C.D. Mass.

1842) (No. 561), wherein Justice Story broadly construed the 1841 statute's act-of-bankruptcy clause to include a preference as well as a fraudulent conveyance. Ar.old presents one of the classic situations in Anglo-American preference law: 'he debtor acknowledged that he seemed to be broke when he paid the favored creditor, but argued that he had every hope of a financial revival, and so had no actual intent or expectation to enter bankruptcy. Justice Story

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Thus the vague normative standard of Mansfield was twisted to become a virtual rule forbidding the payment. Justice Story acknowledged the problem discerned in the common law of preferences-that the subtle mental states of debtor and creditor might lie beyond all dis- cerning or interpretation. But he used that very premise to invert the common law, since sustaining the common law approach

would put it in the power of the debtor to avail himself of all the benefits of the act, and yet would enable him at the same time, upon his own secret and unknown intention-inscrutable to others, and admitting of no possible certainty-to do the very acts, which the statute was designed to prevent.282

Henceforth, the bankruptcy courts were to examine the objective situation of the debtor, not the elusive facts of his motive or the subtleties of Mansfield's "pressure" doctrine. The new American preference law thus purported to remove some of the moralistic intensity of English law: Relying on what is almost an automatic rule to establish the debtor's "fault," it diluted the very concept of culpability in the preference.

firmly rejects this argument from subjective intention, declaring that the debtor's "mere private intention cannot overcome the legal intention ... of the act." Id. at 1183. So long as the debtor knew he was insolvent when he paid a creditor, the law will simply infer the ultimate legal fact that the debtor intended to go bankrupt and prefer the creditor.

Justice Story manipulates criminal law doctrine to make his point. He attributes to the debtor a sort of mistake-of-law mens rea defense, imagining the debtor to say disingenuously that he never dreamed bankruptcy, and the legal advantages of bankruptcy, would follow from his temporary insolvency. Justice Story then simply invokes the doctrine that ignorance of the criminal law cannot excuse. He also warns that if a debtor could escape the preference prohibition by proving his mental innocence at the moment he paid the creditor, the debtor could nevertheless shortly thereafter form the intention to go bankrupt, and manipulate the bankruptcy law anyway. Justice Story thus fends off the debtor's attempted invocation of the criminal law analogy that a culpable act must reflect a concurrence of act and mens rea. Id. To "contemplate bankruptcy" really means to advert to one's insolvency. Justice Story even does an etymology on "bankrupt"-it means the raw fact of having one's bench broken, not necessarily any conscious intent to manipulate the law.

Justice Story also tried to use his strict liability theory to resolve the confusion between the English "pressure" theory of the preference and the American doctrine of the equitable lien. Our colonial law had awarded specific performance of promises to creditors who had received unexecuted promises of security transfers, even after the debtor went bankrupt. See Glenn, supra note 4, at 533-34. This concept of the equitable lien logically overlapped with the English doctrine that permitted a preferential transfer to a creditor where the debtor did not act "voluntarily," and some courts construed the 1841 bankruptcy act to uphold this very large exception to the preference prohibition. E.g., Smoot v. Morehouse, 8 Ala. 370 (1845). Justice Story, however, insisted that his objective view of the mental state of the preferring debtor would invalidate these specific performance decrees as well. Arnold, 1 F. Cas. at 1184- 85. For a fuller discussion of the equitable lien in preference law, see notes 413-450 infra and accompanying text.

282. Arnold, 1 F. Cas. at 1183. Justice Story also notes that the English mens rea doctrine of preferences became inapposite to American law once we adopted a broad, democratic notion of voluntary bankruptcy for nonmerchants. Id. Once it abolished the trader rule, American bankruptcy law had to regulate a much wider universe of debtors and transactions, and, in a sense, had already automatically incorporated the principle of willful, volitional debtor conduct in the very definition of voluntary bankruptcy. One reason why American law diverged was simply that the bankruptcy clause covered all debtors, and hence had to capture a larger universe than English traders.


The advent of a formal, mechanistic preference doctrine in Ameri- can bankruptcy law may derive, of course, from more general legal and political forces in early nineteenth century American law. A mechani- cally applicable preference rule might serve the professed needs of "market certainty" like other commercial law rules, as for example the ones concerning the negotiability of instruments, which we associate with emerging market capitalism in the nineteenth century. The efforts of Justice Story and others to replace the obscurities and subtleties of Mansfield's preference doctrine with a new, lean, clarifying rule also may reflect the influence of the general movement toward legal codification.283 The "codification movement" had complex and even paradoxical sources. Even if we can call it a coherent movement, it borrowed strength from several diverse sources which, for different reasons, converged in attacking the elitist encrustations of the English common law: Jacksonian radicalism, concerned with replacing arcane feudal doctrines with clear rules for the common citizen and with removing legal power from elitist judicial discretion;284 capitalist legal instrumentalism, concerned generally with supposedly uncontested goals such as market certainty and legal adaptability; and more generally, Benthamite, utilitarian concerns with law reform.285 Indeed, Justice Story's important role as a mediating figure between political radicalism and legal elitism in the history of codification286 suggests a strong connection between the forces of codification and specific developments in bankruptcy law.

After the repeal of the 1841 Act, there was no great pressure for new legislation because of prosperity, and because of the passage of state stay and insolvency laws-until the Panic of 1857 prompted calls for yet another law.287 The debate again became a confusion of fault- finding and contradictory interest-claiming.288 Eastern interests spon- sored a bill in 1864 to relieve the disease of speculation, and Western interests immediately denounced the bill as a symptom and a cause, not a cure.289 The 1866 edition of the debate, spurred by a serious depre-

283. See generally Gordon, Book Review, 36 VAND. L. REV. 431 (1983). 284. C. COOK, THE AMERICAN CODIFICATION MOVEMENT: A STUDY OF ANTEBELLUM LEGAL

REFORM 158-68 (1981). 285. Gordon, supra note 283, at 445-52. 286. Id. at 434, 446. 287. C. WARREN, supra note 212, at 87-88. James Buchanan, in 1827 and 1841, had op-

posed any national bankruptcy legislation because he apparently thought such a law would

punish or constrain debtors. In 1857, however, as President he recommended a law, applicable to banks, whose experimenting with paper he blamed for the panic. Id. at 95-96. Conk-

ling sought a broader bill, arguing that suretyship and preferences were creating a phony credit system that was wrecking the country. Id. at 101. On Conkling's complaints about

preferences, see E. JAMES, SUGGESTIONS FOR AN ACT TO ESTABLISH A UNIFORM SYSTEM OF

BANKRUPTCY (1864). 288. C. WARREN, supra note 212, at 101-02. 289. Warren nicely summarizes the four ritualized congressional factions: "those who

opposed any bankruptcy law at all, those who opposed any bill providing for involuntary bankruptcy, those who favored a bill largely for the benefit of creditors, those who advocated

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ciation in currency, revived the various permutations of conflict, and resulted in an unstable compromise bill largely promoted by Northern creditors of Southern debtors.290

The 1867 Act291 was the next erratic step in establishing formal categorical rules for bankruptcy process in general. It fulfilled the mandate of the commercial ideologues of the late eighteenth century, removing the last vestige of the trader rule by encompassing "any person" within the sweep of involuntary as well as voluntary bankruptcy.292 And it took another step toward the formal rationalization of preference doctrine, expressly establishing the preference as an act of bankruptcy and fixing the time period for the danger zone of preferences in its technical modern form.293 In defining the debtor's mental state in a preference, it offered yet another verbal formula, declaring a preference where "any person, being insolvent, or in contemplation of insolvency, within four months before the filing of the petition [makes payment to a creditor] with a view to give a preference ...."294

Borrowing from state law to replace "in contemplation of bankruptcy" with the fact or contemplation of insolvency,295 the 1867 statute avoided the conceptual muddle that Story had to solve earlier, and thus represented a further step toward objectifying the mental state of the preferring debtor. And despite potential for mens rea scholasticism in the new phrase "with a view to give a preference," the courts took the occasion of a new short-lived bankruptcy act to reinforce the notion that the intent to prefer was a legal vestige, to be almost automatically

a complete and permanent bill for both debtor and creditor." Id. at 103. The new law allowed state exemptions, and, for one year, offered discharge conditional on assent of a majority of creditors. The supporters of voluntary bankruptcy opposed it because the involuntary section applied to nontraders and thus might force the farmers and mechanics of America into bankruptcy. Soon after the law passed, people pressed for further debtor relief. The creditor's vote on discharge was postponed another year. The law generally proved a failure-a huge number of voluntary bankruptcies seemed to result in corruption and low dividends. Id. at 112. See Dunscomb, Bankruptcy: A Study in Comparative Legislation, in 2 COLUMBIA COLLEGE STUDIES IN HISTORY AND ECONOMICS 146 (1892-1893). There was much fighting over the creditor assent provision, which many saw as a device to be used by crooked businesses and an opportunity for collusion. The interests who fought to suppress voluntary bankruptcy were criticized for just inviting debtors to increase their preferences. C. WARREN, supra note 212, at 121.

290. Id. 291. Act of Mar. 2, 1867, ch. 176, 14 Stat. 517 (repealed 1878). 292. Id. ? 39, at 536. 293. Id. ? 39, at 536, ? 35, at 534. The statute established a zone of four months before

the date of the petition, the measurement used by American bankruptcy law until 1978. The 1867 Act disqualified a preferring debtor from discharge, id. ? 29, at 531, but unlike the 1841 Act, extended the disqualification to involuntary bankrupts.

294. Id. ? 35, at 534. The preference rule also required proof that the preferred creditor had reasonable cause to believe that the debtor was insolvent, an issue I address in detail below. See notes 316-341 infra and accompanying text.

295. The Massachusetts insolvency law, the model for the 1867 Act, required proof that the debtor contemplated insolvency. See 1841 Mass. Acts 402, ch. 124, ? 3. The courts, however, soon transformed that into a Story-like inference from the debtor's mere awareness of his insolvency. See Denny v. Dana, 56 Mass. (2 Cush.) 160 (1848).

81


presumed296 from the mere fact of the debtor's insolvency.297 The courts recognized the conceptual futility of basing a preference doctrine on fastidious questions about creditor "pressure" on the debtor.298 They also warned of the dangers to progressive modern commerce if clever debtors and creditors could escape the preference prohibition, by disingenuously declaring their innocence of the debtor's imminent disaster, while they played with other people's money.299

Finally, the Supreme Court in 1871 firmly adopted Justice Story's objective rule that the debtor's culpable intention inheres in the natural and probable consequences of his conduct. Holding that payment would remain with the favored creditor only if the insolvent debtor could bear the rather overwhelming burden of proving he was wholly ignorant of his insolvency,300 the Court essentially removed the principle of debtor culpability from American preference law.

The pretense of formal rationality of American preference law was thus well established in the preference cases decided during the erratic life of the national bankruptcy act, in the latter half of the nineteenth century. Yet a strong undercurrent of legal agnosticism persisted, sus-

taining the view of preferences established under the English bank-

ruptcy law and the American insolvency laws. The old skepticism about

296. American law ultimately waffled on whether the presumption was "conclusive," see Toof v. Martin, 80 U.S. (13 Wall.) 40 (1871), or "prima facie," see Wager v. Hall, 83 U.S. (16 Wall.) 584 (1872).

297. Though the 1867 Act did not define insolvency, the courts inferred the traditional notion of "equitable" insolvency-whether the debtor was able to pay his debts in due course. Buchanan v. Smith, 83 U.S. (16 Wall.) 277 (1872); Toof v. Martin, 80 U.S. (13 Wall.) 40

(1871). This definition itself is part of an important undercurrent of controversy in the devel-

opment of preference law. The rule of "equitable insolvency," though supported by urban

merchants, was denounced by farmers and country merchants who found it antipathetic to their rather relaxed business methods. C. WARREN, supra note 212, at 113-14. Yet when Con-

gress later shifted to the "balance-sheet" rule of insolvency, which measures whether the debtor's assets exceed his liabilities, it only managed to underscore one of the fundamental issues in the rules-standards debate in preference law.

The balance-sheet rule seems a logical step in developing a formalist, technical preference law, yet allegedly preferring debtors and their favored creditors both argue that when

the debtor's business is unstable, they have no ready way of knowing whether insolvency has

occurred. For a discussion of whether preference law should revert to equitable insolvency, see notes 555-561 infra and accompanying text.

298. E.g., In reJackson Iron Mfg. Co., 13 F. Cas. 260 (E.D. Mich. 1877) (No. 7153). 299. Forbes v. Howe, 102 Mass. 427 (1869); In re George, 1 Lowell 409, 10 F. Cas. 193-

94 (D. Mass. 1869) (No. 5325) (starkly confirming Story by emphasizing that "every sane

person is presumed to intend the well-known consequences of his acts"). 300. The transfer, in any case, by a debtor, of a large portion of his property, while he is insolvent, to one creditor, without making provision for an equal distribution of its proceeds to all his creditors, necessarily operates as a preference to him, and must be taken as conclusive evidence that a preference was intended, unless the debtor can show that he was at the time ignorant of his insolvency....

Toof v. Martin, 80 U.S. (13 Wall.) 40, 48 (1871). The debtor in Toof claimed English-style innocence about the preference because he knew he had assets, if not liquid money, with which he might revive his credit, but the Court invoked the equitable insolvency test with a

vengeance.


the ability of lawmakers to draw sharp and categorical moral distinctions among debtor-creditor transactions continued to appear in the form of the imperious opinion that essentially ignored the categorical rules about preferences where the transaction did not match the judge's negative moral imagery of the collusive preference.30l Some judges claimed simply to know illegal preferences when they saw them.

Of course, the more overt subversion of the American campaign for permanent, formal bankruptcy regulation happened in Congress, as the cyclic ritual of destruction of national bankruptcy legislation recurred. Denounced as an "assault upon public morals, in its violations of good faith, in its craft, its falsehoods and frauds," the 1867 Act was repealed in 1878.302 A year later, however, commercial organizations sought a new bill, the Dunciad of moral and economic arguments was reenacted, and the struggle toward the great 1898 Act began.303

The century-long battle over a bankruptcy law in America might be seen as part of the general conflict in American law between the self- perceived forces of rationalization, abstraction, and formalism against the sentiments of cooperation, informality, and local and personal loyalty. Generally, the forces that resisted the bankruptcy law were re-

301. E.g., Mundo v. Shepard, 166 Mass. 323, 44 N.E. 244 (1896) (Holmes,J.). In this state insolvency case, Holmes concedes that the debtor, a milliner, knew she could not pay her debts when due, but he notes that she deemed it indecorous for a fashionable milliner to press her own customers and that she reasonably believed that she was balance-sheet solvent. Once again, we have the scenario of the debtor who is legally insolvent but who believes that paying a favored creditor might actually get the business back afloat. Holmes declares the debtor's position to be perfectly sound and ethical under the specific circumstances, and so he archly nullifies any statutory rule to the contrary in favor of his self-defining customary standard.

302. C. WARREN, supra note 212, at 122 (statement of Sen. McCreery); see 7 CONG. REC. 2416-20, 2512-16, 2954-65 (1878) (discussion of bill to repeal bankruptcy law). The clamor for repeal, though, came chiefly from creditors. Senator Sherman greeted the repeal by saying there would be an end to bankruptcies and profligacy and that "we will all stand upon a better basis-on the basis of our property and our deserved credit." C. WARREN, supra note 212, at 127.

303. C. WARREN, supra note 212, at 128. Opponents included wholesale merchants in big cities, because their collection and information network ensured that they could get preferences. Id. at 129; see 14 CONG. REC. 38-49, 77-87, 109-17, 144-51, 164-72 (1882) (debate on bankruptcy system). Southerners still opposed it as an invitation to evil and profligacy. Mid- western jobbers supplying small Western traders feared that Eastern manufacturers, whose access to easy money enabled them to buy Western paper, would throw them into bankruptcy when they were on the borderline. C. WARREN, supra note 212, at 131. The populist South still opposed it all, id. at 135-37, but the speculators in the West were attracted to a new provision for voluntary bankruptcy. Id. at 134. The usual conflicts arose. The Northerners invoked the trope that all commercial actors are united in a great chain of trade:

There is no fixed class of debtors and creditors. The largest body of creditors are the working men, with savings in the banks. The largest debtors are men of means in large business corporations, obliged constantly to hire money.

Id. at 137 (statement of Rep. Dingley). Reflecting the confusion further, one Missourian even argued in 1896 that preferences are not necessarily bad, and that while a bankruptcy law is not necessary on those grounds, it is necessary to relieve poor debtors. Id. at 139 (statement of Rep. DeArmond). Others argued that preferences might simply be a way for the poor Southern farmer to honor his special obligation to his local bank and denounced the bankruptcy law as a way for grasping Northern creditors to snare their share. Id. (statement of Rep. Terry).


sisting the expansion and abstraction of the credit culture, the shift from a world dependent on a debtor's reputation to a world dependent on formalized paper.304 Only at the end of the century did the forces of rationalization succeed in enacting a relatively durable national bank-

ruptcy law. The turn-of-the-century posture was perfectly captured by Professor James Olmstead, who summarized in 1902 the purportedly robust, unsentimental, scientific view of bankruptcy that seemed to prevail. Professor Olmstead firmly asserted that the "true" functions of

bankruptcy are distribution and administration, not moral governance: [S]ound statesmen and legislators in Congress have ascribed to the regulation of commerce the true reason for bankruptcy legislation .... In America, unfortunately, bankruptcy has come to be regarded as a sort of poor-debtor law, as a species of clearing house for the liquida- tion of debt, or, as some have expressed it, a "Hebrew Jubilee," whereby the people at intermittent periods receive emancipation from their debts, are rehabilitated, and the "dead wood" of the community is thereby eliminated.305

In short, moral impulses, whether punitive or humanitarian, have no

place in bankruptcy law. Senator Lindsay of Kentucky in 1897, speaking of the new bankruptcy law, confidently asserted the law's scientific

pretense: This measure is the most thoroughly analyzed piece of proposed legislation I have ever examined. Every conceivable contingency seems to have been thought out and carefully provided for. It is my judgment, that if enacted it will be a conspicuous example of matured legislation and remain for all time as an example of how laws should be prepared before being placed upon the statute books.306

IV. THE SCIENTIFIC TRIUMPH OF 1898

The scientific pretenses of the 1898 Act were manifest in its elaborate scheme for regulating preferences. As if to emphasize that preference law had become an amoral, nonpunitive regulatory scheme, the statute no longer made the giving of a preference grounds for denying the debtor a discharge,307 and, as if to underscore the formalist spirit of

304. P. COLEMAN, supra note 213, at 282-93; M. HORWITZ, THE TRANSFORMATION OF AMERICAN LAW, 1780-1860, at 228-29 (1977).

305. Olmstead, Bankruptcy: A Commercial Regulation, 15 HARV. L. REV. 829, 834-35 (1902). Professor Olmstead offers endless quotes from post-Civil War Congressmen, saying that the modern commercial character of the nation demanded a bankruptcy law.

The notion of cyclical, emancipating "jubilees" for debtors is still alive. In the Midwest, where thousands of farmers now face punishing insolvency, an evangelical movement has

sprung up invoking the Biblical concept of a "land Sabbath" at which farmers declare them-

selves "common-law free men" and at which all land is relieved of mortgages. N.Y. Times, Feb. 18, 1986, at 2, col. B9.

306. Olmstead, supra note 305, at 842. 307. Act of July 1, 1898, ch. 541, 30 Stat. 544. Since the fraudulent conveyance re-

mained a ground for denial of discharge, Congress had taken a firm step toward disentangling the old notion of the "fraudulent preference." See Feder v. Goetz, 264 F. 619 (2d Cir. 1920).

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the new national law, it replaced the old and controversial equitable insolvency test for bankruptcy with the new balance sheet test, supposedly more mathematically determinate, but in the end equally controversial.308 Under the complex new preference scheme, the various sanctions for and consequences of the preference appear in sections scattered throughout the statute.309 The formal rationality of the scheme, however, quickly proved an almost comic failure. Though Congress, as discussed below, utterly failed to grasp the difficulty of applying formal time zone rules to state-created security interests, it created a more immediate confusion as well: None of the sections expressly purported to define a preference, and the courts ultimately foundered over whether the elements of the preference in the most detailed provision, section 60(b), were supposed to apply to the others.310

A. The New Rational Preference Law

There was one near-certain thing about the statute: It confirmed the theme of nineteenth century preference law that subjective questions about the debtor's mental state were virtually irrelevant to the definition of an illegal preference. Indeed, the crucial provisions about preferences did not directly mention the debtor's state of mind.311 Thus, the deeply-rooted English concept of the debtor's commercial or moral culpability for making a preference disappeared from American law- at least as a visible and distinct concept.312 One of the subtle

308. Act of July 1, 1898, ch. 541, ? l(a)(15), 30 Stat. 544. 309. Id. ? 3(a) (preference is an act of bankruptcy); id. ? 60(b) (preference is voidable by

the trustee under certain conditions); id. ? 60(c) (a preferred creditor may set off against any voidable payment any new credit he extends to the debtor after the preference); id. ? 57(g) (any creditor filing a claim against the estate must first surrender any preference it has received); id. ? 68(b) (by implication, in the case of mutual credits, forbidding a debtor of the bankrupt estate to use a preference as a set-off).

310. See notes 313, 326, 332 infra and accompanying texts. 311. Only in one place does the statute even directly refer to the debtor's state of

mind-section 3(a), which makes a payment to a creditor "with intent to prefer" an act of bankruptcy. This provision is innocuous, since the creditors seeking to throw the debtor into bankruptcy could normally rely on the other, more "constructive," acts of bankruptcy in the section, and, in any event, the act-of-bankruptcy rules are irrelevant in voluntary bankruptcies. The debtor's mental state receives no direct mention in ? 57(g) on surrender of preferences by claiming creditors or in ? 60 on voidable preferences.

312. Alexander v. Redmond, 180 F. 92 (2d Cir. 1910). The odd language of ? 60(b) might seem to permit the debtor's mens rea to sneak back in as an issue indirectly, by a kind of renvoi through the creditor's "reasonable cause to believe that [a preference] was intended." In Alexander, though, "all the parties suspected that it was an illegal preference, and the bankrupt corporation was in hopes that, by the help of its other creditors, it might weather the storm ...." Id. at 95. Nevertheless, the court read ? 60 as conclusively presuming an intent to prefer from the effect of a preference and from mere knowledge of the debtor's insolvency. The 1910 amendment clarified the issue by speaking of the creditor's reasonable cause to believe that the effect of the payment would be a preference. Act of June 25, 1910, ch. 412, ? 11, 36 Stat. 838, 842. But the courts later stated that the amendment had merely clarified what had always been the rule. Hewitt v. Boston Straw Bd. Co., 214 Mass. 260, 101 N.E. 424 (1913). Indeed, under the 1898 Act, the morally admirable motive of a preferring debtor would not undo the illegality. See Clarke v. Rogers, 228 U.S. 534 (1913) (embezzling trustee who restored funds to trust just before he went bankrupt committed illegal preference).

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atavisms of the suppressed principle of debtor culpability was the effort-stubborn or erroneous-of lawyers and some courts to revive the familiar old image of the "fraudulent preference." In fact, Congress had unfortunately left a home for this legal anachronism in the vague provision for fraudulent conveyances in section 67(e). The Supreme Court quickly suppressed this maneuver with a stern lecture on the fundamental differences between the preference and the fraudulent conveyance.313 It then tried to cap the issue with a firm pronouncement that the former was malum in se while the latter was malum prohibitum.314 The notion that the preferring debtor could persist in litigating his moral innocence continued to erupt erratically in the lower courts,315 but the old cultural debate over guilt and innocence in preferential transfers had mostly moved to another arena-the mind of the creditor.

1. The new rules of creditor behavior.

The 1898 statute illuminates a slow but dramatic shift in American law, from the notion of the debtor's moral duty to his creditors, to the

313. Coder v. Arts, 213 U.S. 223 (1909). This case presented a difficult permutation of debtor-creditor mens rea for the trustee or general creditors to litigate. When the debtor made an eve-of-bankruptcy mortgage to the mortgagee, the debtor knew he was insolvent, but the mortgagee was wholly innocent. Thus, though the debtor was sufficiently culpable, the transfer could not be avoided under ? 60(b) because the creditor had no reasonable cause to

suspect a preference. The trustee thus had to try to avoid the transfer under ? 67(e), which threatened with avoidance any transfers to creditors who had not given fair present consideration. But the Court firmly read ? 67(e) as incorporating only the common law of fraudulent

conveyances, not the modern law of preferences. Thus, to win under that section, the trustee had to prove the debtor's aggravated moral culpability-his actual intent to "hinder, delay, and defraud" the other creditors-rather than his mere preference for one creditor over the

others. Finessing the subtle distinctions among these mental states, the Court insisted that it had cleanly disentangled preferences from fraudulent conveyances. Id. at 241.

314. Van Iderstine v. National Discount Co., 227 U.S. 575 (1913). Here again, the

debtor knew he was insolvent, but the transaction did not meet the elements of a preference. The transferee was actually a new financer lending money to the debtor to help pay other

creditors while taking an assignment of the debtor's accounts. The trustee thus had to

recharacterize the transaction as a fraudulent conveyance, but once again could not prove the

debtor's aggravated mens rea required by ? 67(e). The Court acknowledged that the notions

of preference and fraudulent conveyance might overlap, but: The statute recognizes the difference between the intent to defraud and the in-

tent to prefer, and also the difference between a fraudulent and a preferential con-

veyance. One is inherently and always vicious; the other innocent and valid, except when made in violation of the express provisions of a statute. One is malum per se and

the other malum prohibitum,-and then only to the extent that it is forbidden. A fraudulent conveyance is void regardless of its date; a preference is valid unless made

within the prohibited period. Id. at 582.

315. In re Steininger Mercantile Co., 107 F. 669 (5th Cir. 1901); Sherman v. Luckhardt, 67 Kan. 682, 74 P. 277 (1903); Webb's Trustee v. Lynchburg Shoe Co., 106 Va. 726, 56 S.E. 581 (1907). These deviant cases were supposedly overruled and rebuked years later in Irving Trust Co. v. Chase Nat'l Bank, 65 F.2d 409 (2d Cir. 1933). In Irving Trust, the court acknowl-

edged that the distinction between the debtor's intent to prefer and intent to "hinder, delay, and defraud" was often elusive but rejected the trustee's effort to revive the notion of the

"fraudulent preference," fearing that resort to ? 67(e) in these cases would essentially under-

mine the entire scheme of preference avoidance in ? 60. Id. at 411-12.


notion, essentially irrelevant under English doctrine,316 of the preferred creditor's moral duty to his fellow creditors.

The first American preference statute, enacted in 1841, contained an obscure provision suggesting that the good faith of the favored creditor might render a preferential payment legal.317 But Justice Story quickly moved to drain that provision of any subjective moral content as firmly as he had done on the debtor's side.318 The more elaborate preference scheme in the 1867 statute reintroduced a form of creditor mens rea as an element of the voidable preference.319 This time the courts exploited the occasion to invest the purportedly formalistic new preference concept with old-fashioned normative content,320 though Congress, hinting at what would later become the ritual pas de deux of American bankruptcy law, was engaged simultaneously in enhanced formalistic counterpoint.321

316. Under English doctrine, the focus was almost wholly on the debtor, and the creditor could actually retain his payment if he obtained it through diligence and pressure, though England did tinker with a savings clause for "ordinary course" transactions. See text accompanying note 177 supra.

317. Act of Aug. 19, 1841, ch. 9, ? 2, 5 Stat. 440, 442. The statute first defined a preference as a payment to a creditor other than a bona fide creditor without notice. It then excluded from the definition any bona fide transactions with the debtor made more than two months before the petition, if the other party had no notice of the debtor's act of bankruptcy or intent to become a bankrupt.

318. See Everett v. Stone., 8 F. Cas. 898 (C.C.D. Me. 1844) (No. 4577).Judge Story held that where the creditors had reason to know the debtor was insolvent, they were legally presumed to know they would soon have a legal right to induce involuntary bankruptcy. "[The creditors] must be presumed to know the law, and cannot set up their ignorance as a justifica- tion." Id. at 901.

319. Act of March 2, 1867, 14 Stat. 517. Under ? 35, a payment was void if the creditor had "reasonable cause to believe [that the debtor] is insolvent" and that the transfer "is made in fraud of the provisions of this act." Id. at 534.

320. E.g., Grant v. National Bank, 97 U.S. 80 (1877). Grant is an early example of an American decision trying vigorously to preserve some normative standard which would protect morally plausible transactions in an increasingly formalistic preference scheme. The Court acknowledged in dicta that the "reasonable cause" provision in ? 35 means only reason "to suspect" that the debtor is insolvent, but insisted that the test must be stricter:

To make mere suspicion a ground of nullity in such a case would render the business transactions of the community altogether too insecure. ... A man may have many grounds of suspicion that his debtor is in failing circumstances, and yet have no cause for a well-grounded belief of the fact. He may be unwilling to trust him further; he may feel anxious about his claim, and have a strong desire to secure it,-and yet such belief as the act requires may be wanting...

The debtor is often buoyed up by the hope of being able to get through with his difficulties long after his case is in fact desperate; and his creditors, if they know any thing of his embarrassments, either participate in the same feeling, or at least are willing to think that there is a possibility of his succeeding. Id. at 81-82. In Grant, the creditors "were alarmed; but they were not without hope." Id. at

82. They thought they knew that the debtor "borrowed money; that he had to renew his note; that he overdrew his account; that he was addicted to some incorrect habits; that he was somewhat reckless in his manner of doing business; that he seemed to be pressed for money ... ." Id.; cf. Shelley v. Boothe, 70 Mo. 74, 77 (1881) (creditor under state law can take transfer from a debtor, knowing that other creditors are attaching those, so long as transfer is not "mere screen to secure the property to [debtor]" and creditor did not "desire" to aid the debtor in defeating other creditors).

321. Act of June 22, 1874, ch. 390, ? 11, 18 Stat. 178, 180 (preference voidable only


The scholarship has offered little explanation as to why this shift to a focus on the creditor's state of mind occurred in the United States. One answer may lie in the American invention of voluntary bankruptcy. Voluntary bankruptcy was inspired by the "democratization" of the cultural role of the merchant encouraged by the commercial ideo- logues322-though later denounced by critics like Hopkinson.323 Once American commercial law made the intellectual breakthrough of con- ceiving voluntary bankruptcy, it divorced bankruptcy from the English model of the culpable act of the debtor. But when instead American bankruptcy law aggressively took on the spirit of equality as equity, the suppressed moral questions about bankruptcy shifted to the creditor's collegial duty to uphold this rather abstract collectivist spirit.

In any event, the 1898 Act sustained the principle of requiring some culpable mental state in the creditor. Inevitably, it tinkered with the older verbal formula, using a phrase that suggested Congress had not yet wholly disentangled itself from at least the language of the older English concern with the debtor: The trustee could now avoid a payment only if the favored creditor had "reasonable cause to believe that it was intended . . . to give a preference."324 A 1910 amendment tinkered further to remove this debtor-focused vestige, and the question became whether the favored creditor had reasonable cause to believe the payment "would effect a preference."325

Meanwhile, however, the persistent ritual of judges undoing Con-

gress' effort to drain the moral content from the preference law took a

quirky but revealing turn. Assuming that the courts could properly construe the statutory definition of the creditor's mens rea under the voidability clause of section 60(a), Congress, in its supposedly systematic plan to lay out the incidents of preferences, forgot to decide, or at least to say, whether the section 60(b) mental state requirement applied elsewhere in the statute. Most notably, section 57(g), which required creditors filing claims against the bankrupt's estate to first surrender

any preferential payments they had enjoyed, simply used the word

"preference" without either defining it or incorporating any definitional elements from elsewhere in the statute.326

2. The agnostic view reappears.

This statutory gap soon caused a great deal of lower court division

where creditor has actual knowledge that transfer was made fraudulently in violation of Act); see also Burdick v. Jackson, 7 N.Y. Sup. Ct. 488 (1876).

322. See notes 180-211 supra and accompanying text. 323. See notes 254-263 supra and accompanying text. 324. Act of July 1, 1898, ch. 541, ? 60(b), 30 Stat. 544, 562. 325. Act of June 25, 1910, ch. 412, ? 11, 36 Stat. 838, 842. 326. Act ofJuly 1, 1898, supra note 324, at 560. The equivalent "surrender" clause in the

1867 Act, supra note 319, ? 23 at 528, had only put the choice on creditors who had "reasonable caused [sic] to believe" that the debtor gave the payment "contrary to any provision of this act."

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and is the basis for one of the most remarkable judicial opinions in the entire history of bankruptcy law. Referee Hotchkiss' 1901 opinion in In re Hall327 is justly famous for containing perhaps the best scholarly summary of the twisted history of Anglo-American preference law.328 What has escaped attention, however, is that the Hotchkiss opinion also contains one of the most illuminating episodes in the long moral and intellectual battle over the conflict between technical rules and normative standards in bankruptcy.

As Hotchkiss sets up the morality play, the victim-protagonist is the ordinary course trade creditor of the debtor, who has been extending rather conventional credit for supplies and accepting regularly sched- uled and modest payments. The debtor suddenly goes into voluntary bankruptcy, and the event is a total surprise to the creditor-and apparently even to the debtor.329 The trustee concededly had no unilateral power to recover the payments, because the creditor plausibly had no reason to believe the debtor was insolvent or facing collapse. But the creditor still had a large claim against the estate, the late payments being only partial. The trustee argued that the creditor had to surrender the modest late payments regardless of his innocence, since section 57(g) speaks baldly of "a preference," and does not limit itself to a subjectively culpable one.330 Hall thus presents one of the standard themes in preference law with remarkable prescience. Hotchkiss un- covers in the scientistic scheme of the 1898 Act a destabilizing problem: the fate of the "ordinary course" creditor. This was one of the key factors that eventually undermined the purportedly scientific structure of the great successor Bankruptcy Code of 1978.331

Treating the issue as a rather technical one of legislative intent, Hotchkiss offers a clever reading of the legislative history to hold that the section 60(b) mental state test for the favored creditor must be read into section 57(g).332 But, in reaching this conclusion, Hotchkiss does not rely primarily on legal process arguments about interpretation. Rather, he relies on a firm belief in the moral basis of bankruptcy law and a disbelief that Congress intended to go as far as some courts had suggested in turning the preference prohibition into a harshly categorical rule of strict liability. For Hotchkiss, to read the statute as requiring surrender of any innocuous payment the debtor innocently received af-

327. 4 AM. BANKR. REP. 671 (W.D.N.Y. 1900). 328. Glenn, supra note 4, at 528. 329. Hall, 4 AM. BANKR. REP. at 672-73. 330. Id. at 674. 331. See notes 506-525 infra and accompanying text. 332. Hotchkiss notes the general assumption that ? 57(g), though silent on any time

zone for preferences, is generally assumed to incorporate the 4-month rule from ? 60(b). Thus Hotchkiss sees no barrier to incorporating the ? 60(b) "reasonable cause to believe" element as well. Hall, 4 AM. BANKR. REP. at 686-88. He also provides evidence that the drafters intended ? 60(a) to be the general definition of preference in the statute, and that ?? 60(a) and 60(b) were to be read as a unit. Id. at 690-92.

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ter the debtor went insolvent would be to "charge the bankruptcy law and its framers with the paternity of a commercial Frankenstein."333 Hotchkiss concedes that any mental state requirement will impinge on perfectly ratable distribution, but views this fact with Burkean tolerance: "Creditors will insist that their receipts were in due course-this they have been doing ever since there was a bankruptcy law, and some guilty creditors will escape with more than their share."334

The alternative is far worse. The categorical reading would mean that no creditor who innocently receives a payment would know for four months whether he could keep it. To file his claim against the estate, he would have to surrender his payment to get into court on his claim. Yet at the same time, his wholly "guilty" colleague who had accepted a full, truly (culpably) preferential payment could stay away from bankruptcy court and likely escape with his money while the trustee pondered the difficulty of litigating against him under section 60(b).335

Hotchkiss expresses bitter cynicism about the shibboleth that

"equality is equity"336 and outrage at the notion of creditors suffering any sanction from payments on legitimate debts when the payments evince no aspects of moral culpability: "Innocent of guile, they are

guilty."337 From "time immemorial" the preference had been a moral as well as a legal wrong. If section 57(g) did not require proof of culpability, it had invented "a fraud with none of the elements of fraud in it."338 In a sense, Hotchkiss demonstrates that if we do not retain at least a negligence principle in preference law, we have, in a sense, fallen prey to the fallacy of the infinite regress in the preference law time zone, where bankruptcy always begins four months before bank-

ruptcy begins.339

333. Id. at 678. 334. Id. 335. Id. The partly preferred innocent creditor would also suffer in comparison to an-

other creditor who was equally innocent but who, by the grace of the debtor, had received full

payment. 336. Id. at 685-86. Hotchkiss decries "the senseless purpose of creatong [sic] a fraudless

fraud, to the confusion of business and the lasting hurt of our credit system," id. at 692,

insisting that his reading of the statute "draws a right distinction between the guilty creditor and the innocent creditor," id. at 693.

337. Id. 338. Id. at 688. 339. Id. at 689-90. The immediate fate of the Hall decision has some special ironies.

The Supreme Court, in a relatively rare expression of harmony with the progressive, regulatory spirit of the 1898 Act, quickly overruled the technical holding in Hall in Pirie v. Chicago Title & Trust Co., 182 U.S. 438 (1900). The Court analyzed the posture of the partly preferred, ordinary-course creditor as a straightforward matter of rational cost-benefit analysis, devoid of any moral significance. The Court confidently asserted that the statute is "plain" in

defining a preference in ? 60(a) and in distinguishing its various consequences in other sections. Section 57(g) gives the partly paid creditor a simple choice-to keep or surrender his

preferences. "That is the favor of the law to his innocence, but, aiming to secure equality between him and other creditors, can the law indulge farther?" Id. at 447. Rejecting the

argument that the preference law is penal, the Court said it puts the creditor "to an election of

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A final footnote to the early twentieth century history of the preferred creditor's mens rea comes fromJudge Learned Hand. Hotchkiss had attacked the categorical preference prohibition because it wrongly ensnared the ordinary course creditor. Judge Hand invoked the parallel traditional theme in preference law-that of the admittedly extraordinary creditor who was fully aware of the dismal facts of the debtor's financial state, but who deserves to escape the preference prohibition because of his honorable effort to help the debtor survive. Where Hall exploits the statutory uncertainty about where in the scheme the mental state element applies, Judge Hand's decision in Kennard v. Behrer340 ex- emplifies the line of cases that exploit the issue of just what that culpable mens rea is when it is relevant.

In Kennard, the bankrupt head of an insolvent business assigned some rights under his father's will as security for a debt. The creditor certainly knew of the debtor's miserable condition and of the latter's frantic efforts to buy time. But the creditor had sincere, if quixotic, faith in some unfinished contracts of the debtor, and shared the debtor's guarded optimism. When he took the alleged preference, the creditor took some new notes on a repayment schedule so protracted that he must have hoped the debtor would revive. Of course the creditor was, in a strict sense, effecting a preference to protect himself from the debtor's insolvency. But Judge Hand refused to believe that the statute could be so strict. He wrote that the statute did not

compel creditors to overturn all shaken debtors while they have an honest hope of regaining a firm foundation. That creditor only the

comparative and debatable courses.... Business life has many such examples ...." Id. at 453. Moreover, the creditor does not have to make his election until the debtor has gone bankrupt, and at that point, in a sense, the creditor is no longer "innocent" at all. Id. at 449- 53.

In an unusual role reversal, Congress soon overruled the Court and settled the issue in the way Hotchkiss desired. Congress simply overruled Pinre and said that a creditor only had to surrender a payment that constituted a preference under the reasonable cause test of ? 60(b). Act of Feb. 5, 1903, ch. 487, ? 12, 32 Stat. 797, 799. The new rule found amusing confirmation in In re First Nat'l Bank 155 F. 100 (6th Cir. 1907). Noting that Congress changed the law "upon a recognition of the embarrassments which business men might suffer upon that rule of law in the collection of their debts," id. at 103, the court then overreacted in a strange atavism of the old English mens rea doctrine: The creditor is culpably negligent under ? 60(b) only if in fact the debtor did really, subjectively, intend a preference:

[T]he construction which treats the motive of the debtor as indifferent seems artificial and awkward. But it is enough to say that a belief that the debtor is insolvent is a very different thing from a belief that he intends a preference; for it would often, and probably generally, happen that a person, though in fact insolvent, would while continuing his business in the usual way make payments without a thought of disparage- ment of other creditors and with confidence in his ability to pay them all. And upon like considerations the creditor may share in the confidence of his debtor ....

Id. at 104. Thus the court essentially purported to repeal all that Justice Story had wrought. Nevertheless, we can see that by re-invoking the theme of the ordinary-course creditor unfairly trapped by a misguidedly formal prohibition, Hotchkiss helped sustain the cultural force of the antiformalist view of bankruptcy law that continues to undermine congressional efforts today.

340. 270 F. 661 (S.D.N.Y. 1920).

STANFORD LAW REVIEW

statute proscribes who dips his hand in a pot which he knows will not go round. Hence it follows that, while there is an honest chance of continued life, he need not quench it at his own peril. The only test is the honesty of his purpose. Nor is it an answer here to argue with the plaintiff that the defendants' unwillingness to advance more money is

proof of bad faith. It was precisely because they were too doubtful of their debtor's position to leave their money longer unsecured that they required the security. ... I think the test should be whether the chance was one whose success good judgment would forecast; it need not be a business certainty; it must not be a gambler's cast.... A contractor's business is in any case one of feast or famine, in which that might be no more than an exhilarating episode which to a bank, for example, would be a despairing gasp.341

Long after Kennard, in the 1938 Chandler Act, Congress made yet another effort to take the subjectivity out of the creditor's mental state.342 It purported to take the absolutely final step in 1978 when it removed the very language of reasonable cause to believe from the key part of the Bankruptcy Code.343 But the spirit of Hand's and Hotch- kiss' legal agnosticism persists.

B. The Breakdown of the Scientific Bankruptcy Law

1. The timing issue.

While the conflict between technical rules and normative standards

played itself out on the issue of mental states in preferences, it was only beginning on another, more abstract plane. Congress recognized that

apart from the balder issue of mens rea, a debtor and favored creditor could undermine the abstract principle of ratable distribution by cyni- cally creating surreptitious liens. These liens might lie dormant and invisible to the general creditors, but if the debtor faced insolvency, the creditor might suddenly perfect them. If the debtor went bankrupt, the creditor would enjoy priority. Yet these liens could escape the preference prohibition because they technically were created well before the

statutory danger zone. The 1898 Act made a novel, if incomplete, effort to solve the amorphous problem of the "secret lien" by adjusting the national preference scheme to particular forms of technical security devices created by state law. The result was the long judicial and legislative battle over the timing rules for coordinating national preference law and state commercial law.344

In addressing secret liens, Congress was, in effect, returning to the

theme of Coke's 1584 decision in The Case Against Bankrupts-the theme

341. Id. at 664. 342. See text accompanying notes 397-410 infra. 343. See text accompanying notes 470-495 infra. 344. See generally McLaughlin, Defining a Preference in Bankruptcy, 60 HARV. L. REV. 233

(1946); Morris, Bankruptcy Law Reform. Preferences, Secret Liens and Floating Liens, 54 MINN. L. REV. 737 (1970).

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of "relation back." It recognized that the preference rules should strike down at least some of these liens by treating them as coming into being at the later time of their manipulated perfection or at the moment of bankruptcy itself, thus subjecting them to the prohibition. Congress probably failed to realize the potential technical complexity of this effort, with its innumerable permutations of timing sequences and recording devices. But Congress even more surely did not realize that this technical complexity might become the occasion for a new dis- placement of all the deeper, persistent doubts of judges and various political constituencies about the wisdom or virtue of a categorical national bankruptcy law.

Congress partly addressed the secret lien in a provision making a preference an act of bankruptcy. Section 3(b) of the 1898 Act measured the date of the act of bankruptcy as four months after the recording or registering of a transfer of a security interest in the debtor's property if state law either required or permitted the recording or registration.345 Thus, if a transferee failed to avail himself of a state right to record, the time for filing a bankruptcy petition which could make the transfer a preferential act of bankruptcy might be extended indefi- nitely. But section 60(b), describing voidable preferences, contained no such reference to recording, and so was impotent to strike down secret liens. The result was that a debtor might fall into bankruptcy because of a preference, and yet the creditor would keep the payment, even though the creditor failed the reasonable-cause-to-believe test.

The problem may have been a simple error in draftsmanship, and the 1903 Congress quickly responded with the first in a series of hapless efforts at technical tinkering. The 1903 amendment purported to resolve the discrepancy between the preference as an act of bankruptcy and the voidable preference. The House tried to add the "required or permitted" language of section 3(a), but the Senate deleted "or permitted" so the result was the following proviso in section 60(a):

Where the preference consists in a transfer, such period of four months shall not expire until four months after the date of the recording of registering of the transfer, if by law such recording or registering is required.346

But the soon-to-be-ritualized problem was that the courts were still in-

345. Act of July 1, 1898, supra note 324, ? 3(b), at 546. Congress also addressed the secret lien in ? 67(a) of the Act, which voided liens that, because unrecorded, would not be good under state law against other creditors of the bankrupt. Id. at 564. But that clause was useless if the state recording law only protected other creditors who obtained a judicial lien, or if the preferred creditor snuck in a recording on the eve of bankruptcy. SeeJackson, supra note 1, at 740-41.

346. Act of Feb. 5, 1903, supra note 339, at 799-800. For the legislative history, see 35 CONG. REC. 6938 (1902); 36 Id. at 1270 (1903).

Though it only hinted of what would erupt in the 1910 debates, the 1903 debates over the preference amendment did invoke some fundamental emotional and moral issues of national bankruptcy legislation. Congressmen who remained unreconciled to the 1898 Act took the occasion to denounce it as "a Federal collection law" containing "machinery to crush out

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dined to protect transfers to favored creditors despite the apparent legislative intent to capture more preferences.347 In a sequence of decisions that soon alerted Congress to the problem, the courts made it clear that they were going to be very strict in reading the legislation. The new rule poorly captured the normative standard of invalidating secret liens. In this new version of the morality play of preference law, the loser was the trustee. In York Manufacturing Co. v. Cassell,348 the

Supreme Court showed it would put the trustee through a brutal agony before he could undo a creditor's state-law advantages, even where the creditor utterly failed to record his mortgage.349 And in the grand agnostic tradition of American preference cases, the famous Claridge v. Evans350 case showed that the courts would virtually ignore or nullify the purportedly strict, technical preference rules where, according to their moral instinct, a creditor recording on the eve of his debtor's

bankruptcy nevertheless deserved the payment.

and oppress the merchants of the country," and called for total repeal. Id. at 1270 (statement of Rep. McRae).

But the debate was also sparked by another controversial provision. The courts had construed the Act as permitting a voluntary bankrupt to claim his statutory exemptions even

though he had previously waived those exceptions under state law when he had contracted with his creditors. Id. at 1371 (statement of Rep. Underwood). Congressmen supporting the new legislation argued that the courts were thus allowing debtors to defraud their creditors, and offered an amendment barring the debtor from reviving his waiver. Opponents of the 1898 Act also opposed the amendment on the ground that it exacerbated the cruelties which the Act imposed on distressed debtors: "The law is too severe, and this amendment adds to its severity." Id. at 1373 (statement of Rep. Clayton). The opponents argued, as they did in

1910, that complex bankruptcy rules were unnecessary and that the country was better off

giving its merchants moral education that would "inspire a spirit of commercial integrity that will give confidence, that will secure credit to honest men, that will make the American tradesman cautious, respectable, and honorable. . ." Id. at 1374 (statement of Rep. McRae.)

347. For a case that obeyed this legislative intent, see First Nat'l Bank v. Connett, 142 F.

33 (8th Cir. 1905). In this case, the creditor first lent money to the debtor. Then, knowing the

debtor was insolvent, the creditor took a mortgage from the debtor for the antecedent debt, and then later, during the four-month preference period, recorded the mortgage. The court held that the mortgage constituted a voidable preference.

348. 201 U.S. 344 (1906). 349. The state law would only protect a mortgagee who had "taken steps to 'fasten upon

the property.' " Id. at 351. The court held that under ? 67(a), the trustee had no more and no less title to the transferred property than the debtor. The debtor, of course, lost to the

nonrecording lienholder. 350. 137 Wis. 218, 118 N.W. 198 (1908). Here the creditor did record his lien as re-

quired under Wisconsin law, but only six days before the petition was filed. The court simply

ignored the late recording and thus archly rendered irrelevant the whole statutory preference scheme. The court reasoned that the transfer essentially occurred when the debtor originally executed the mortgage, so the transfer was neither for an antecedent debt nor within the

preference period. The Claridge court thus used circular reasoning to steer clear of the preference prohibition, but the court was obviously struck by the sheer equity of the situation: The

lienor had nobly lent money to the corporation of which he was an officer, in order to revive

it, fully knowing about its insolvency. He apparently completely forgot to check to see if the

mortgage on the debtor's real estate was recorded. The mortgage was recorded late by a

lawyer who was innocent of the company's insolvency. In fact, the court praised the lienor

here because he might have achieved "a practical enlargement of the estate, and enable[d] the

insolvent to rescue his business from threatened ruin, and thus save all his creditors from

loss." Id. at 225, 118 N.W. at 200.


The next step in the ritual was for Congress to terminate this ad hoc moral scrutiny by firming up the technical strictness of the prohibition. The sponsors of the 1910 bill complained that the courts were ignoring the clear intent of the 1903 amendment to regulate liens, and lamented that the 1903 amendment had failed to achieve its purpose.351 Con- gress took a double approach to the problems. It negated York by adding the section 47(a) strong-arm clause, thus making the trustee a levying creditor.352 And it overruled Claridge by rewriting section 60 so that a preferential-looking lien was to be tested from the time of recording.353 The amendment thus changed section 60(b) to enable the trustee to avoid a transfer "if... the transfer ... or ... the recording or registering of the transfer if by law recording or registering thereof is required . . . [occurs] within four months before the filing of the petition in bankruptcy."354

2. The original debate revived.

But the legislative discussion in 1910 turned out to be far more than a debate over the timing of mortgage recording. It was an almost scripted, ritualized reenactment of the historical debate over the legality and morality of preferences, and indeed over all the fundamental questions about the need for a bankruptcy law in our culture. Once again, the technicalities of rule-making for voidable preferences reawakened deep moral ambivalence over the role of credit in our culture. Though the subject in 1910 was a technical amendment, the proponents faced a renewed attack on the whole 1898 Act, and indeed on the very premises of national bankruptcy legislation. Turning defense into offense, they elaborated a modern version of the classic American commercial-republican ideology. They adopted a progressive, scientific, and regulatory tone, urging that Congress complete the final refinement of the credit market by removing the last clearly identifiable abuse.

The proponents proclaimed the new legislation in the spirit of "scientific classification."355 The task at hand then was merely one of"sim- plification and clearing up of obscurities" resulting from careless court decisions attributed to misapprehension about the purpose of bankruptcy from 1542 to the present.356 The proponents' ideological ma- neuvering essentially involved three steps. The first step was to narrow the terms of the debate by establishing the purportedly uncontroversial general purpose of bankruptcy law as virtually a Platonic truth. Bank-

351. H.R. REP. No. 511, 61st Cong., 2d Sess. 7 (1910). 352. Act of June 25, 1910, ch. 412, 36 Stat. 838, 840. 353. 45 CONG. REC. 2278-79 (1910) (statement of Rep. Sherley) (amendment aimed to

strike at secret liens). 354. Act of June 25, 1910, supra note 352, at 842. 355. 45 CONG. REC. 2275 (1910) (statement of Rep. Sherley). 356. Id. at 2263 (statement of Rep. Tirrell).

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ruptcy law had nothing to do with discharge, but all to do with the power of creditors to prevent absconding and with the rights of creditors to a ratable share. This had been its essential purpose since it began in 1542, and any notion of bankruptcy as a means to relieve distressed debtors was secondary and incidental.357

The second step was to combine the Platonist view of the essential purposes of bankruptcy with a bit of Whiggish revisionist history. The proponents had to explain the somewhat discomforting course of nineteenth century bankruptcy legislation, in which no statute was able to survive violent controversy. The revisionist view was that this history did not reflect any fundamental doubts in our culture about the wisdom or justice of national bankruptcy law. If the early American laws lasted only briefly, the explanation lay in such mundane facts as the logistics of long-distance litigation and the relative primitiveness of the credit economy that made the laws less workable and less necessary in the last century.358 According to the proponents, to read that history as suggesting anything more fundamental would reverse our steady moral and economic progress.359 To subject the ultimate moral principles of bankruptcy to the vagaries of political life would be unjust, indeed almost sacreligious.360 The problem had only been one of progressive finetuning of the administrative machinery of bankruptcy, and in that regard the 1898 law was a triumph.361 It had "obviated the objections" lodged against all other bankruptcy laws, it had achieved "efficient and economical administration," and it had "secure[d] fair play to the

bankrupt."362 To the charge that the national bankruptcy law was

nothing but a cruel collection act, the proponents responded that it was indeed essentially a collection act, but that collection was the ultimate purpose of bankruptcy, and this was the most efficient and equitable collection act in history.363

The third ideological maneuver was to treat the restriction of preferences as the central instrument, "the real fundamental purpose," for

357. Id. at 2263-64. 358. Id. at 2263. The laws also failed because of administrative problems and excessive

fees. Id. at 2263-64. 359. To repeal this law "would be a step backward in morals as well as business." Id. at

2267 (statement of Rep. Diekema). 360. I am not in favor of intermittent justice. The laws of nature-the laws of God-are

equitable because they are eternal, and the law that makes the right of man dependent upon the chance of his embarrassment, his need of it occurring during the limited period of its aperation, is not, to my mind, a good law.

Id. at 2272 (statement of Rep. Sherley). Indeed, Sherley argues: "If we repeal the national

bankrupt law, we take ourselves out of the galaxy of the great nation of the world, and put ourselves in the class with China and the small backward nations of the earth." Id. at 2274.

361. Id. at 2264 (statement of Rep. Tirrell). 362. Id. The law "gives a square deal to all, and encourages commercial activity ..."

Id. 363. Id.

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carrying out the eternal moral principles of bankruptcy law.364 Indeed, the proponents, extending their revisionist history far into the recesses of early English bankruptcy law, proclaimed confidently, if incorrectly, that preference regulation existed at bankruptcy's creation.365 This maneuver even included a myth, discovering in our bankruptcy history a recurrent nightmare of preferences ruining the health of the economy and the culture. Before the great 1898 Act:

Men selected their aunts or cousins, their relatives of every name and nature, their banks, as preferred creditors. They gave them mortgages which were unrecorded, liens and evidences of indebtedness that the public knew nothing about, and then finally when the outside creditors endeavored to secure their rights all the assets of these debtors were distributed among their relatives, who had been made preferred creditors, and if they failed today the relatives sold out their property tomorrow, and the day after tomorrow they were back in business under an assumed name, with all of their assets intact, and with their legitimate creditors defrauded out of every cent due them.366

The bankruptcy law ensured that we were all healthfully bound in the great chain of commercial being, and statutory loopholes in the preference prohibition represented the one clear threat to the stability of this unity.

You wipe away the bankruptcy law and the shoe manufacturer of Mas- sachusetts will consider the additional risk he runs under the state laws, which give preferences, where friends and relatives can be favored, where he can not ascertain, being so far away, what the financial condition of the debtor may be.367

The manufacturer, a general creditor as symbolic victim-hero, would price his goods too high, fearing he could not recover in a distant place where no one could protect his interest. So all people in the chain needed a bankruptcy law that prevented the debtor from preferring his friend or relative over the distant creditor who may have supplied most of his capital.

The proponents thus repeated the theme announced by Hopkinson and Webster almost a century before,368 but with a bold moral confidence that our progress in preference rulemaking had properly identified, and would soon fully cure, the moral disease in the marketplace.

364. Id. at 2274 (statement of Rep. Sherley). 365. See text accompanying notes 126-179 supra. 366. 45 CONG. REC. 2267 (1910) (statement of Rep. Diekema). Here is more of the

scenario: There are those that are willing to make money in any way that is possible. Men who are willing to make false statements in order to establish credit secure all the merchandise possible, in some instances knowing they are insolvent and will be unable to pay at maturity. Men who send their goods untouched to the auction rooms to be disposed of for cash, or to friends or relatives, who give preference to favored ones to defraud their creditors ....

Id. at 2267 (statement of Rep. Young). 367. Id. at 2264-65 (statement of Rep. Tirrell). 368. See texts accompanying notes 254-262, 275 supra.

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The 1898 Act had properly deterred and restrained the "dishonest fail- ures" and had been a "guardian and a refuge" for the faultless unfortunate ones.369 With the brutal confidence in moral clarity imagined by Defoe over a century earlier,370 the proponents asserted that, "[T]hose who are dishonest and those who fail for the advantages that shall come to them tremble, for they know they are to be held to strict accountability . ."371

Finally, the new bankruptcy law revised in 1910 was a great engine of social welfare and moral improvement. It finally took a nonmoralis- tic, nonpunitive view of the embattled American debtor:

Such a man, bowed down by a weight that can not be lifted, subject to an attack from a creditor whenever he may make the least start toward his own uplift, presents one of the most pathetic pictures possible... But all men know that insolvency comes more often from accident or from an inferior endowment of that talent needed in the keen competi- tion of modern life than from actual wrongdoing.372

A bankruptcy law enhances credit because it ensures equal and uniform treatment of creditors, and is a blessing for debtors: The law benefits the poor debtor, by encouraging the distant Northern creditor to lend to him, offering the creditor protection from local preferences. And it

permits a failing debtor to be honest about his condition without fear of a single creditor stepping in and grabbing the whole estate. The debtor can appeal to the utopian brotherhood of merchants, saying, "I am temporarily embarrassed, but if given an opportunity, I can get on

my feet; I can go forward and pay all my debts."373 The opponents of the 1910 preference amendment quickly an-

nounced that the issue was much larger: "[T]here is no amendment that can remove all the evils, all the wrongs" of bankruptcy; only total

repeal, "root and branch," will achieve moral and economic justice.374 A bankruptcy law was inherently a "standing invitation to dishonesty ... an incentive to fraud."375 They struck at the proponents' ideology with a remarkable maneuver of their own. Instead of stressing the ar-

gument that the 1898 Act is a cruel creditor's bill, they recharacterized it as a cynical debtor's bill. They argued that there is no eternal moral

principle that bankruptcy law is needed to carry out. Indeed, the cate-

gorical imperative of the marketplace is that men must pay their debts, and bankruptcy law violates this principle.376 There is no moral norm

369. 45 CONG. REC. 2266 (1910) (statement of Rep. Young). 370. See text accompanying notes 218-230 supra. 371. 45 CONG. REC. 2267 (1910) (statement of Rep. Young). 372. Id. at 2274 (statement of Rep. Sherley). 373. Id. at 2273 (statement of Rep. Sherley). "[I]t makes confidence between the embar-

rassed debtor and his creditors possible; it enables honorable creditors to unite in help to the honest debtor, and it removes from the avaricious any motive for oppression." Id. at 2274

(statement of Rep. Sherley). 374. Id. at 2265 (statement of Rep. Brantley). 375. Id. 376. Id.

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that justifies freeing a man's future income stream from his creditors. Creditors, in extending credit, rely on more than the debtor's current ostensible property:

There is always a moral risk that is considered in extending credit. Credit has been given and is given to men who have youth and strength and who are believed to have honesty, even though they have little or no property. They are given credit upon the faith that they have earn- ing capacity and power and that their future earnings will enable them to pay.377 It may seem illogical that the opponents of the law criticized the rule

of discharge. But the opponents' explanation is that discharge is a perfectly acceptable aspect of bankruptcy, indeed it is the most admirable distinguishing feature of American bankruptcy,378 so long as we regard bankruptcy legislation in its proper perspective: It has no permanent role to play in our culture or our economy. The best purpose of a bankruptcy law is in fact the relief of distressed debtors, but that purpose only arises in times of economic panic. So the opponents offered their agnostic, anti-revisionist-and probably more accurate-history of the erratic course of nineteenth century bankruptcy legislation. The early bankruptcy acts lasted only briefly because they were inspired only by brief panics, and had no sound basis in our culture for a longer duration, "for the only reason in law or excuse in morals for a bankruptcy act is the relief of unfortunate debtors in time of general or wide-spread calamity."379

The opponents argued that we did not need a bankruptcy law to enhance credit collection, because in normal economic times, we can feel secure that the debtors of America will honorably pay their debts, and where they cannot or will not pay their debts, the flexible sanctions of state insolvency laws and local commercial custom can provide all the sanction needed.380 Thus we return to the old, virtuallyJacksonian theme of a century earlier: "[W]e ought to go back to the old-fashioned primitive doctrine that requires the payment of all honest debts. If any forgiveness is sought the creditors will be ready to make a composition

377. Id. at 2266 (statement of Rep. Brantley). The opponents expressed a populist confidence that the commercial morals of their states required no federal instruction: "Now, the creditors down where I live-the merchants in my town, the wholesale merchants, the retail merchants, the big merchants and the little merchants-all appeal to me to vote for the repeal .. ." Id. at 2269 (statement of Rep. Bartlett).

378. Id. at 2268-69 (statement of Rep. Bartlett). 379. Id. at 2270 (statement of Rep. Clayton); see also id. at 2268 (statement of Rep. Bart-

lett); id. at 2265-66 (statement of Rep. Brantley). 380. Id. at 2270 (statement of Rep. Clayton).

My State [Georgia] and its people are honest. They do not need to be dragged into the federal court in order to pay their debts. The merchants and people that built up that section until it has blossomed like the rose, until it is today attracting the amazement and wonder of the world, are unanimous almost in denouncing that law, which is a law not for the keeping of contracts or for the collection of debts, but for the violation of contracts and for defrauding honest merchants of their dues.

Id. at 2269 (statement of Rep. Bartlett).

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with the honest debtor even without the permission of any bankruptcy act."381 The repeated efforts at amendment even by the supporters of

bankruptcy only prove the futility of legislative tinkering and "tempo- rizing corrective methods":382

[I]nstead of attempting to correct the incorrigible, it would be wiser to

pursue the Spartan method of destroying this worse than cripple, this hunchback, this legislative monstrosity which has served its purpose, and remove it altogether from the statute books, and let all the people conform their business transactions-buyers and sellers, debtors and creditors-to honest laws and honest methods of administration in the courts.383

As one might expect, the opponents then renewed the counter-ide-

ology of preferences as friendly gestures of honor and trust, rather than collusive violations of some abstract moral duty to creditors. They re- versed the symbolic imagery of the proponents, and the new symbolic hero-victim became the preferred creditor, who will nobly save the debtor from disaster if he is not undone by the harsh national preference rules. Where a debtor falls behind, he may be forced into bank-

ruptcy "because his friends who stood ready and willing to put up the

money to save him could not do it by reason of this law that made it

dangerous to him and to them to go to his assistance."384

Under the flexible state insolvency laws, a man's neighbors and his friends have been able to save him .... But ... under this [bankruptcy] law . .. let a man's credit be questioned and his doom is sounded. Let him be honest with his friend and reveal his insolvent condition and the friend stands to lose protection for the money he advances to save. Let him transfer or assign property with which to secure his friend and this may be the act that makes him a bankrupt.385

Exploiting the rich moral ambiguity of the word "confidence," the op-

ponents addressed the issue of the supposedly immoral "secret lien" by

viewing it rather as an intimate act of social bonding.386

381. If the people-that is, the honest little merchant in your small town and in your great city, who has been "beaten" frequently out of his money by people taking ad-

vantage of this law-if those who are not benefited by the law, in short, who are robbed by this law, were banded together like the beneficiaries of its provisions, this

statute would not stand upon the books thirty days. Id. at 2272 (statement of Rep. Clayton).

382. Id. at 2270 (statement of Rep. Clayton). 383. Id. 384. Id. at 2266 (statement of Rep. Brantley). Rep. Clayton adds in sarcastic response to

one of the proponents: [D]oes the gentleman think that any man who in failing circumstances goes to a man

who has money, within four months of his failure, and says to him: "I am about to

fail; I am in an embarrassed position; let me have a thousand dollars and I will prefer

you." Do you think that any sane man, if this bankruptcy law remains on the books, will let him have that thousand dollars?

Id. at 2273. 385. Id. at 2266 (statement of Rep. Brantley). 386. It may be that a business man may find himself sorely in need of ready cash.

Although he may be abundantly solvent, yet, with this amendment as the law, he can

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3. The tinkering cycle.

The 1910 amendment purported to be the final step in the scientific regulation of the secret lien. But it solved the secret lien problem only incompletely, and, as the opponents warned,387 the amendment proved to be merely the next minor stage in the historical ritual. Like the preference rules before and after it, the 1910 amendment faced undoing by the imagination of judges who would not strike down a transaction as a preference unless it violated some intuitive norm of commercial conduct.388

Each new stage of the cycle seems to bring some infamous preference-denying cases, and the 1910 amendment produced a memorable trio. In Bailey v. Baker Ice Machine Co., the Court simply declared the entire preference scheme irrelevant to a conditional sale by a creditor, because a conditional sale, however much it resembles a chattel mortgage, did not constitute a "transfer" from debtor to creditor.389 In Ca- rey v. Donohue,390 the Court narrowly read the regulation on late- recorded liens, holding it inapplicable where the state recording law protected only bona fide purchasers, not general or lien creditors. But the most important case in the trio was Martin v. Commercial National Bank,39' where the Court managed to uphold what must have seemed like virtually a "classic" preference-an old chattel mortgage which the creditor bank recorded the day before bankruptcy when it knew the debtor was insolvent. Martin derogated the trustee's status as against secret lienors with an almost vindictively narrow construction of the statutory language.392

not obtain the ready cash from a confidential friend and give that friend a valid lien unless the lien be then recorded, and this recordation would probably ruin the credit of the business man. This amendment may be supported by sound commercial morality, but it may work hardship to honest men who need ready cash to tide them over temporary difficulty.

Id. at 2271 (statement of Rep. Clayton). 387. "Let me predict here and now that conflict in the decisions of the courts in constru-

ing the bankruptcy law will continue to multiply ..." Id. at 2270 (statement of Rep. Clayton). 388. McLaughlin noted that the amendment "would seem to have been well adapted to

achieve its purpose [testing all the elements of a preference at the time of a required recording], had not the perseverance [sic] of the tradition of judicial strict construction brought about the contrary result." McLaughlin, supra note 344, at 241.

389. 239 U.S. 268, 274 (1915). The Court was unimpressed by the very broad definition of "transfer" in section 1 of the Bankruptcy Act of 1898, ch. 541, 30 Stat. 544, 545 (1898). While the distinction between a conditional sale and chattel mortgage

may be literally and formally correct, the construction was a strict one, for in substance a conditional sale is like a chattel mortgage, and whether the security interest was made or only suffered to exist by the debtor might be regarded as merely a matter of form insufficient to defeat the policy of the amendment to test a security transaction at the time of its recording.

McLaughlin, supra note 344, at 241. 390. 240 U.S. 430 (1916). 391. 245 U.S. 513 (1918). 392. The state statute said that a late-recorded mortgage lost to liens that were gotten

before recording. Id. at 516-17. The trustee thus logically argued that the late recording here was "required," so that the transfer would be treated as occurring the day before bankruptcy.

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The cycle of response was predictable. In 1926 Congress offered another tinkering amendment that proved comically incompetent to solve the problem, and the courts quickly showed that when it came to restricting credit devices valid under state law and not showing any dramatic signs of fraud, they would not give well-intended, bumbling federal legislation the slightest margin of error. The 1926 amendment added the phrase "or permitted" back into the description of recording in section 60(a),393 thereby clearly intending to reverse Martin and Ca- rey.394 Unfortunately, though section 60(a) purported to define a preference, Congress neglected to amend section 60(b), the section that defined voidability and determined the date as of which a transfer should be tested. The courts thus felt unobstructed in upholding secret liens in bankruptcy on the theory that the 1926 amendment had changed nothing of substance,395 and cooly informed Congress that it would have to keep trying until it got it right.396

C. The Chandler Act

1. The new pretense, and the cure of the 1898 Act.

The Chandler Act of 1938 is the next great episode in the history of the scientific pretense in American bankruptcy law. As some of the contemporary commentary shows, its supporters were not too shy to call it "one of the most 'scientifically' created pieces of legislation ever penned by the hand of man."397 "In the broad field of commercial law 'scientific' legislation is especially possible and especially important. For here there can be calm, dispassionate judgment, removed from the fervor and pull of politics."398

In the proponents' view, the law could be purely apolitical, based in hard-headed empirical sensibility about the needs of the man in the

But the Court read the state law to "require" registration only in favor of a creditor who fixed a lien on the property before the recording, id. at 519, and the trustee obviously did not meet this test. In that sense, the trustee would lose if he were simply asserting the power of a lienholder under the strong-arm clause of ? 47(a). But the Court's narrow reading of "re-

quired" seems to have ignored the independent role of the preference prohibition in ? 60, and thus ended up essentially eviscerating the 1910 refinement of ? 60. To make things worse, the Court suggested that the trustee could only claim the rights of actual existing creditors, not the power of a hypothetical lien creditor, id., thus again nullifying the trustee's preference-restricting powers in favor of a much weaker power-in this instance, the ? 70 power. See Bankruptcy Act of 1898, ch. 541, ? 70, 30 Stat. 565-66.

393. Act of May 27, 1926, Pub. L. No. 69-301, 44 Stat. 662, 666. 394. Hearings Before the House Comm. on the Judiciary Pursuant to H.R. Res. 353, 68th Cong.,

2d Sess. 20 (1925) (statement of Randolph Montgomery, National Credit Men's Association). 395. E.g., First Nat'l Bank v. Live Stock Nat'l Bank, 31 F.2d 416 (8th Cir. 1929). 396. In Hirschfeld v. Nogle, 5 F. Supp. 234 (E.D. Ill. 1933), the judge upheld against the

trustee an eve-of-bankruptcy grab by a creditor whose earlier recording had expired under state law, "[h]owever persuasive the report of the judiciary committee may be as to the intent of Congress in 1903, 1910, and 1926 in amending the Bankruptcy Act in the regards mentioned, in view of the fact that the Supreme Court has decisively held that the ills intended to be cured have not been reached .. ." Id. at 238.

397. Mulder, Ambiguities in the Chandler Act, 89 U. PA. L. REV. 10-11 (1940). 398. Id. at 10.

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street, abetted by experts, combines of lawyers, professors, economists, and businessmen. The experts would formulate purposes, be available after enactment to guide administrative interpretation and to suggest refining amendments. The 1898 Act had become a "sordid picture of inefficiency, dishonesty, and inadequacy of administration," but "[a]n unselfish group of men, all experts," convened to draft the new act.399 Their reports led to rich legislative history which now permitted sensible purposive construction, and the "National Association of Credit Men" was already monitoring first year administration of the Act.400

In the crucial provision of the Chandler Act, Congress amended section 60 to declare that for the purpose of avoiding preferences

a transfer shall be deemed to have been made at the time when it became so far perfected that no bona-fide purchaser from the debtor and no creditor could thereafter have acquired any rights in the property so transferred superior to the rights of the transferee therein .. .401

Here, finally, was the body blow to secret liens. If a creditor took security for a loan-even if simultaneously with the loan and hence for apparently present value-if he delayed publicizing the mortgage under state law, the bankruptcy law would treat the mortgage as occurring just before bankruptcy.

The new preference rule was the key element in the new progressive reform. Its advocates happily received it as recognition of the clear- headed modern view that the quintessence of bankruptcy is ratable equity among creditors. The encrusted, sentimental historical view of bankruptcy had wrongly focused on its sources in economic distress, and thus had misconceived the role of bankruptcy law as debtor relief. Bankruptcy law had thus been influenced "by uninstructed debtor psy- chology," and the result had been wrong-headed preference legislation.402 But the Chandler Act properly set aside any issues of the stigma of bankruptcy and aimed for rational distributional rules among creditors, "based upon sound economics and sound sociology."403

In the 1938 version of the Whiggish history of American preference law, we find a clear-headed acknowledgement of the defects of the 1898 Act. Its "[b]asic defects in form" and "[e]xasperating problems [arose] out of the defective correlation" among the provisions for preferences, acts of bankruptcy, voidable liens, and the trustee's title.404 The 1903 and 1910 laws were merely "repair services undertaken by people not intimately acquainted with the articulation or with the operation of the bankruptcy machine," and the 1926 law was just an "absurd climax to

399. Id. at 11. 400. Id. at 11-12. 401. Ch. 575, 52 Stat. 840, 869 (1938). 402. McLaughlin, Aspects of the Chandler Bill to Amend the Bankruptcy Act, 4 U. CHI. L. REV.

369, 371-73 (1937). 403. Id. at 371-73. 404. Id. at 388.

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the history of dislocated amendment."405 The Chandler Act helped solve a major problem-the vexing confounding of preferences and voidable liens arising from judgments. By eliminating the "nebulous test of permission to record" established in 1926, it ensured a "clear- cut federal criterion" for testing state laws.406 As for the consistent prejudice in favor of manipulative secured creditors evinced by the courts in their wilfully narrow reading of section 60, these decisions would "encounter as flat a contradiction in the Chandler Bill as statutory English permits."407

Where the contemporary commentators criticized the new statute, they did so in a scientific "spirit of reform" and with regard to "the natural evolution of the law," praising its enlightened "teleology" but

noting where it just lapsed slightly in its effort to cure bankruptcy law of anachronism and moral equivocality.408

The commentators also expressed fears that the courts might yet again undermine Congress' progressive reforms, and might subvert the clear new mandate to apply the preference prohibition widely and vigorously.409 But it should not discourage the scientific-minded that further refinement may prove necessary: "Man's limitations are ever made

405. Id. at 389. 406. Id. at 390-94. The Chandler Act clarified the distinction by referring solely to

transfers in ? 60, treating the voidable liens arising from legal proceedings solely in ? 67. Id. at 391.

407. Id. at 393. 408. See Treiman, supra note 110, at 189-91, 200-01, 206-07, 212-15. Treiman decried

in particular the retention of the act-of-bankruptcy rules in the 1938 Act as a troubling atavism. Id. at 199-200. Of course, the old notion that a debtor triggers bankruptcy by violating some rule of conduct had been a fiction for a couple of centuries, since the acts became "passive," see notes 110-125 supra and accompanying text, but Treiman argued that the retention of this nominal doctrine caused confusion and undermined the rights of creditors. Treiman,

supra note 110, at 197-99, 201-205 (describing how acts-of-bankruptcy provision has wrought linguistic confusion throughout bankruptcy statute); id. at 208-09 (act-of- bankruptcy requirement unnecessarily protracts "critical period" during which aggressive creditors can "rapidly [hack] to pieces" the estate before the trustee can step in). Moreover, by reinforcing the

imagistic association of insolvency and fraud, the act-of-bankruptcy doctrine prevented bank-

ruptcy law from fully cleansing itself of its irrational moral implications. Id. at 189-91, 200-01.

409. Mulder, supra note 396, at 24. Mulder feared that even if the new statute had overruled Martin, the courts could nevertheless circumvent the statute by using once again the maneuver they used in Bailey-excluding a wide variety of security transactions from the definition of "transfer." See notes 389-394 supra and accompanying text. Mulder also very

presciently feared that the courts would not construe the statute to void various floating liens in accounts receivable financing. Anticipating what indeed became the next great episode of

legislative disaster in the history of preference law, he warned that some commentators had

already argued against voidability and that some legislators had proposed a federal bill ex-

pressly to protect such liens. Mulder noted the argument that accounts receivable financing was a crucial device in modern commerce, but insisted that it must give way to the new scientific scheme of preference law. Mulder, supra note 396 at 25-26. Ironically, McLaughlin, on

the other hand, recognized the force of this argument in favor of accounts receivable

financers, but expressed confidence that courts would not disregard the demands of modern commerce. He adopted a defensive tone in justifying the absence of any provision in the

Chandler Act protecting accounts receivable financers on "the general theory that the statement of one detail invites another and that bankruptcy laws should not undertake detailed codification concerning business transactions." McLaughlin, supra note 403, at 394.


manifest when his handiwork is submitted to the practical test."410 Any defects in the new law were "by no means fatal"-the Chandler Act was "indeed a work of art," and a statute "worthy of a happy fate."411

2. The downside of the cycle again: the "equitable lien."

The persistence of the equitable lien. To appreciate why the scientific pretensions of the Chandler Bill suffered the ritual fate of preference legislation, we must take a step back to see another major preference issue that had been relatively dormant for a century-the equitable lien. The name "equitable lien" is itself part of the history, because the fuzziness of the phrase reflects the fuzziness of the concept.412 In a sense, many of the preference issues I have been discussing involve "equitable" liens-that is, transfers of security to creditors which might seem to fall within the legal prohibition of the preference statute, but which a judge might uphold because they nevertheless do not violate his normative standards for debtor-creditor transactions. But the name has been applied to a more specific doctrine-though, as we will see, even that doctrine applies to an amorphous and varied set of transactions.

In fact, "equitable lien" came to be a catch-all term for such things as a promise to execute a mortgage that was not carried out, or a mortgage that was defectively recorded, or a security contract covering property that fell outside the mortgage laws.413 Early in the nineteenth century, the courts began to face the special preference problem raised by the unexecuted mortgage. At common law, if a debtor promised to give a mortgage but failed to do so, the creditor might be able to get a court of equity to award a kind of specific performance of execution of the mortgage.414 The actual pledging or execution of the mortgage nunc pro tunc made the original promise an executed promise, so the transfer would be from the earlier date.

410. Mulder, supra note 396, at 13. In the Chandler Act, "weak spots which had long gone unnoticed have been repaired; serious efforts have been made to curb dishonest bankruptcies; clarity of expression and uniformity of terminology have been attempted; and procedural provisions have been altered in the interests of speed and efficiency." Id. at 13-14 (footnotes omitted).

411. Id. at 38. 412. As numerous historians have wryly noted, many things called "equitable liens" are

neither equitable nor liens. E.g., Glenn, The "Equitable Pledge, " Creditors' Rights, and the Chandler

Act, 25 VA. L. REV. 422, 422-23 (1939); McLaughlin, Amendments (1926) of the Bankruptcy Act, 40 HARV. L. REV. 341, 389 (1927). The equitable lien is not so much a right related to trust or specific performance, as a term for unjust enrichment. The equitable lienor has a right to get the collateral or his money back, but it is less of a right than that held by a cestui que trust or vendee of land, and he loses to a bona fide purchaser orjudgment lienholder, who at least has a state-sanctioned interest. Glenn, supra, at 423-30.

413. 1 G. GILMORE, SECURITY INTERESTS IN PERSONAL PROPERTY, ? 7.2, at 198-99, ? 11.1, at 336 (1965). The term was also occasionally applied to unrecorded mortgages or to floating liens on after-acquired property. See Friedman, The Bankruptcy Preference Challenge to After-Ac- quired Property Clauses Under the Code, 108 U. PA. L. REV. 194, 196-200 (1959).

414. Glenn, supra note 4, at 533-35. The creditor could not get specific performance where the agreement to give security did not mention specific property. In re Jackson Iron Mfg. Co., 13 F. Cas. 260 (E.D. Mich. 1877) (No. 7153).

105


One might think that such an equitable lien, if legally executed within the preference time-zone, would be a preference, but the equity doctrine had a great deal of independent force. Indeed, it seemed to resist statutory preference prohibitions precisely because it was as much an inchoate sentiment as a legal doctrine.415 It created a tension between the general concern to prevent preferences and the specific concern to protect a good faith creditor who had made an unsecured enabling loan before the preference period and then took security in the goods within the preference period.416

Despite Justice Story's pioneer effort at a scientific, categorical preference rule, some of these equitable liens escaped the preference trap.417 The 1898 Act did little to resolve the question whether this basic form of the equitable lien was a preference.418 The case law quickly split over the predictable problems of categorizing subtly different transactions and construing an inadequate statute, "but underneath was a conflict of ideas, and a dogged determination as to every point where the letter of the law did not force surrender."419 The Supreme Court early upheld one version of what was called an "equitable lien"- the after-acquired property clause- where it found that the creditor was merely carrying out a perfectly good faith security transaction after a helpful enabling loan to the debtor.420 Williston objected that the preference prohibition spoke categorically, whatever the limpid views of "natural equity" judges might hold,421 and some courts stringently proclaimed the formal, categorical nature of the equality-is-equity principle.422

415. Glenn, supra note 412, at 438 (describing the equitable lien as more a "sympathy" than a doctrine).

416. Glenn, supra note 4, at 533-35. 417. E.g., McMechem v. Grundy, 3 H. &J. 185 (Md. 1810); Burdick v. Jackson, 14 N.Y.

Sup. Ct. (7 Hun.) 488 (N.Y. App. Div. 1876). Perhaps the equitable lien was tied up with the notion that a creditor's equity fastened upon a specific piece of property, so that the later legal execution was not even a transfer, or perhaps it at least represented the sort of creditor "pressure" which might have appealed to an American judge loyal to Mansfield. Or perhaps judges tended to find equitable liens where the creditor had given a crucial "enabling" loan to the debtor, and therefore relied on their sense of raw moral equity to uphold the transaction. Glenn, supra note 4, at 533-35, 540-41; Glenn, supra note 412, at 450.

418. The Effect of Insolvency on Contracts to Give Security, 51 HARV. L. REV. 135, 139 (1937) (student author).

419. Glenn, supra note 412, at 441. 420. E.g., Thompson v. Fairbanks, 196 U.S. 516 (1905). The favored creditor in Thomp-

son gave the debtor an "enabling" loan and took a validly recorded chattel mortgage in float-

ing inventory. Later, the creditor took the inventory, knowing the debtor was insolvent and

considering bankruptcy, but without any intent to defraud other creditors. Holding that this was nothing like "the bald creation of a lien within the four months," id. at 525, the Court invoked the relation-back doctrine to deny the trustee's claim of a preference. Accord

Humphrey v. Tatman, 198 U.S. 91 (1905). 421. See Williston, Transfers of After-Acquired Personal Property, 19 HARV. L. REV. 557, 572

(1906) ("[t]here is no natural equity which should protect payments which do in fact prefer and which were known to prefer, because the debtor was serving some end of his own in making the payment").

422. E.g., In re Great Western Mfg. Co., 152 F. 123 (8th Cir. 1907):

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But the Supreme Court's tolerance of equitable liens culminated in the famous case of Sexton v. Kessler,423 where Justice Holmes acknowledged that the "equitable lien may not carry the reasoning further or do much more than express the opinion of the court that the facts give a priority to the party said to have it."424 Sexton confirmed a long Supreme Court effort to enhance personal property security, but it was quickly denounced425 and followed by decades of controversy in the commentary and the courts.

As one commentator noted, the equitable lien in bankruptcy produced a conflict between a "generalistic" and a "particularistic" view of preferences, roughly paralleling the conflict between the formal rule favoring categorical ratable equity and a looser normative standard permitting inquiry into the commercial ethics of individual credit deals.426

But the theory and purpose of the bankruptcy act were to distribute the unex- empt property which the bankrupt owned four months before the filing of the petition ..., share and share alike, among the creditors of the same class .... Any other course of decision opens a new and enticing way to secure preferences, nullifies every provision of law to prevent them, and invites fraud and perjury. Hold that transfers within four months in performance of agreements to make them before that time do not constitute voidable preferences, and honest debtors would agree with their favored creditors before the four months that they would subsequently secure them by mortgages or transfers of their property, and just before the petition in bankruptcy were filed they would perform their agreements .... The great body of the creditors would be left without share in the property ... This court will hesitate long before it approves a rule so fatal to the most salutary provisions of the bankruptcy law.

Id. at 127. 423. 225 U.S. 90 (1912). The debtor had pledged a shifting mass of stocks and bonds to

the creditor but had retained possession. The Court treated the interest as an equitable lien immune to the preference rules, because the debtor had at least segregated the paper from his other assets.

424. Id. at 98-99. 425. See 2 G. GILMORE, supra note 413, ? 45.3.3, at 1301. 426. Validity of Liens Against a Trustee in Bankruptcy, 34 YALE L. J. 891 (1925) (student

author). The first tendency explains all our bankruptcy acts, and the second explains why they do not work very well. The result in the case law was a wide variety of ad hocjudicial scrutiny of credit arrangements. Thus in In re Dier, 296 F. 816 (3d Cir. 1924), the creditor had loaned the debtor some public bonds, with the understanding that the collateral was equity in some real estate subject to a first mortgage. The debtor then created a corporation to own the property, and the creditor got stock in the corporation. The court treated the security interest as an equitable assignment in an intangible, awaiting its hypothecation in the corporation, and recognized it as a metaphysical question whether the original promise was of a present or a future thing. Upholding the transfer, it found the creditor to be naive and generous, stressing his sympathetic performance at trial. See also Massachusetts Trust Co. v. MacPherson, 1 F.2d 769 (lst Cir. 1924). The debtor car dealer had transferred warehouse receipts on cars to secure the transferee's loan of 80% of price of cars, and transferee later took possession of the car. The facts suggest a vaguely sleazy deal between debtor and creditor in the form of a field-warehousing arrangement, and when the creditor took the cars he clearly knew the debtor was insolvent, but the court found no fraud and upheld the transfer. The bitter dis- sent, complaining that the case will "go far to destroy the wholesome provisions of the Bank- ruptcy Act" and the "fundamentally important principle of equality of treatment of creditors in bankruptcy," observed that the credit papers were vague forms that misdescribed the property. Id. at 773-74 (Anderson, J., dissenting).

The key moral criterion in the cases seemed to be whether the creditor had given what might loosely be called an enabling loan, advancing the money necessary for the debtor to get


The particularistic view was denounced as "emasculating" the preference statute,427 leaving the law to the whim ofjudges, and the call went out for a new scientifically rational regulation428 of this "dangerous and elusive" enemy of preference law.429

Congressional backfire. The Chandler Act of 1938430 was supposed to kill Sexton by making the transfer good as of the time when a bona fide purchaser could defeat the lienholder. The old statute had said that the 4-month preference period ran from the time the transfer was recorded if recording was required under state law. The Chandler Act instead ran the clock from the time the favored creditor could defeat a bona fide purchaser. Moreover, it said that if the transfer remained un-

perfected at the time of the petition, it was deemed to have been made

just before the petition. Hence the newly empowered trustee could defeat the relation-back ploy and the "equitable liens" that ploy had sustained.431

But Congress' effort to create a formal rule quickly proved a disaster, and, ironically, prompted calls for a legislative standard more sensitive to commercial custom. In Corn Exchange Bank v. Klauder,432 the

Supreme Court, for once, construed the preference statute in favor of the trustee, and against a creditor bank that had loaned money on accounts receivable.433 Though it is not clear that the drafters of the

the assets in the first place. To use a later phrasing of the same sentiment in a different

context, a late transfer to the creditor would escape the preference prohibition if it did not indicate a diminution of the estate. Validity of Liens, supra, at 895. Another commentator ar-

gued that to deny relief when the creditor suffered the very contingency he foresaw would be

unfair, and that in any event the general creditors in modern commerce tend to rely on financial statements, not visible assets. Effect of Insolvency, supra note 418, at 136-37.

427. Equitable Liens and Pledges: A Study in Security and Bankruptcy Law, 37 COLUM. L. REV.

621, 630 (1937) (student author). 428. See Validity of Liens, supra note 426, at 897 ("Although encouragement of enabling

loans may be sound economic policy, it would seem to be more properly made subservient to

predictability of legal relations resulting from a given state of facts."). "[T]he body of law established with respect to equitable liens has become increasingly

intricate, until preferential treatment based on a contract to give security has become a matter of chance, depending upon the practice of a particular forum administering the debtor's estate ...." Effect of Insolvency, supra note 418, at 143.

429. McLaughlin, supra note 412, at 389. 430. Ch. 575, 52 Stat. 840, 869. The equitable lien was now to lose in bankruptcy, since

the Chandler Act was "designed ... to aid the trustee, and in the process to sweep away not

only a lot of intervening case law, but also the last vestiges of a theory-and of a sympathy." Glenn, supra note 412, at 438.

431. Glenn, The Chandler Act and the Trustee As a Bona Fide Purchaser, 25 VA. L. REV. 885, 888 (1939). But the new provision did not literally make the trustee a bona fide purchaser. Such a provision would be "dangerous" and "revolutionary," giving the trustee too much

power to cut off a wide range of equitable rights. Id. Moreover, the newly armed trustee still

could not defeat various subtler interests designated by state law as pledges, and the trustee could still lose to unrecorded interests where there was a good excuse for nonrecording- such as fraud, accident, mistake, or imperfect instruments. Glenn, supra note 412, at 447-49.

432. 318 U.S. 434 (1943). 433. Id. at 434. Under state law, the creditor would have lost to a later assignee of the

accounts because the former had not given notice of the assignment to the debtor's debtors. That fact, whether relevant or not to the policies of preference law, would have enabled a

bona fide purchaser to defeat the bank. Thus, the Court agreed that the Act literally made the


Chandler Act had even contemplated this possibility, everyone immediately recognized that the result was brutal for non-notification financers, who were lending nearly a billion dollars a year.434 Thus, a new line of commentary appeared, denouncing the Chandler Act as mindless overkill. Klauder had upset vital security arrangements, and had "no relation at all to the legitimate purposes of a preference statute."435

Even the strongest supporters of the Chandler Act's bona fide purchaser test had to acknowledge that, at least as construed, the Chandler Act bludgeoned a wide variety of state-ratified financing schemes. Iron- ically, however, the key drafter, Professor McLachlan, noted defensively that, at the time of its ratification in 1938, any fears raised before Con- gress that the test would go too far "were quieted by contemplation of what was deemed to be the established tradition of strict construction."436 In a further irony, when Professor McLachlan conceded the

assignment a voidable preference. Justice Jackson acknowledged that "for thirty-five years Congress has consistently reached out to strike down secret transfers, and the courts have with equal consistency found its efforts faulty or insufficient to that end." Id. at 438.

434. Congress had apparently never adverted to the issue of the accounts receivable financer, see McLaughlin, supra note 344, at 245, but the Chandler Act effectively undermined accounts receivable financing because it had always been assumed that an accounts receivable financer would lose to a bona fide purchaser. See G. GILMORE, supra note 413, ? 8.6, at 273.

Accounts receivable financing had increased greatly at the end of the Depression; it was the most liquid asset after cash and marketable securities. McLaughlin, supra note 344, at 247- 48. Klauder might have been a narrower decision if it had distinguished incidental, post- purchase acts from more burdensome acts like recording. But the Court seemed to assume that a hypothetical bona fide purchaser would do all sorts of burdensome things after purchase. The equally notorious case of In re Vardaman Shoe Co., 52 F. Supp. 562 (E.D. Mo. 1943), showed that the lower courts would not draw the line. In Vardaman, the trustee voided the transfer of accounts to a creditor who had complied with all state publication rules because, in the court's view, a hypothetical bona fide purchaser might have performed such things as novation, collection, or judgment against the account debtor. Id. at 565; see also McLaughlin, supra note 344, at 249-50.

435. Ireton, A Proposal to Amend Section 60A of the Bankruptcy Act, A6 CORP. REORGANIZA- TION 257, 264 (1947). For criticism of the Court's (rare) literal construction of the statute, see Proposed Amendment to Section 60 of the Bankruptcy Act, 57 YALE LJ., 828, 835 (1948). Commenta- tors voiced fear that the aggressive new bona fide purchaser rule even threatened the principle that tort judgment creditors had super-priority in bankruptcy. See Morris, supra note 344, at 750.

The commentators' fears were probably exaggerated, since many states soon effectively evaded Klauder by changing state law to nullify the rights of subsequent, notice-giving assign- ees of accounts receivable. Id. at 751; G. GILMORE, supra note 413, ? 8.6, at 273-74. The state law changes did not, however, protect inventory financers from Klander, since it was an irreducible principle that they lost to buyers in the ordinary course of business in regard to the tangible property. Morris, supra note 344, at 751-52.

436. McLaughlin, supra note 344, at 245. He insisted that a strict reading of the Act would have given the trustee only the power that he earned by actually performing the acts that a bona fide purchaser might perform, and that to rely, as the courts did, on what a hypothetical purchaser might do, was to enter an "uncharted sea of speculation." Id. at 246-47. Klauder and Vardamnan seemed to send creditors toward "byways of finance where legal risks are written off through higher interest and carrying charges." Id. at 251. Indeed, this was not an area where one would have expected any judicial activism, because, in McLaughlin's view, one would have assumed preference and security law was an area without political implications unlike, for example, labor law or criminal law. Id. at 247.


need for a new revision of the statute to weaken the trustee's power, his major reason was his fear that courts might eventually resort to their old maneuvers and respond to the Chandler Act by reviving secret equitable liens. He feared they would thereby magically "turn secret contracts into conveyances, with a view to doing equity between the parties, but with the consequence of defeating equitable distribution of the assets of the bankrupt transferor."437

The tinkering recurs. The solution, of course, was to propose yet another very mild adjustment in the statute. The idea now was to reduce the bona fide purchaser status of the trustee to that of a "creditor holding a lien without special priority, obtained . . . on a simple contract."438 But the fight would nevertheless continue between those who saw helping secured creditors "to have liberated the beneficent forces of nature" and those who described the movement as one "back to the jungle."439 Proponents applauded the change because, in their view, the drafters of the Chandler Act had simply ignored the development of modern commercial financing, and had foolishly forgotten that the trustee was supposed to protect creditors as well as purchasers. The Chandler Act punished a secured creditor for the irrelevant reason that he did not intend his interest to prevent the debtor's continuing in business, and made it impossible for lawyers to counsel their clients in accord with desirable and customary business practices.440

Other commentators, however, recognized the historical frustration of legislators in striking down secret or equitable liens and lamented that "the proposed lien creditor test [revives] with unimpaired vigor the inequities of the secret lien."441 This side of the debate found secret liens were "usually deliberate and closely guarded both by the favored creditor and the panicky debtor on the brink of insolvency."442 The commentary imagined the horror of Sexton arising from its

437. MacLachlan, Preference Redefined, 63 HARV. L. REV. 1390, 1393 (1950). The spelling of the author's name was changed by decree of court, Jan. 21, 1948, correcting an error made in Scotland about 1835. Id. at 1390 n.2.

438. McLaughlin, supra note 344, at 253 (emphasis omitted). McLaughlin conceded that the trustee was wrongly characterized as a purchaser, and better treated as a levying creditor. The bona fide purchaser test, however, was to remain for interests in real estate, since realty did not pass through commercial chains and was rarely conveyed to pay off debts in ordinary course. Id. at 254-56.

439. Id. at 258. The supporters of the liens argued that they were not really secret at all, since they were informally communicated through credit agencies and other channels. Id. at

258-59. 440. See Hanna, Preferences in Bankruptcy, 15 U. CHI. L. REV. 311 (1948) (noting that mod-

ern business is characterized by large production and distribution on small profit margin, so that it relies heavily on credit; creditors want security over other creditors, not purchasers in due course).

441. Keeffe, Kelly & Lewis, Sick Sixty: A Proposed Revision of Section 60.4 of the Bankruptcy Act, 33 CORNELL L.Q. 99, 106 (1947) ("equitable" liens are essentially the same as secret liens; trade creditors loosely rely on visible assets, not financial condition).

442. Id. at 107. This argument departs from the "formal logical parallelism" of the "status" argument, which holds that if the trustee is a judgment creditor he should not have

preferred status for the 4-month period, but it does serve ratable equality. Id. at 109.

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grave.443 In 1950 Congress did replace the powerful bona fide creditor test

with the more moderate lien creditor test. Creating a new 8-layer scheme, the new law used the 4-month rule to test the elements of a preference from the time the favored creditor had perfected his interest against the lien creditors.444 But the drafters realized that the switch to a creditor test might swing back so far that it would revive the equitable lien issue. So it added a bizarre provision in section 60(a)(6) expressly condemning, without defining, "equitable liens" as "contrary to the policy of this section," and retaining for those liens only a form of the bona fide purchaser test from the Chandler Act. But this remarkable subsection then made an exception to that exceptional power for purchasers in the ordinary course of trade, arguably to protect inventory financers.445 Along with other minor provisions, the result was an in- comprehensible, elephantine law, a perfectly ambivalent statute that incoherently mixed supposedly sensitive new formal rules with hopelessly vague normative standards.446

Professor McLachlan somewhat embarrassedly conceded that the expansive new legislative prose was "less condensed" than his original proposal, but insisted that the inherent complexity of preference law was not conducive to a simpler style. And he expressed confidence that

443. One suggestion was to retain the Chandler test on the theory that it fully accorded with the regulatory spirit of equality as equity. Proposed Amendment, supra note 435, at 836-37. The author suggests that Klauder served the healthy purpose of forcing the practice of accounts receivable financing out into the open for scrutiny:

But bankruptcy substitutes for the race of diligence achievement of its own objective-preservation of the estate, during the period of insolvency preceding bankruptcy, for equitable distribution to all creditors. The secret transfer, regardless of its validity apart from bankruptcy, is inimical to this purpose. If such a transaction, unpublicized until immediately before bankruptcy, is subsequently validated as against the trustee, there is a real diminution of the assets upon which other creditors have relied in dealing with the debtor and in refraining from prosecuting claims to judgment.

Id. at 837. But a bolder suggestion was that if Congress was dissatisfied with the overbreadth of the

formal rule in the Chandler Act, the solution might be a candidly normative standard: a proviso that "for the purposes of this section such a creditor shall be deemed to have an interest superior to that of any equitable lienor." Keeffe, Kelly & Lewis, supra note 441, at 112.

444. 64 Stat. 24, ch. 70 (1950). The drafters retained, however, the bona fide purchaser test for realty, since state recording acts protected only purchasers.

The 1950 amendment is too long for full quotation here. The revision of old ? 60(a) became ? 60(a)(l), and old ? 60(b) became ? 60(a)(2), containing the new lien creditor test. Subsections (3), (4), and (5) are detailed glosses on the lien creditor test. Subsection (6), described below, denounces equitable liens, but provides that it is subject to subsection (7), which elaborates on how transfers must meet state recording requirements. It offers a 21-day grace period to circumvent the preference prohibition. Subsection (8) protects certain transfers made for new and contemporaneous consideration. See G. GILMORE, supra note 413, ? 45.4, at 1303-04.

445. 64 Stat. at 25-26; see Morris, supra note 344, at 752. 446. Gilmore makes an admittedly futile attempt to reconcile the subsections, but con-

cludes: "These are not mysteries which are easily unraveled. Perhaps they cannot be unraveled at all." G. GILMORE, supra note 413, ? 45.4, at 1305.


the new law would cease to waste attention on the "unpredictable an- tics of hypothetical persons," and redirect it in a hard-nosed way to the actual effects of purchases and liens.447 But, of course, this ultimate refinement quickly proved to be just the next episode.448 Gilmore offered a typically wry view of this next episode in the moral history of

preference law, suggesting that neither the 1950 amendment nor the simultaneous effort of the drafters of Article 9 to simply flatly ban the

equitable lien would make much difference:

It is submitted that that the answer to the question just posed should be with emphasis, No. We might say that if the equitable lien- or at any rate this aspect of the equitable lien-had not existed, it would have been necessary to invent it; if the Code in some sense abol- ishes the equitable lien, it will have to be invented all over again.449

V. THE MODERN PHASE

A. The Infamy of the Floating Lien

Despite some confidence that the 1950 Act had solved the problem of the equitable lien,450 there still lurked anxiety that one variant, the

floating lien in after-acquired property, might remain troublesome.

Ironically, the problem lay not so much in the Bankruptcy Act itself, but in the relationship of the Bankruptcy Act to the triumphant modern revision of security law in Article 9 of the U.C.C. Looking back later, Gilmore noted that the issue raised:

questions which can be asked on the level of reason but answered only on the level of faith. ... It is not merely difficult to fit the language of ? 60(a)(6) with the language of Article 9, it is impossible; they are in

447. MacLachlan, supra note 437, at 1390-91. 448. It soon produced the ritual, notorious agnostic case, in this instance, Porter v.

Searle, 228 F.2d 748 (10th Cir. 1955), to show that, given a tiny bit of play in the joints, courts would read any new preference rules with highly creative disdain to uphold morally unchal-

lengeable transfers as equitable liens. The debtor bought retail merchandise from Searle on installment and promised, but never executed, a chattel mortgage. Shortly before he went

bankrupt, the debtor got Searle to agree to a release, whereby the creditor took the goods back and cancelled the agreement. The court found that the debtor's promise had created an

equitable lien, for which Utah law did not require perfection. It then offered the following prestidigitation:

The stock of merchandise was not surrendered to the Searles by [the debtor] to

perfect their lien, but to satisfy the debt secured by the lien and to discharge the lien. It was an enforcement device and not a perfecting device that the Searles employed.

Id. at 755. The court reviews the 1950 amendment and notes a legislative purpose not to

impede and choke the flow of credit to small businesses. The court also purports to be faithful to the view that Klauder and Vardaman were dangerous judicial overreadings of the preference prohibition. Id. at 754-55.

For a critique of Porter that blames its outcome on the hapless obscurity of the 1950

statute, see Morris, supra note 344, at 753. 449. G. GILMORE, supra note 413, ? 11.1, at 336. Section 9-203 of the U.C.C. was sup-

posed to put the equitable lien to rest. But see Warren rool Co. v. Stephenson, 11 Mich. App. 274, 161 N.W.2d 133 (1968).

450. Morris, supra note 344, at 753.

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different universes of discourse.451 But no one anticipated that the floating lien would become the subject of perhaps the most famous episode in the ritualized conflict between confident mechanical rules and agnostic normative standards in bankruptcy law.

The unbelievably complex debate over this narrow point of commercial law suggests that larger questions are at stake. Preference law was again to be used and abused as an instrument to reflect various ill- articulated views of virtue in the marketplace, and to reconcile the principle of debtor or creditor self-interest with the duties of these actors to the abstracted community of creditors. The history of the floating lien, in a sense a microcosm of the history of bankruptcy generally in the last four decades, is yet again a history of legal attempts to fashion formal rules on the pretense that we have drawn the relevant moral distinctions about debtor-creditor behavior. It is also a history of the undoing of those rules by judges who find them unharmonious with their standards of commercial custom and ethics, by political forces that see large issues of power ill-resolved by these rules, and by commentators who are skeptical of the feasibility of such rulemaking in the face of the moral indeterminacy of commercial behavior.

The 1950s and 1960s saw an effort by legislators, judges, and aca- demics to reach some consensus over the legality of the floating lien, to fill the awkward gap left by the old Bankruptcy Act. But the easy tolerance of security interests in after-acquired property was highly unstable, as witnessed by the incredible efforts at intellectual rationalization needed to keep the floating lien concept legally alive in the case law. Underneath this tolerance was the vague sentiment that a court could exploit the gap in the statute to protect a security interest that seemed to accord with the judge's sense of the ordinary course of commerce.452

The issue is, in a sense, the commercial virtue of a very distinct commercial actor. This character is the lender who takes and files a security interest in after-acquired inventory and accounts receivable, and who therefore has done all that the U.C.C. could require of a secured creditor-long before bankruptcy and indeed long before any hint of insol-

451. G. GILMORE, supra note 413, ? 45.7, at 1320. 452. The legal and political history of the floating lien in the dying years of the old

Bankruptcy Act has enjoyed so much scholarly attention that it has become a ritual to merely summarize the issue with a string citation to the articles. I shall do that too. Compare, Gordon, The Security Interest in Inventory Under Article 9 of the Uniform Commercial Code and the Preference Problem, 62 COLUM. L. REV. 49 (1962) and Kennedy, The Trustee in Bankruptcy under the Uniform Commercial Code: Some Problems Suggested by Articles 2 and 9, 14 RUTGERS L. REV. 518 (1960) and King, Section 9-108 of the Uniform Commercial Code: Does it Insllate the Secutrit Interestfrom Attack by a Trustee in Bankruptcy?, 114 U. PA. L. REV. 1117 (1966) and Krause, The Code and the Bankruptcy Act. Three Views on Preferences and After-Acquired Property, 42 N.Y.U. L. REV. 278 (1967) (the floating lien offends the preference prohibition) with Friedman, supra note 413 and Henson, "Pro- ceeds" Under the U1iform Commercial Code, 65 COLUM. L. REV. 232 (1965) and Schwartz, The Effect of the Uniform Commercial Code on Secured Financing Transactions and Banktruptcy, 38 ST. JOHN's L. REV. 50 (1963) (the floating lien does not offend the preference prohibition).


vency. The creditor might have acted less than ideally-it might not have systematically policed the accounts-but that is a minor and tolerable defect in commercial vigilance under the U.C.C.453 Of course, section 60(a) required the creditor to perfect his lien so he could defeat a lien creditor and, hence, the trustee. The problem, then, is that the creditor could not perfect the security interest until the debtor acquired rights in the collateral. The debtor could not acquire rights in the collateral until it acquired the collateral itself, which might be during the preference period or right on the eve of bankruptcy.454 In the technical language of the statute, the issue was framed in two related ways: Did the "transfer" occur when the security agreement was made and filed or when the debtor obtained the collateral? Or, did the debtor's late

acquisition of the collateral create a payment for an antecedent debt?455

What followed, as colorfully described by William Hogan, was the

jurisprudence of game and metaphor offering question-begging im-

agery to resolve the statutory problem instead of candidly acknowledging the moral or economic issues.456 The trustee could invoke the "atoms and molecules" model: Each piece of property is separate, and so the security interest in a piece is not perfected until the debtor actu-

ally acquires it.457 The favored creditor could respond to the "atomiz- ers" with the model of "tit for tat": Each new piece of secured property exactly substituted for a released piece, and hence did not effect any late increase in the collateral.458 The favored creditor also had the model of "fat pig": The corpus of accounts or inventory is an entity, and if it swells during insolvency, it nevertheless remains one entity.459 Or the creditor had the more sophisticated version of "fat pig"-the model of the security interests as "rivers or streams." Here the "onto-

logically oriented secured creditor" claims that though individual

453. U.C.C. ? 9-205 (1977) ratified the death of the old policing requirement first established in Twyne's Case, 3 Co. Rep. 806, 76 Eng. Rep. 809 (Star Ch. 1601), and imposed on American law in Benedict v. Ratner, 268 U.S. 353 (1925). See G. GILMORE, supra note 413, ? 11.6, at 358.

454. See G. GILMORE, supra note 413, ? 45.7, at 1323. 455. See Hogan, Games Lawyers Play With the Bankruptcy Preference Challenge to Accounts and

Inventory Financing, 53 CORNELL L. REV. 553, 555 (1968). 456. Id. 457. Id. at 556-57. The creditor had a counter-argument-that an aggressive lien credi-

tor attaching accounts as they came into existence could tie but not defeat the financer, as-

suming state law did not permit attachment or garnishing until the account came into existence. Id. at 557.

458. Id. at 561-62. Hence the transfer is really for current, not past, consideration. But

"tit for tat" seems to revive the supposedly dead issue of the policing of accounts. Id. at 563.

459. Id. at 558-59. The entity theory, Hogan points out, is too crude to resolve the

issue, as are all such metaphors. It still puts heavy pressure on defining "ordinary course" conduct to prevent a creditor from manipulating the size of his entity.

Though seemingly too good to be true, a recent case shows that life, or at least law, can

imitate art. See In re Fairchild, 31 Bankr. 789 (Bankr. S.D. Ohio 1983) (increase in value of

farmer's hogs due to their fattening does not create a preference to financer).

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pieces of collateral change, the Heraclitean river remains the same.460 When the clever legal arguments work both ways, they are probably

suppressing intractable political or moral questions, and rulemaking is probably futile. Indeed, that has been the history of the various stubborn mutations of the "equitable lien" throughout the course of scientifically pretentious bankruptcy legislation in this century. And as Hogan argues, though the much-derided U.C.C. section 9-108 became infamous for its supposedly cynical attempt to constrain federal law, it might well have been the most mature solution to the problem.46' Sec- tion 9-108's overlooked requirement that the transfer be in the ordinary course was a prescient recognition, grounded in Mansfieldian wisdom, that any more ambitious effort at technical rulemaking might break down into a vague norm anyway, but a norm distorted by the need to conform to apparently technical rule language.462

In rejecting U.C.C. section 9-108, the lawmakers and writers were adopting a rather hopeful and vague form of egalitarianism. They would leave metaphors behind, examine the relative virtue of credit schemes in the marketplace, and devise precise criteria for determining when floating-lien creditors have offended fairness and efficiency.

Meanwhile, in the famous cases of DuBay v. Williams463 and Grain Merchants of Indiana, Inc. v. Union Bank and Savings Co. ,464 the courts confidently resolved the whole issue in favor of the secured creditor. The courts, of course, had only questionable jurisdiction to engage in the subtle line-drawing that would show up in new legislation. But they also, ironically, rejected the case-by-case normative approach, adopting instead a virtually categorical rule in favor of the financer. In DuBay, the Court archly surveyed and disdained the metaphors and finessed the elegant confusions of the new version of section 60(a). It then simply declared that the floating lien was not a "true preference," since it did not look like either the secret liens or the anticommunal last-minute

460. Id. at 559. 461. U.C.C. ? 9-108 (1977) provides: Where a secured party makes an advance, incurs an obligation, releases a perfected security interest, or otherwise gives new value which is to be secured in whole or in part by after-acquired property his security interest in the after-acquired collateral shall be deemed to be taken for new value and not as security for an antecedent debt if the debtor acquires his rights in such collateral either in the ordinary course of his business or under a contract of purchase made pursuant to the security agreement within a reasonable time after new value is given.

This section was widely denounced as a "laughably naive attempt to perpetrate a fraud on the Bankruptcy Act." G. GILMORE, supra note 413, ? 45.6, at 1309.

462. Hogan, supra note 455, at 569-70. For skeptics like Hogan, the "ordinary course" test can police commercial morals far better than a mechanical rule like the 2-point tracing test later established by Congress. See text accompanying note 476 infra. Moreover, ? 9-108 also clearly leaves unprotected the truly manipulative creditor who creates an after-acquired property scheme to secure an old debt, without giving some new value at the time of the agreement. See Hogan, supra note 455, at 569.

463. 417 F.2d 1277 (9th Cir. 1969). 464. 408 F.2d 209 (7th Cir. 1969).

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seizures that offended the principles of preference law.465 Grain Merchants glided over state law definitions of transfer, and blithely adopted just those metaphors that favored the secured lender.466 Moreover, the court there employed the political trope that a more re- strictive preference rule would

impede and choke the flow of credit, principally to small-business men, and the object of the bill is to free its channels .... [Preference law should not invalidate] normal and accepted business and financial relationships.467

It thereby justified what might have seemed like a cynical power cession to sophisticated financers by granting these creditors the high moral ground of commercial custom. DuBay and Grain Merchants could then be seen, to those so inclined, in the great tradition of breezy judicial tolerance of loose credit arrangements, or even as political payoffs to secured creditors. Legislators then went on a "rescue mission" for unsecured creditors.468

B. The Bankruptcy Reform Act of 1978

1. The new scientific pretense. What followed was another decade of legislative and scholarly tink-

ering, grounded in the hope of drawing firmer lines in a modern scientific statute that would draw all the relevant distinctions in preference law. But, as always, that effort in section 547 of the 1978 Bankruptcy Reform Act quickly proved a failure if measured against its pretenses. It was quickly subjected to academic criticism that its scientific goal was either wrong or unachievable. Courts continued to find play in the stat-

utory joints to uphold transfers that seemed morally unassailable, and

political critics found its resolution of debtor-creditor politics prejudicial to those they perceived as the underclass of the credit markets.

The legislative response to DuBay is one of the most interesting ex-

periments in bankruptcy history in the art of morally confident scientific

rulemaking. As if by return to the hopes of Daniel Defoe, the drafters of section 547 of the Bankruptcy Reform Act of 1978 believed they could erect a complex set of rules that would draw the relevant moral and economic distinctions that the previous statutes had failed to draw, and to which the DuBay court had been blissfully indifferent.

The drafting history was long, elaborate, and hopeful. The early efforts suggest some wizened wariness about the project. A 1967 draft-

ing committee of the National Bankruptcy Conference recognized the

465. 417 F.2d at 1287-89. 466. 408 F.2d at 212-19 (noting entity and substitution-of-collateral theories). 467. Id. at 214 (quoting 2 U.S. CODE CONG. SERV., 81st Cong., 2d Sess. 1985, 1986-87

(1950)). 468. See NATIONAL BANKRUPTCY CONFERENCE, REPORT OF THE COMMITTEE ON COORDINA-

TION OF THE BANKRUPTCY ACT AND THE UNIFORM COMMERCIAL CODE 6 (1970) [hereinafter 1970 REPORT].

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ritualized failure of previous legislative reforms,469 and the inherent difficulty of solving the large complex problems of liens in bankruptcy through the fragile, abused medium of preference law.470 Indeed the 1970 committee report eschewed comment on the wisdom of the reasonable-cause-to-believe test because it was skeptical about the empirical bases for the various sides in the controversy, and felt it had "no special expertise in these matters."471 The 1970 report also recognized the potential instability of the project caused by the changing political premises.472

Nevertheless, by 1973, the Commission assisting Congress in drafting the 1978 Act clearly stated its guiding philosophy: Preference law is designed to capture secret liens and eve-of-bankruptcy grabs, to prevent rewards to "favored creditors or to friends or relatives or simply to those creditors who exert the most pressure on the debtor." The 1898 Act had become "encrusted over the years with amendments and judicial interpretations," its provisions "intolerably complicated in their terms and subject to qualifications for which there is no policy justifica- tion."473 The new law would afford clean rationality. It had three goals-to lessen the scramble among creditors, to promote equality, and to eliminate any incentive for debtors and creditors to arrange un- wise loans.474

The drafters of the new statute seemed to enjoy considerable moral clarity in their vision of the credit market, and that vision contained one prototypical villain: the undercollateralized financer who increases his

469. NATIONAL BANKRUPTCY CONFERENCE, REPORT OF THE COMMITTEE ON COORDINATION OF UNIFORM COMMERCIAL CODE AND BANKRUPTCY ACT 3 (1967) [hereinafter 1967 REPORT]. The 1898 drafters wisely avoided a detailed treatment of security interests because security law was:

in a state of violent and rapid flux. The old categories were breaking down; the new categories had not yet emerged. It is in the highest degree unlikely that even the most gifted and prescient draftsmen could have imposed anything like a workable pattern on such a swirling chaos of law.

Id. The timing of the 1950 amendment was unfortunate, because the chaos had just begun to resolve itself under the U.C.C. Id. at 5.

470. The committee recognized the artificiality of determining the validity of liens through preference law rather than doing so directly through a federal lien-in-bankruptcy law-but it was too late to take that approach. Id. at 6. This is even clearer in the 1970 Report, where the committee acknowledged it was taking on a more limited mandate than it would have hoped for and was sorry it had to solve the whole problem through preference law. 1970 REPORT, supra note 468, at 1.

471. 1970 REPORT, supra note 468, at 8. 472. The committee explained that when it began its work, its goal was to save secured

creditors from the preference-snaring reach of the 1950 amendment, but that when Dubay and Grain Merchants showed that the courts would give floating-lien financers all the protection they could hope for, the new mission of the committee became to save unsecured creditors from the courts. Id. at 5-6.

473. REPORT OF THE COMM'N ON THE BANKRUPTCY LAWS OF THE UNITED STATES, PART I, 93d Cong., 1st Sess. 18-19 (1973) [hereinafter 1973 REPORT, PART I]. After DuBav, the pros- pects for working out a sensitive intermediate position through case law were dismal, and the situation demanded a "fair and sensible resolution of the policy issues [through] statutory revision." Id. at 206.

474. Id. at 202.


collateral in the preference period and thus commits a "classic preference."475 Whether by fraudulent manipulation or undeserved fortuity, this character offends the equality-is-equity principle, and the new statute contained two key innovations to deny him his undeserved or ill- gotten gains. First, the statute would contain a clean, arithmetic 2- point net improvement test, which would obviate "essentially metaphysical speculations about the nature of a transferee's interest in a constantly changing mass or aggregate of collateral."476 Second, Con- gress would relieve the trustee of his evidentiary burdens in proving the debtor insolvent at the time of the preferential transfer, and in proving the creditor had a culpable mental state.477 It would be an economic wrong per se for any creditor, for any reason, to improve his position at the expense of other creditors within the suspect period.478

2. The elegant subtleties of section 547.

The new section 547 mixed new "carefully measured concepts with familiar definitional language from old section 60."479 If section 60 was an overly abstract definition of preference, inviting "qualifications imaginatively grafted by the judges," section 547 was to be "a new and radical intergation of definition and exception." The exceptions were new and enumerated, and did not merely codify the case law. Thus,

475. Harris, A Reply to Theodore Eisenberg's Bankruptcy Law in Perspective, 30 UCLA L. REV. 327, 335-37 (1982).

476. In the 2-point test, the proposal "sacrifices a great deal to simplicity of administration" and seeks to avoid "tedious, asset-exhausting litigation." 1970 REPORT, supra note 468, at 16-17. As finally articulated in the statute, the 2-point test protects from the preference recapture rule floating lien collateral in inventory and accounts receivable, except:

to the extent that the aggregate of all such transfers ... caused a reduction, as of the date of filing ... and to the prejudice of other creditors holding unsecured claims, of

any amount by which the debt secured by such security exceeded the value of all

security interests [90 days before the petition is filed]. 11 U.S.C. ? 547(c)(5) (1982). The principle, then, is that if a floating lienor's collateral is

greater the day the petition is filed than it was precisely 90 days earlier, then bankruptcy law

presumes the increase is wrongful, except where the increase does not prejudice the estate because it is due to such natural factors as crop harvests, completing work in progress, and seasonal fluctuations in value. See 1973 REPORT, PART I supra note 473, at 210. This crucial new formal element in the preference law was soon attacked on two different grounds. Some critics complained that, like many formal, mechanical rules, it was insensitive to its underlying norm. Yet others complained that the rule's "mechanical advantage" was illusory, because it

proved unbearably complex in application. See note 533 infra and accompanying text. 477. See 1973 REPORT, PART I supra note 473, at 201, 203. 478. The Commission cited with approval a Canadian study arguing that: intention should be irrelevant. No creditor should, for any reason, improve his position, at the expense of the other creditors, within the suspect period immediately prior to bankruptcy.

Id. at 203, quoting REPORT OF THE STUDY COMMITTEE ON BANKRUPTCY AND INSOLVENCY LEGISLA- TION-CANADA 118 (1970).

479. Ward & Shulman, In Defense of the Bankruptcy Code's Radical Integration of the Preference Rules Affecting Commercial Financing, 61 WASH. U.L.Q. 1, 4 (1983).

For an exhaustive study of the statutory complexities of ? 547, concluding with a dyspep- tic rejoinder to commentators who have questioned its assumptions, see Countryman, The

Concept of a Voidable Preference in Bankruptcy, 38 VAND. L. REV. 713 (1985).


section 547 attacks the old abstract "conceptual" approach which left the common law courts with room to roam.480

Section 547(b) lists the elements of a preference, largely tracking section 60 but for the crucial new presumption of insolvency and the crucial absence of a reasonable-cause-to-believe test in regard to the creditor.481 Section 547(e) revises the lien creditor test for determining the timing of a transfer affected by state recording laws, aban- doning the "artificial devices" associated with the old case law corollaries to section 60(a)(2).482 Section 547(c) contains cleanly enumerated exceptions for nonpreferential transfers, using formal rules to capture the norm of respecting transfers that exhibit uncontroversial moral innocence and effectively provide equivalent value so that they do no harm to the estate. The key exceptions are for short-term payments made in the ordinary course of business that resemble cash more than credit schemes, and for those after-acquired property arrangements that do not reflect increases in collateral as measured by the new 2-point net improvement test.483

The 1978 Act was drafted in a spirit of confidence that "the new structure should herald a tighter, more literal construction of the familiar definitional language."484 The goal of interpretation should be "a more efficient, mechanical integration."485 This integration would emphasize equality of distribution and provide a "more efficient system of recapture."486 Limiting protected transfers to the statutory list was "critical," since "[t]he cornerstone of the new preference section is the principle of equality of distribution based on fairness and perhaps economic utility."487 Unlike section 60, section 547 does not merely arm the trustee with the power to avoid transfers to creditors who have "be- haved badly" by accepting payments with notice of the debtor's insol-

480. Ward & Shulman, supra note 479, at 5-6. 481. See 11 U.S.C. ? 547(b) (1982). The trustee must prove a transfer of property of the

debtor to a creditor, for or on account of an antecedent debt, while the debtor is insolvent. This must occur within 90 days of the filing of the bankruptcy petition (or within a year if the creditor is an "insider" with respect to the debtor), where the creditor thereby receives more than he would have received in bankruptcy had the transfer not been made. See Ward & Shulman, supra note 479, at 13-14.

482. See 11 U.S.C. ? 547(e) (1982); see also Ward & Shulman, supra note 479, at 14-15. The statute dates the transfer at the time of perfection, or at time of the actual transfer if perfection is within 10 days. Perfection is defined as the time after which a simple contract creditor could not under state law get a judicial lien superior to the claim of the transferee.

483. See 11 U.S.C. ? 547(c) (1982); see also Ward & Shulman, supra note 479, at 15-16. The exceptions are for (1) substantially contemporaneous exchanges; (2) ordinary course payments for like-cash obligations incurred in the ordinary course; (3) enabling loans that would otherwise be preferences by virtue of ? 547(e); (4) credit against preferences for subsequent new value the creditor gives the debtor; (5) transfers of floating lien collateral in inventory and receivables that satisfy the 2-point no net improvement test; and (6) statutory liens under state law unless elsewhere invalidated.

484. Ward & Shulman, supra note 479, at 9. 485. Id. at 11. 486. Id. 487. Id. at 16-17.

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vency or by participating in the race of diligence. Instead, section 547 comes closer to the principle that "all creditors ought to be treated equally."488

Yet soon after this confidently scientific scheme became the law, it drew attack as a classically failed, quixotic effort to prescribe formal rules in an area that could only sensibly be left to the more modest regulation of flexible norms. This agnostic position received its sharp- est articulation from Theodore Eisenberg, whose argument ran essentially as follows:489 Section 547 unnecessarily preempts unanimous state law, with a federal rule being at best marginally superior. No coherent moral or economic theory supports any of the traditional firm positions on the controversial preference issues, so we gain nothing by overruling state law. Section 547 goes far beyond prohibiting aggressive eve-of-bankruptcy "grabs" and secret liens to exaggerate equality is equity, and the result is an arbitrary, mechanical rule.490 The new rule aids unsecured creditors, but there is no empirical basis for assuming the unsecured creditors need the protection.491 Even if there were evidence that section 547 redistributed the risk of bankruptcy, it is not clear that the social effect is positive, since the more ambitious prohibition of preferences may simply create a domino effect of serially col- lapsing debtors.

In the face of philosophical and empirical indeterminacy,492 the only clear effect of adding an extra set of rules is a wasteful increase in litigation over the gaps in the pretentious new statutory scheme. Nor- mative standards might seem to invite more litigation than rules, but rules that threaten to treat many transactions as preferences increase

488. Id. at 17-18. 489. Eisenberg, Bankruptcy Law in Perspective, 28 UCLA L. REV. 953 (1981). 490. Id. at 963-66. Eisenberg also argues that the 2-point net improvement test in

? 547(c)(2) does not sensitively capture manipulation of collateral by a floating lienor, and that the limitation of that safe harbor to inventory and receivables is wrong. Id. at 962 n.27, 964 n.33. Moreover, all the redistribution happens at the expense of secured lenders whose collateral fortuitously increases during the preference period. If unfair treatment of unsecured creditors is the problem, a better solution would be to give unsecured lenders a minimum percentage of the estate. Id. at 969.

Indeed, Eisenberg is skeptical that the drafters of ? 547 were really concerned with policing immoral creditor behavior, suggesting instead that their mission was an abstract redistributional goal in favor of unsecured creditors. Eisenberg, Bankruptcy Law in Perspective: A

Rejoinder, 30 UCLA L. REV. 617, 631-32 (1983). In short, the drafters had a broader, if ill- articulated, political agenda, and abused preference law in order to achieve it.

491. Unsecured creditors deserve little sympathy since they know about the system and know not to rely too much on inventory or receivables. Unsecured creditors with notice can

protect themselves every bit as much as undersecured creditors. If the estate on the whole benefits from more unsecured credit, the unsecured creditors will simply charge higher interest and still lend, or secured lenders will take up the slack. One needs to know more than is now knowable about elasticity of demand to know whether the rule makes any difference.

Eisenberg, supra note 489, at 966. 492. I claim no great insight into what secured and unsecured creditors deserve in

bankruptcy. They seem to deserve what the law promises them, for they lend on the basis of a legal structure that, in most cases, is known in advance.

Eisenberg, supra note 490, at 628.

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litigation the most.493 If there really are moral concerns in preference law, they are just as well addressed through accommodating the moral vision of state law, or at least through a flexible federal norm that invokes the "ordinary course" theme of U.C.C. section 9-108.494

C. The Unraveling of Section 547

1. The case law.

The skeptical position quickly found confirmation in the new case law, which both deliberately expressed and inadvertently confirmed the futility of preference rulemaking.495 One of the most interesting issues proved to be the floating lien in the statutory gap that Congress had ignored.

In Riddervold v. Saratoga Hospital,496 Judge Friendly faced a very narrow issue under the bold new Bankruptcy Reform Act of 1978. In 1977 and 1978, a hospital where Riddervold had received medical treatment filed and recorded a garnishment order on Riddervold's employer, the State of New York, for the amount of an unpaid medical bill. The hospital thus had a species of floating lien on Riddervold's income. On December 3, 1979, Riddervold filed a voluntary bankruptcy petition. In the 90 days preceding the petition-the statutory period during which Riddervold's trustee could avoid any preferential payments Riddervold made to a creditor-the state made two monthly payments to the hospital under the garnishment order.497

The rather ministerial, involuntary transfer of money under the garnishment order hardly seems like the sort of manipulative side-deal between a debtor and a favored creditor that bankruptcy law has normally-if erratically-associated with the sin of preference. But the trustee nevertheless had a perfectly straightforward argument under section 547 of the new Bankruptcy Code that the payments were preferential. They certainly met the technical definitions of transfer, whether involuntary or not, to a creditor, by a bankrupt debtor, in the period just before bankruptcy, giving the creditor more than it would have gotten in bankruptcy. Section 547(e)(3), which states that a "transfer is not made until the debtor has acquired rights in the property transferred," might seem to settle the issue. And the safe harbor for floating liens in section 547(c)(5) quite explicitly protects from avoidance only floating liens in inventory and accounts receivable.498

493. See Eisenberg, supra note 489, at 968-69. 494. Eisenberg, supra note 490, at 633-34. 495. See Ward & Shulman, supra note 479, at 9 (lamenting discouraging signs that judges are failing to respect the new, tightly formal structure of ? 547). 496. 647 F.2d 342 (2d Cir. 1981). 497. Id. at 343. 498. See note 483 supra and accompanying text. Ironically, the drafting committee delib-

erately dodged this issue. Inventory and receivables were the "heart of the matter," and "[t]here is much to be said for the principle of statutory drafting which counsels that only real

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Judge Friendly, however, seemed utterly uninterested in anything so mundane as the rules contained in the new Bankruptcy Code. Rather, he leaped back to the presumably forgotten days of legal fictions under the old bankruptcy law, and relied on some turn-of-the-

century decisions about property rights in garnished income.499 He

drily noted:

To be sure, these cases were decided under the Act of 1898 but we find nothing in the language or the policy of the 1978 Code that forbids their continued application.500

Friendly found what he wanted in a 1910 Learned Hand opinion. Adopting Hand's "continuing levy" imagery, Friendly easily decided that there was no preferential transfer to worry about in the case:

This is not because Riddervold took no action to cause the payments to be made, since "transfer" is defined to include an involuntary transfer. It is rather because after the sheriff has taken the step .... the debtor has no property or interest in property subject to the levy which can be transferred.501

Friendly, of course, showed that he had little regard for formal rules

restricting commercial conduct when his moral sense, presumably tem-

pered with commercial wisdom, told him that there was nothing wrong with the conduct. The Riddervold opinion is a small but revealing instance of the general instability of the new Bankruptcy Code's formalis-

problems be dealt with and that sleeping dogs should be left undisturbed." 1970 REPORT,

supra note 468, at 15-16. 499. Riddervold, 647 F.2d at 344-46. Judge Friendly acknowledges that ? 547 completely

rewrote ? 60, and removed or changed material dealt with under the old ? 67 lien provision. He also quotes the broad ? 101(40) definition of transfer: "every mode, direct or indirect, absolute or conditional, voluntary or involuntary, or disposing of or parting with property or with an interest in property, including retention of title as a security interest." Judge Friendly nevertheless says "there is a dearth of authority" on the preference question here, and latches on to a Learned Hand opinion, In re Sims, 176 F. 645 (S.D.N.Y. 1910). See note 501 infra.

500. Riddervold, 647 F.2d at 347. 501. Id. at 346. In Sims, the garnished salary within the 4-month period belonged to the

creditor under a "continuing levy" theory. See In re Sims, 176 F. 645 (S.D.N.Y. 1910); cf. In re

Wodzicki, 238 F. 571, 572-73 (S.D.N.Y. 1916). But see In re Beck 238 F. 653, 654 (S.D.N.Y. 1915). Judge Friendly says flatly that there was no ? 547(b)(4)(a) transfer during the 90-day period. In a sense, Judge Friendly is not relying on the state label; indeed he is defying it, since the New York statute, as he acknowledges, pretty clearly requires the garnishee to pay the installments over to the sheriff, and the employer is under no obligation until the debtor earns the wages-indeed the levy is ineffective if the debtor leaves his job. See Riddervold, 647 F.2d at 345-46. But he does not smell a preference and simply declares that the income execution works a novation whereby the employer owes 10 percent of the salary to the judgment creditor. Id. at 346.

Sims was a one-page opinion, baldly describing the pre-four month income execution as a

"continuing levy" until thejudgment was paid. See In re Sims, 176 F. 645, 646 (S.D.N.Y. 1910)

Judge Mayer in Wodzicki agrees with Hand, saying that if the trustee won, the result would be that the bankrupt would ultimately obtain money collected for account of the judgment creditor during 4 months when the execution and levy under section 1391 of the New York Code were valid and outstanding, and the judgment creditor would be deprived of the fruits of his diligence, all to the benefit of the debtor-a result which I think was not contemplated by the bankruptcy statute....

Wodzicki, 238 F. at 573.


tic scheme, and some of the criticism it has received reflects the distress the advocates of the new Bankruptcy Code feel about any threat to the Code's formalist, scientific pretensions.

Some courts read the statute with ceremonial respect, paying fealty to the new categorically formal spirit of the Code.502 But several others followed Judge Friendly's approach (if not with his arch, insouciant disdain for the statute) allowing state law labels to define away the preference problem, thus committing the Bankruptcy Act to a role of policing commercial ethics, rather than imposing abstract redistributional theory.503 And in other situations, courts managed to manipulate the amorphous definition of the debtor's property, in order to protect a favored creditor who did not meet the imagery of the aggressive manipulator, at times even invoking the old spirituality of the equitable lien.504

502. See, e.g., In re Tabita (Tabita v. IRS), 38 Bankr. 511, 513-15 (Bankr. E.D. Pa. 1984) (in garnishment case where creditor is IRS, government ambitiously argues that Ridderuold has settled issue, but court says Judge Friendly simply ignored the statute); In re Eggleston (Eg- gleston v. Third Nat'l Bank), 19 Bankr. 280, 283-84 (Bankr. M.D. Tenn. 1982) (nothing in legislative history suggests ? 547(e)(3) is limited to after-acquired clauses; under state law, transfer occurs when the wages are earned; garnishee gives money to court, so debtor retains interest in wages until court redirects it); In re Emery, 13 Bankr. 689, 690 (Bankr. D. Vt. 1981) (under ? 547(e)(3) a transfer is not made until the debtor has rights in the property, and the debtor has no rights in the wages until he earns them); In re Diversified World Invs., Ltd., 12 Bankr. 517, 519 (Bankr. S.D. Tex. 1981) (assignment of rental payments due debtor is complete when made; ? 547(e)(3) was enacted to overrule DuBay and Grain Merchants, and applies here, and ? 101(40) defines transfer broadly; payments to creditor were indirect transfers made to reduce debt); In re Cox, 10 Bankr. 268, 271-72 (Bankr. D. Md. 1981) (? 547(e)(3) is a significant departure from the old Bankruptcy Act, expressly intended to overrule Grain Alerchants, and garnishment is like an after-acquired property clause; though garnishment is a perfected lien on wages such that a simple contract creditor could not acquire a judicial lien superior to the rights of the judgment creditor, ? 547 avoidance powers extend to avoidance of transfers, not perfection of liens, and the transfer of wages cannot occur until the wages are earned).

503. E.g., In re Coppie, 728 F.2d 951 (7th Cir. 1984) (under Indiana law, garnishee is accountable from date garnishment summons is served for any money owed debtor; like New York law, this works novation; after court order, debtors no longer had property interest in 10 % of their future income; situation not analogous to after-acquired property clauses, since here full ownership in income stream transferred at time of summons); In re Woodman (Woodman v. L.A. Olson Co.), 8 Bankr. 686, 687-88 (Bankr. W.D. Wis. 1981) (earned wages cease to be property of debtor after garnishment summons which creates equitable lien on employer's debt to employee).

504. See In re Gurs, 34 Bankr. 755 (Bankr. 9th Cir. 1983). The creditor claimed a constructive trust on the debtor's title to real estate, and filed a lis pendens within 90 days of the debtor's bankruptcy, giving the debtor constructive notice of the claim. The question was thus whether the filing was equivalent to perfection of a security interest for an antecedent debt. The court held that to find a preference in this situation would be to confuse avoidance of a transfer of an interest in the debtor's property with avoidance of an act that perfects a claim of ownership as against potential bona fide purchasers, and that ? 547 avoids the former, not the latter. To make this an illegal transfer under ? 547, the trustee must argue that ? 544(a)(3), giving the trustee a bona fide purchaser's lien-preempting power over realty, transforms the creditor's equitable interest into the debtor's property. But as a prerequisite to the operation of ? 544(a)(3), this argument requires that we first negate the effect of the lis pendens under ? 547, so the trustee's argument is circular. See id. at 756-57.

As for the question of antecedent debt, the creditor is really an equitable owner, not a creditor. The trustee argues under the broad definition of "claim" in ? 101(4) that the credi-


But the judicial subversion of the new statute was not limited to floating liens. It was equally evident in the application of what is perhaps the most revealing subsection of the statute in the context of the rules-standards conflict. Subsection 547(c)(2) was the drafters' effort to capture the norm of protecting innocuous, like-cash, ordinary course payments to garden-variety trade creditors. The drafters loaded up the provision with the rhetoric of ordinariness to ensure that the normative goal was clear.505 Purely normative or customary language would have created an inherent instability in a preference law that had purported to make moral innocence irrelevant. But it seemed a political necessity when so many threatened creditors were holders of small, regular debts whose billing cycles made most payment antecedent, but who were not aggressive creditors in any intuitive, normative sense of the term. The drafters then sought to avoid this instability by constraining the normative language with a clear-cut rule: If, and only if, payment were within 45 days of the incurrence of the debt, it could be treated as if it were an exchange for present consideration.506

The drafters may have had a clear image of the sort of transaction covered by this rule, and they may have been confident that the 45-day image of the billing and collection cycle effectively reflected the norm.507 But the sudden eruption of case law showed how unstable this mixed rule-standard was. How should a court establish the "ordinariness" of every aspect of the credit arrangement? And how can a court apply that norm to the diverse range of consumer purchases, when the elusive line between necessities and luxuries makes "ordinariness" impossible to discern? And most subtly, how does a court tell when the debtor has incurred the debt? What of doctors and lawyers

tor is really asserting a claim for a debt, and indeed under California law the holder of the lis

pendens can get damages as well as specific performance, but this is a non sequitur. As if to imitate, clumsily, Judge Friendly's reference back to hoary old case law, the Gurs court relies on some faulty dictum in Cunningham v. Brown, 265 U.S. 1, 11-12 (1924) (in Ponzi scheme, equitable owners only become creditors where trust res could not be traced to specific property in hands of debtor). See Gurs, 34 Bankr. at 758. But cf In re AJ. Nichols, Ltd., 21 Bankr. 612, 614-16 (Bankr. N.D. Ga. 1982) (where bankrupt debtor took oriental rugs on "sale or return" consignment under Georgia's U.C.C. ? 2-326, debtor's return of rugs to consignor just before bankruptcy is a preference; for bankruptcy purposes, rugs became property of debtor, and return was payment to a creditor on an antecedent debt).

505. The trustee may not avoid . .. a transfer-

(2) to the extent that such transfer was- (A) in payment of a debt incurred in the ordinary course of business or financial

affairs of the debtor and the transferee; (B) made not later than 45 days after such debt was incurred; (C) made in the ordinary course of business or financial affairs of the debtor and

the transferee; and (D) made according to ordinary business terms ....

11 U.S.C. ? 547(c)(2) (1982). 506. See Ward & Shulman, supra note 479, at 83-85. 507. Congress chose 45 days as the measure because it assumed that number repre-

sented the normal business cycle-a 30 day billing cycle plus 15 days for payment. Levin, .ln Introduction to the Trustees Avoiding Powers, 53 AM. BANKR. L.J. 173, 186-87 (1979).

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rendering intangible services and billing over a long period of time? Are credit card debts incurred when the card is issued, when the debtor makes a purchase, or when the issuer's billing cycle begins? How can a court stop a creditor from contriving its "due dates" just to evade the preference prohibition?508

Some courts were quick to argue the importance of the categorical preference-finding goal of section 547 and the jealously guarded nar- rowness of any exceptions. They acknowledged that the statute was unclear, and that the Code policy was to recognize "normalcy" and

to leave undisturbed normal financial relations, because it does not de- tract from the general policy of the preference section to discourage unusual action by either the debtor or his creditors during the debtor's slide into bankruptcy.509

But these courts denied creditors any freedom to exploit the ambiguities of section 547(c)(2), insisting that under the new regime, intent and motive are irrelevant, and only effect is controlling. The old reasonable-cause-to-believe standard was concerned with deterring race-to- diligence behavior, but the new Code is concerned with the more abstract policy of equality of distribution.510 These courts, however, could not resolve the question of how we define incurrence of the debt.

Thus, some courts quickly started exploiting the ambiguity of "incurrence" to so recharacterize a transaction that it could fall within the section 547(c)(2) exception on dubious technical grounds, because it seemed nevertheless to meet the "ordinariness" norm. And even if the statute could tolerate a little manipulation of the "incurrence" provision in the case of truly "ordinary" trade creditors like utilities, the courts extended their tolerance to commercial lenders. In In re Iowa Premium Service Co.,511 the court agreed that the debtor's liability on a promissory note occurred sequentially as the interest accrued, rather than all at once when it wrote the note, and so the transaction essentially met the substantial contemporaneity norm that helped it escape

508. Kaye, Preferences Under the New Bankruptcy Code, 54 AM. BANKR. LJ. 197, 202-03 (1980).

509. Barash v. Public Fin. Corp., 658 F.2d 504, 510 (7th Cir. 1981), quoting H.R. REP. No. 595, 95th Cong., 1st Sess. 373-74 (1977).

510. In Barash, the trustee sought to recover payments the debtor voluntarily made, via direct payment or payroll deductions, to various consumer trade creditors on installment loans. The payments were made within 90 days of bankruptcy, and far more than 45 days after the debt was originally "incurred" (at the time of the consumer contracts). The court conceded the "normalcy" of the transaction, but held that the debt was incurred "whenever the debtor obtains a property interest in the consideration exchanged giving rise to the debt," see Barash, 658 F.2d at 509, quoting 4 COLLIER ON BANKRUPTCY ? 547.38 (15th ed. 1980), and hence far more than 45 days before the payment. The moral innocence of the creditor has become irrelevant under the firm, rule-like boundaries of ? 547(c)(2). See Barash, 658 F.2d at 509; Cf In re Ray W. Dickey & Sons, Inc., 11 Bankr. 146, 147-48 (Bankr. N.D. Tex. 1980) (debt on a phone bill is incurred when calls are placed, not when bills are sent); In re McCormick, 5 Bankr. 726, 730-32 (Bankr. N.D. Ohio 1980); In re Bowen, 3 Bankr. 617 (Bankr. E.D. Tenn. 1980); In re Keeling, 11 Bankr. 361 (Bankr. D. Minn. 1981).

511. (Iowa Premium Serv. Co. v. First Nat'l Bank), 695 F.2d 1109 (8th Cir. 1982).

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the preference prohibition.512 As a matter of policy, a contrary result would prejudice commercial bank lenders as compared to trade creditors.513 A similar result occurred in the payment of rent for real estate, where the court inferred that rent was only due as the land was monthly consumed.514 These metaphysical questions proved an excellent opportunity for courts to pierce through the rules to get to norms.

The norm underlying section 547(c)(2) can be characterized as a mens rea standard: The creditor should be protected for his nonculpable mental state, even if the reasonable cause standard has been eliminated, where the situation suggests he engaged in no true creditor grabbing at all, but has received payment simply resulting from an automatic schedule. This norm would, of course, reflect the Ameri- can inversion of the old English pressure rule. But the notion of simul- taneity offers another way to view that norm. If the creditor put something into the estate essentially at the same time that he took something out, his payment is really a wash, and so it does not truly diminish the estate. Like the equitable lien, "diminution of the estate" is, in a sense, a very vague moral theme that runs through much of the antipreference case law. But it is also a much more specific doctrine

512. The court reasoned that the debt was contingent in the sense that the debtor was

only obligated to pay interest for the time it retained the use of the money. The Bank thus would not have had a cause of action for the unpaid interest until the interest accrued because the debtor, after all, had a choice to prepay the loan. Moreover, though not decisive, the rate of interest was variable-prime plus one and a quarter. The Code did not define incurrence, but it does define debt in ? 101(11) as liability on a claim, and it defines a claim as a right to

payment or remedy. Thus, the court treats payment on an installment loan like a rental payment which depends on use, not possession of the property. Id. at 1111-12. But see id. at 1112-15 (Ross,J., dissenting) (? 547(c)(2) was never intended to cover this case; debtor here had received the full consideration for loan, and interest was not really contingent since even at time of issuance interest could be readily calculated).

513. Id. at 1112; see also In re Ken Gardner, Ford Sales, Inc., 10 Bankr. 632, 646-48

(Bankr. E.D. Tenn. 1981) (interest is a debt payment on a new service in the ordinary course, which is nonpreferential because it helps keep the debtor alive).

514. In re Mindy's, Inc., 17 Bankr. 177, 179-80 (Bankr. S.D. Ohio 1982). The debtor,

Mindy's clothing retailer, rented land, and the question was whether its monthly rental payments were for an antecedent debt incurred when it signed the lease. The court held that the consideration was consumed each month, so the payments were not preferential, particularly because here the rental debt was based in part on a percentage of the debtor-lessee's gross sales receipts.

In In re Thomas Garland, Inc., 19 Bankr. 920 (Bankr. E.D. Mo. 1982), the debtor in possession, in a Chapter 11 proceeding, sought to recover electricity payments paid several weeks after the billing statement was mailed. Union Electric relied on the judicially created net result rule that when payments are made on a running account in the regular course of business, within 90 days, without the creditor knowing of the debtor's insolvency, and where the net

result of the transactions is to enrich the estate, no preference exists. Here the value of the

electricity exceeded the payments, and the estate thus enjoyed a net gain during the 90-day

period. The court rejected the view that the debt is incurred at the time of consumption, since this would present for utilities the practical problem of identifying when each kilowatt or

pound of steam is consumed. In the absence of a rule, the court resorted to sensible business

custom, since "[t]he court should not require unnecessarily the parties to rearrange their

accounting practices and financial dealings with one another." Id. at 927. The trade practice here was to read the meter's usage every 30 days, so that the debt was incurred on the last day of each 30-day period.


that has its roots at the very birth of the 1898 Act. Its specific source connects it with the general principle we have seen that a creditor should receive some reward or protection if he has played an unusually helpful role in trying to sustain the estate, even where his actions meet all the technical elements of a preference.515

The true "diminution of estate" doctrine arose at the turn of the century to protect running account creditors who engaged in a series of debit-credit transactions when the debtor fell into peril, but who were unfairly punished by a strict reading of the preference rules.516 Though an early amendment was supposed to have removed any need for a common law doctrine, that doctrine nevertheless survived under the authority of the old "greater percentage" test of preferences.517 In its most specific surviving form under the old Bankruptcy Act, the "greater percentage" test would enable the generous creditor to net out all the payments and credits during the preference period to reduce his preference liability, even though the statute technically said that preference liability could only be reduced by the advances made after the allegedly preferential payments.518

One can obviously treat the 1978 Code as so sweeping and formal a

515. Of course, one particular type of "enabling loan," the purchase money security interest, does receive special treatment. A creditor who either sells the debtor goods and immediately reserves a security interest in them, or who lends the debtor money which the debtor immediately uses to buy specifically identified goods, may gain super-priority against other secured creditors under U.C.C. ? 9-312, and may also circumvent the preference provision under 11 U.S.C. ? 547(c)(3). However, the rules defining purchase money security interests require very strict tracing between the loan money and the collateral, see J. WHITE & R. SUMMERS, HANDBOOK OF THE LAW UNDER THE UNIFORM COMMERCIAL CODE 1042-47 (1980), so that this special category of protected credit cannot be expanded to cover the wide variety of "enabling loans" which often receive favored treatment under the 1898 Act.

516. The net result rule developed from judicially perceived inequities in the 1898 Act. In Pirie v. Chicago Title & Trust Co., 182 U.S. 438, 449-56 (1901), the Supreme Court construed ? 57(g) to require surrender of all preferences, whether or not they were voidable under ? 60(b). The creditor could retain the preference or receive a claim, but not both. Later, courts in running account cases alleviated this result with the net result rule, under which payments and credits could, in accord with business custom, be treated as one combined transaction in a mutually interdependent relationship. See Kimball v. E.A. Rosenham Co., 114 F. 85, 88-89 (8th Cir. 1902); see also Jaquith v. Alden, 189 U.S. 78, 82-83 (1903). In 1903, Congress amended ? 57(g), applying it only to void or voidable preferences, see note 339 supra, so the surrender rule did not apply to a creditor who lacked the reasonable-cause- to-believe that would make the payment voidable. This change might have eliminated the theoretical foundation for the net result rule, but numerous courts kept applying it anyway. E.g., In re Fred Stern & Co., 54 F.2d 478, 480 (2d Cir. 1931); Walker v. Wilkinson, 296 F. 850, 854-55 (5th Cir. 1924); In re Stewart, 233 F. Supp. 89 (D. Or. 1964).

517. See Ward & Shulman, supra note 479, at 47-51. Under the greater percentage test in ? 60(a)(1) of the old act, a transfer was preferential only if it enabled the creditor to get a percentage of his debt greater than that received by other creditors of the same class. This test has been accused of creating grave statutory confusion and of reviving the murky phan- tom of the "diminution of the estate" norm. See Ward & Shulman, supra note 479, at 51. Several courts have been condemned for upsetting the "clean, mechanical" operation of the rule, id. at 48, 51, by recurring to the anachronistic language of this test. See, e.g.., In e Music House, Inc., 11 Bankr. 139 (Bankr. D. Vt. 1980); In re Conn, 9 Bankr. 431, 433-34 (Bankr. N.D. Ohio 1981).

518. See Farmers Bank v.Julian, 383 F.2d 314 (8th Cir. 1967).


revision of the preference laws that no engrafted common law exceptions should apply, and indeed section 547(c)(4) of the Code expressly bars a preferred creditor from "netting out" all advances and payments, regardless of their sequence.519 Yet soon after it was passed, the Act invoked concern that its scientific ambitions were threatened by the embers of the diminution of estate doctrine. As courts implicitly reinvoked the doctrine,520 they raised a concern that equitable sentiment might undermine the whole Code. So morally compelling and flexible was the diminution doctrine that "[a]ny court can extend these devices to any set of facts if it desires to save a transaction it deems worthy."521 The doctrine could protect any transaction that is crucial to the "ability of a business to operate and thereby, at a minimum, preserve the value of its assets for all creditors."522

A good number of cases flatly reject the diminution of estate doctrine-or its underlying sentiment.523 Yet, ironically, in one area where the doctrine in technical form has been rejected, the rejection took the form of a normative sentiment that runs quite contrary to the supposedly unassailable equality-among-creditors principle of the Code. Some courts said that even where recapture of a preference from a creditor would do nothing to enhance the estate for the benefit of the other creditors, the Code permits the debtor to recover the preference in order to enhance the utterly different policy of the fresh start and the generous new Code exemptions.524 Of course, this is neither the first nor the last instance of preference law serving as the instrument for a

519. See 11 U.S.C. ? 547(c)(4) (1982). 520. See, e.g., In re Bullen (Ryen v. General Motors Acceptance Corp.), 11 Bankr. 440,

441-42 (Bankr. W.D.N.Y. 1981). General Motors Acceptance Corporation, an undersecured installment creditor, took installment payments during the 90-day period. The court found no preference on the theory that had the payments not been made, GMAC would have been allowed to repossess the car earlier, when it would have been worth more. But see In re McCor- mick, 5 Bankr. 726, 730-32 (Bankr. N.D. Ohio 1980) (opposite result on same facts).

521. Ward & Shulman, supra note 479, at 57. 522. In re National Home Prods., Inc., 4 Bankr. Ct. Dec. (CRR) 1295, 1298 (E.D. La.

1978) (footnote omitted). 523. E.g., In re Fulghum Constr. Co., 706 F.2d 171, 173 (6th Cir. 1983) (common law

"net result rule" to protect creditor who had engaged in a series of loans and repayments with debtor did not survive the 1978 Act); see In re Garland, 19 Bankr. 920, 922-25 (Bankr. E.D. Mo. 1982) (if Congress had wanted to fully recodify the old net result rule it would have said so explicitly).

524. See Deel Rent-A-Car, Inc. v. Levine, 721 F.2d 750 (llth Cir. 1983). The debtor, Levine, had guaranteed a third-party's debt to Deel, and Deel obtained a judgment lien

against Levine shortly before the latter's bankruptcy. The trustee did not try to recapture the

property taken under the lien, since it would have been exempt in Levine's hands and thus unavailable to the estate, but Levine himself tried to avoid the transfer under ? 522, which enables the debtor to void a transfer that falls within the trustee's normal avoiding powers. Deel's argument was thus that the transfer to him did not diminish the estate, since only the debtor, not the general creditors, could benefit from recapture. The court acknowledged that

preference law is designed to protect creditors, but noted the enhanced fresh start and ex-

emption policies under the 1978 Act. Id. at 757. The preference provisions "are designed not to punish the debtor but to defend him from the ravenous maw of creditors during the

preference period." Id. at 758; see, e.g., In re Faganl, 26 Bankr. 212, 214-15 (Bankr. W.D. Ky. 1982) (debtor used ?? 522 and 547 to recover garnished wages); In re Roberson, 7 Bankr. 34,


political agenda, but it is an especially ironic instance, considering the historical origin of preference law as an instrument for punishing culpable debtors.

2. Reform and instant re-reform.

If section 547 was designed as a scientific and precise new rule that would condemn all undeserving transfers as manipulative and that would enhance the estate for the general creditors, then it was quickly denounced as a failure in both premise and execution. Indeed, the convergence of several different and contradictory criticisms of the new law suggest that it only revived fundamental political and moral conflicts about credit and bankruptcy in our political economy.

One criticism was that the elimination of the "reasonable cause" mens rea test for creditors has resulted in preference-finding overkill for creditors as a class. The argument is that the new statute unfairly shifts the burden of preference litigation from debtor to creditor.525 In that sense, the criticism has brought the preference issue into a larger conflict between perceived debtor and creditor interests that has more directly concerned Chapter 13 personal bankruptcies and other consumer law issues.526 The first Congressional report calling for re-reform of the 1978 Act made restoring the reasonable-cause-to-believe test the highest priority in order to re-establish "the delicate balance of equity between debtors and creditors, particularly with respect to consumer credit transactions."527

Another version of this argument was that eliminating the test of creditor culpability was not so much a political strike against creditors as a misguided effort at compromise that resulted in a cumbersome, poorly integrated set of definitions and exceptions. Rather than being brilliantly coordinated, the exceptions are a clumsy device designed to morally compensate for the elimination of the mens rea standard.528

35-36 (Bankr. D. Idaho 1980) (debtor used ?? 522 and 547 to avoid sheriff's levy and sale of property).

525. S. REP. No. 446, 97th Cong., 2d Sess. 23-24 (1982). 526. See id. at 48 (statement of Sen. Mathias) (proposal to deny Chapter 7 discharge to

individual debtors who can repay some portion of their debts out of future income "would be a basic departure from bankruptcy policies our country has embraced for nearly 100 years"); id. at 49-68 (statements of Sens. Metzenbaum & Kennedy) (proposed changes to constrain individual Chapter 7 bankruptcies unfairly punish debtors and violate traditions of fresh start principle).

527. Id. at 2. The purpose of bankruptcy relief is to enable the honest but unfortunate debtor to obtain relief from burdensome debt ....

At the same time, it is essential to public acceptance of the Bankruptcy Reform Act that the law be seen to fairly balance the legitimate interests of all parties to bankruptcy proceedings, so as to insure that the structure of the law itself does not encourage the filing of petitions which are not justified by economic necessity....

The bill ... seeks to restore balance and efficiency to the Bankruptcy Code .... Id. at 6-7.

528. The legislative history suggests that the reasonable-cause-to-believe standard was

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Critics viewed the 45-day rule, for example, as an ill-designed effort to capture the moral norm: The 45-day rule proved to be the paradigm of the bad rule, overbroad and underbroad, both too vague and too precise.529 And the principal victims of the elimination of the reasonable- cause-to-believe test were not creditors in general, or any particular class of creditors, but rather an important group of debtors-those who customarily issue commercial paper backed by letters of credit.530

A more striking criticism was that rather than limiting the overreach of DuBay and Grain Merchants and achieving a "rescue mission for general creditors,"531 the statute proved immediately impotent against secured inventory and accounts receivable financers, yet was used cruelly against nonculpable general creditors.532 If the application of the rules of section 547 reflected a moral norm, it was not the condemnation of manipulative secured creditors. The trustee has an almost insuperable burden to prove manipulation under the 2-point net improvement test, which has proved more a parody than a paradigm of the precise formal rule.533 Moreover, trustees have exercised their discretion not to go after preferred secured creditors, while some such creditors have essen-

irrelevant to the goals and elements of preference law. See Fortgang & King, The 1978 Bank- ruptcy Code: Some Wrong Policy Decisions, 56 N.Y.U. L. REV. 1148, 1165-66 & n.63 (1981) (citing Bankruptcy Act Revision. Hearings on H.R. 31 & H.R. 32 Before the Subcomm. on Civil and Constitu- tional Rights of the House Comm. on the Judiciary, 94th Cong., 1st & 2d Sess., pt. 3, at 1855-56 (1975-76)). According to this argument, when Congress first eliminated the standard, it realized that it had made virtually every 90-day transfer a preference. It then created so many per se exceptions that the only preference would be actual payment by a debtor to an installment lender. The final version was a screwy compromise, not a radical and coherent integration. Fortgang & King, supra, at 1166.

529. See Fortgang & King, supra note 528, at 1167-70. The arguments ran as follows: The rule was vague because it is too difficult to tell when a debt is incurred; it was too precise because though it was designed to reflect the 30-day billing cycle plus the 15-day invoicing cycle, it was rigidly insensitive to variations in business practice. The result would be to dis- tort rather than accommodate business practice, because businesses would simply alter their cycles to fall within the period.

530. Id. at 1169. A debt taking the form of commercial paper backed by a letter of credit is usually rated by the bank's creditworthiness, not by the debtor's. But under the Code, rating agencies are now looking to the debtor. Payments by the debtor on the commercial paper may get voided, but only after the letter of credit expires, so the creditor may get nothing. Thus, preference law has failed "to leave undisturbed normal financial relations." Id. at 1167.

531. See notes 463-468 supra and accompanying text. 532. See Ross, The Impact of Section 547 of the Bankruptcy Code upon Secured and Unssecured

Creditors, 69 MINN. L. REV. 39, 51-57 (1984). Ross notes that the "avalanche" of filings under the new law makes early generalization from the emerging case law plausible. Id. at 51.

533. Here is the argument: The combination of an initial deficiency and a decrease in deficiency within the 90-day period is rare, because most after-acquired property financers ensure themselves a "cushion," and late increases in collateral merely increase the cushion. Id. at 62. Of course, a deficiency arising late in the 90-day period will ensure the creditor protection under ? 547(c)(5) even if the collateral then dramatically increases at the last moment. Id. Moreover, inventory and accounts financers can finesse a deficiency by quickly arranging an increase just after a late deficiency occurs and then helping invoke a filing. Id. at 63. For an extensive discussion of how Congress' failure to define the "value" of accounts receivable in ? 547(c)(5) may cause great uncertainty for financers, see Cohen, "I'alue"Judgg- ments: Accounts Receivable Financing and Voidable Preferences (Under the .ewz Bankruptcy Code, 66 MINN. L. REV. 639 (1982).


tially escaped the preference net when the debtor goes into Chapter 11 or 13.534 Rather, the moral pattern, if anything, has been to punish relatively innocuous creditors who have been merely careless in recording their interests, but who can no longer escape the preference prohibition under the old reasonable-cause-to-believe standard.535 It has essentially worked to the detriment of unsecured creditors, who have received no trickle-down in preference redistribution,536 yet have suffered the avoidance of their own payments, which are important to them but are trivial to the estate as a whole.537

The instant re-reform movement thus aimed either directly at restoring the reasonable-cause-to-believe standard538 or more broadly at using the statute to express a flexible moral norm.539 But any effort to restore some moral flexibility on behalf of creditors was quickly denounced as a conspiracy against debtors by those who saw the 1978 statute as a victory in a Manichean class struggle. In that struggle, the virtuous victors had been consumer debtors and small-time good faith creditors, and the temporarily thwarted enemy had been consumer finance lenders. Now the preference debate absorbed moral energy from the parallel battle over debtor's rights.540

534. See Ross, supra note 532, at 66-67 (trustees' heavy burden of proof in litigating against inventory and receivable financers will discourage them from claiming preferences); id. at 63-64 (trustee in Chapter 11 and 13 less likely to avoid preferences for fear of offending creditors needed to rehabilitate debtor).

535. See id. at 51-54. The complaint is thus that ? 547 has not been used at all against inventory and receivables financers, but is being used against careless creditors who are slow to perfect their security interests-in short, that the Bankruptcy Reform Act is being construed to parallel the U.C.C. filing theme. See In re Arnett, 731 F.2d 358 (6th Cir. 1984) (creditor who waited 33 days to file interest, due to Christmas holidays and employee ab- sences, lost security priority in bankruptcy); In re Davis, 22 Bankr. 644 (Bankr. M.D. Ga. 1982) (creditor who inadvertently waited more than 20 days to file interest lost security priority in bankruptcy); In re Butler, 3 Bankr. 182 (Bankr. E.D. Tenn. 1980) (creditor who filed only locally and not with central office lost security priority in bankruptcy).

536. Ross, supra note 532, at 54. 537. For a comprehensive list of recent cases in which unsecured creditors have been the

prime victims of ? 547, see id. at 54 n.59. E.g., In re Advance Glove Mfg. Co., 25 Bankr. 521 (Bankr. E.D. Mich. 1982) (unsecured creditor's payment by check from debtor falls inside preference period because of delay in payment by drawee bank). Ross blames these disasters to the unsecured creditors on the elimination of the reasonable-cause-to-believe test, though he rightly notes that the Code may be having an invisible or subjudicial deterrent effect on secured creditors.

538. See Fortgang & King, supra note 528, at 1165-66 (summarizing congressional testimony before passage of the 1978 Act complaining that it is too difficult for trustees to prove reasonable-cause-to-believe).

539. See id. at 1171 (suggesting "ordinary course" standard). 540. See generally Ginsberg, The Proposed Bankruptcy Improvements Act: The Creditors Strike

Back, 3 N. ILL. U.L. REV. 1 (1982) [hereinafter Ginsberg I]. Ginsberg argued that the proposed elimination of the reasonable-cause-to-believe test was part of a "blatant" conspiracy of creditor interests against poor debtors. Id. at 46. That larger conspiracy focused primarily on another issue: whether to force consumer debtors to go bankrupt through Chapter 13, and thereby surrender some of their future income, instead of receiving complete discharge through Chapter 7. See Sullivan, Warren & Westbrook, Limiting Access to Bankruptcy Discharge: An Analysis of the Creditors' Data, 1983 Wis. L. REV. 1091. The preference issue thus has been caught up in a larger political and economic debate over whether the 1978 Act unfairly per-


But restoration of a creditor culpability test, or deregulation of the statutory scheme, was attacked on another ground as well. Critics charged that re-reform would revive, if anything, insuperable proof problems for the trustee or lead to vastly increased wasteful litigation where the section 547 rules had spoken clearly and categorically,541 essentially validating the worst forms of aggressive creditor behavior.542 Ironically, the opponents of re-reform attributed to the re-reformers the view that the 1978 Act was too generous to debtors, and so claimed that the re-reformers wanted to punish all debtors. The anti-re-reform solution was then to "target" the truly immoral debtors by restoring, not the traditional American creditor mens rea test, but the old English debtor mens rea test.543

But when the 1984 Bankruptcy Amendments and Federal Judgeship Act was finally enacted, it did not restore the reasonable-cause-to-believe test at all.544 Instead, it undermined the formality of the 1978 statute and restored normative flexibility in an unforeseen way. It focused on the very formal 45-day rule in the ordinary course trade-credit exception under section 547(c)(2). In an amusing new permutation of

mitted large numbers of consumer debtors to escape from paying their debts out of their income. See id. at 54-66; see also Ginsberg, The Bankruptcy Improvements Act-An Update, 3 N. ILL. U.L. REV. 235 (1983) [hereinafter Ginsberg II]; Morris, Substantive Consumer Bankruptcy Reform in the Bankruptcy Amendments Act of 1984, 27 WM. & MARY L. REV. 91, 116-24 (1985).

541. See Ginsberg I, supra note 540, at 47. Moreover, reasonable-cause-to-believe is even harder to prove when insolvency is defined by the balance-sheet test, see 11 U.S.C.A. ? 101(2g) (West Supp. 1986), rather than the "equitable" test of inability to pay current debts, because the trustee might lose even where the creditor knowingly had to extract payment or tolerate late payment from the debtor. In addition, the proposed revived reasonable- cause-to-believe test would have been irrationally overbroad, because it would have applied to business reorganizations and liquidations as well as to consumer cases. Ginsberg I, supra note 540, at 48. The drafters of the 1984 law even considered eliminating the 1978 law's presumption that the debtor was insolvent during the 90 days preceding the petition. As Ginsberg notes, that change would have contradicted the very premise of the 1984 law-that consumer debtors' assets are normally less than liabilities, that creditors know this when they lend, and that creditors therefore can rightly look to debtors' future income streams under Chapter 13. Id. at 47 n.198.

542. "The equity of the individual claimant must yield to the collective equity of the creditors as a whole in the spirit of fair and equal treatment of creditors." Ginsberg I, supra note 540, at 46.

543. Thus Ginsberg complains that restoring the reasonable-cause-to-believe test would be wrong not because it would reintroduce moral equity into the preference rules, but because it would look solely to the creditor's, not the debtor's, moral equity. Id. at 46-47. If the law only looked to the creditor's state of mind, debtors on the verge of bankruptcy would be tempted to use nonexempt assets to pay a few favored creditors who could claim innocence. It might be easy to show the debtor's moral culpability, but far harder to prove the creditor's culpability. See In re Gruber Bottling Works, 16 Bankr. 348 (Bankr. E.D. Pa. 1982) (demon- strating difficulty of proving creditor culpability even where creditor is an insider of debtor).

544. See Bankruptcy Amendments and Federal Judgeship Act of 1984, Pub. L. No. 98- 353, 98 Stat. 333 (codified primarily in 11 U.S.C. and scattered sections of 28 U.S.C.). See generally Duncan, Loan Payments to Secured Creditors as Preferences Under the 1984 Bankruptcy Amend- ments, 64 NEB. L. REV. 83 (1985). Indeed, the new law even eliminated the reasonable-cause-to- believe clause from the special provision for payments to insider-creditors, 11 U.S.C. ? 547(b)(4)(B)(ii) (1982) (current version at 11 U.S.C. ? 547(b)(4)(B) (Supp. III 1985)), the only place it had been retained in the 1978 Code.


the rules and standards conflict, the 1984 Act eliminated the 45-day rule altogether, so that the narrow formal exception now became a potentially huge normative standard capable of turning the entire section 547 into an antiformal statute.545 But it compensated for whatever injury it dealt to the trustee's avoiding powers by explicitly retaining the burden of litigation on the transferee.546 And Congress also tinkered further with a few utterly arbitrary formalistic rules, apparently reflecting lobbyist interests,547 and added a new per se rule to protect transfers by small consumer debtors.548

The next great statutory episode in preference law may then, ironically enough, be an essentially common law effort to create some criteria for determining when credit transactions meet the norm of "the ordinary course."549 The previous cases under section 547(c)(2) were too narrowly rooted in the formalities of the 45-day rule and the meaning of"incurrence" to be of help under the 1984 revision.550 We may, indeed, at least briefly recur to traditional doctrines-or sentiments- about generous enabling creditors who act equitably, and whose late transfers do not diminish the estate.551

545. See 11 U.S.C. ? 547(c)(2)(B) (Supp. III 1985) (45-day rule in old ? 547(c)(2)(B) repealed); see also Duncan, supra note 544, at 88; Dunham & Price, The End of Preference Liability

for Unsecured Creditors: New Section 547(c)(2) Bankruptcy Code, 60 IND. LJ. 487 (1985). 546. 11 U.S.C. ? 547(g) (Supp. III 1985) ("the creditor ... against whom recovery or

avoidance is sought has the burden of proving the nonavoidability of a transfer under subsection (c) . . .").

547. 11 U.S.C. ? 546(d) (Supp. III 1985) (granting special reclamation rights against trustee to creditors who are either grain sellers or fishermen) (commonly referred to as the new "fish or loaves" rule).

548. 11 U.S.C. ? 547(c)(7) (Supp. III 1985) (if debtor is an individual whose debts are "primarily consumer debts," transfer is nonavoidable so long as aggregate value of property "that constitutes or is affected by such transfer is less than $600"); see also Duncan, supra note 544, at 87-88 (new ? 547(c)(7) exception raises messy questions of aggregation, as where debtor within 90-day period makes three separate installment payments of $300 each).

549. 11 U.S.C. ? 547(c)(2)(A),(B) (Supp. III 1985) (both incurrence of underlying debt and payment must be "in ordinary course" to prevent avoidance). See Dunham & Price, supra note 545, at 510-11.

550. See Duncan, supra note 544, at 89 & n.26. The Barash line of cases generally rejected the argument that ? 547(c)(2) protected creditors receiving regular installment payments on long-term debt. See notes 509-513 supra and accompanying text. But most of these cases turned on the meaning of the 45-day rule, rather than the meaning of "ordinary course," so we have little judicial guidance on what now may prove the crucial issue in preference law. But see Duncan, supra note 544, at 89 n.26 (citing cases finding payments to be outside "ordinary course" where payment was by cashier's check to prevent transferee from joining in involuntary petition, where payment made after debtor had closed business, or where last monthly payment was more than ten times greater than previous installments).

551. The line might be drawn between long-term and short-term debt, on the theory that long-term creditors deserve less protection because they do not continually replenish the estate as short-term suppliers of goods and services do, and because payments to them involve greater sums. Duncan, supra note 544, at 89-90. Moreover, the long/short distinction accords with the legislative history of the 1984 law: Senator Dole stated that the elimination of 45-day rule was designed to aid buyers of short-term commercial paper that matured in slightly more than 45 days. See In re Independent Clearing House Co., 41 Bankr. 985 (Bankr. D. Utah 1984); S. REP. No. 65, 98th Cong., 1st Sess. 60 (1983) (the 45-day rule "places undue burdens upon creditors who receive payment under business contracts providing for billing


VI. CONCLUSION

The effort to develop rational criteria for applying the "ordinary course" principle in preference law is not quixotic. If we are indeed destined to recur to this norm, there are some rational guidelines available, though they are likely to find expression in economic, not moral, terms.552 These criteria may apply directly in the case of the floating lien to help distinguish unfairly manipulative behavior by the secured creditor from legitimate gain deriving from the creditor's inherent expectation as a holder of a perfected security interest.553 Once developed, the criteria may prove more widely applicable.

But of course both common law and legislative efforts at such subtle moral and economic distinctions have ritually proved futile. Indeed, the contemporary thinking about preferences reveals two extreme tendencies that reflect the inherent instability of rulemaking in a world where norms are intensely embraced, yet are elusive and controversial. One solution might be described as the super-rule. The premise of a super-rule is that rulemaking efforts in preference law fail when they try to draw subtle moral distinctions. The result is not refined moral ele- gance, but arbitrary complexity, like that of the 2-point net improve-

cycles greater than 45 days"); 130 CONG. REC. S8889 (daily ed. June 29, 1984) (statement of Sen. Dole).

552. See generally Jackson & Kronman, Voidable Preferences and Protection of the Expectation Interest, 60 MINN. L. REV. 971 (1976).

553. Jackson and Kronman focus on the question of when a secured creditor with an interest in after-acquired property can legitimately retain in bankruptcy the benefits of an unusually large increase in the value of collateral during the preference period. They approach the normative question of defining "ordinary course" transfers by distinguishing "ordinary course" changes in collateral value from "windfall" changes. An "ordinary course" gain is a gain that parties might predict on the basis of "objective factors," such as general, anticipated increases in business, especially in seasonal or cyclical industries. The objective foreseeability of a gain makes it a gain "in the 'ordinary course' of business." Id. at 992-93. Conversely, "ordinary course" losses are those decreases in the value of collateral that might be predicted from objective criteria, such as seasonal or cyclical business trends or the depre- ciation or obsolescence of equipment. Id. at 995. On the other hand, "windfall" gains or losses are those whose occurrence cannot be predicted by any factors based on objective consensus, but are due to such "unpredictable" factors as export embargoes, sudden technologi- cal innovation, or government monetary policy.

The authors stress that under their definition, the ordinary course/windfall distinction is not the same thing as a distinction between foreseen and unforeseen events. Id. at 996. A particular contracting party will subjectively foresee some events that are insufficiently predictable by objective means to be called "ordinary course" events, and so the actual expecta- tions of a contracting party will include both ordinary course and windfall changes. Id. Thus, if the only issue were protecting a secured creditor's expectation interest, the law might grant him all his gains, both ordinary and windfall, and similarly make him suffer all his losses. Id. at 1001. Indeed, that was essentially the result under old ? 60. Id. But the 2-point net improvement test under the new Code is different: It deprives the creditor of both types of gains, yet dooms him to suffer both types of losses, presumably on the theory that bankruptcy law must deny creditors some of their bargained-for expectation to serve the independent goal of protecting unsecured creditors. The authors argue that the 2-point test thereby throws the balance too far in the direction of the unsecured creditors, and they therefore propose a modified test: The creditor should retain only his ordinary course gains, and none of his windfall gains, but must suffer both kinds of losses. See id. at 1002-10.


ment test. Scientific rulemaking fails when it is less than totally committed to its mission of eliminating all fault-based distinctions.

The reasoning behind the super-rule runs as follows: The key formal element of traditional preference statutes has been the fixed-time zone. It may appear to approximate the normative concept of the "eve of bankruptcy," and it may seem to provide certainty because it is fixed. But the certainty is only after-the-fact, and thus proves illusory. No creditor taking a transfer can know at the time he receives it whether it will prove voidable, so his tendency will be to grab it and hope, and perhaps even to manipulate his relationship with the debtor to delay the inevitable bankruptcy, and thus avoid the 4-month snare. There is an inherent circularity in using technical rules to describe the boundaries of ethical commercial behavior when the actor will have the power to keep his action just within the boundary.554 Similarly, the balance- sheet rule of insolvency seems to provide cold hard formality, but, like the time-zone rule, it suffers from an ironic inversion of the void-for- vagueness problem-it is void for its false precision, because its precision is untestable at the moment when the creditor needs to test it. Once again, in the face of this uncertainty, the creditor will tend toward aggressive, inefficient behavior.555 The various efforts at sub-rule exceptions for worthy transactions cause similar problems.556

A super-rule would almost categorically prohibit transfers from debtor to creditor during the entire period of time, readily discernable to all, that the transfer can cause any of the harms traditionally conceived by preference law. Its premise would be an almost absolute principle of ratable equality.557 It would have no mens rea test, because it would not purport to encompass questions of culpability at all, and it would thereby enormously reduce the trustee's burden of proof. It is truly only concerned with effects. One commentator has offered just such a rule, with the following elements: First, the debtor's insol-

554. See Kraus, Preferential Transfers and the Value of the Insolvent Firm, 87 YALE LJ. 1449, 1455, 1457-58 (1978) (student author).

555. See id. at 1456-57. Any financial analyst can detect equitable insolvency before the debtor becomes balance-sheet insolvent, and a commercial bank can monitor a firm's account. Thus, creditors who suspect imminent balance-sheet insolvency can obtain payment before the preference rules are triggered.

556. Id. at 1458-59. Exceptions for short-term trade credit, like 11 U.S.C.A. ? 547(c)(2) (West Supp. 1986), compel creditors to demand prompt payment even when a creditor's flexibility might enhance the value of the firm.

557. See Kraus, supra note 554, at 1459. The super-rule would assume that the obvious function of preference law is to enrich the estate in the name of equity. But preference law is also designed to control creditor behavior during insolvency. So the goal of a super-rule would be more than equality-it would also be to induce creditors to act in such a way as to enhance the value of the debtor. Only the equality goal, however, can carry out the enhancement goal. Preference law is designed to encourage cooperative behavior. But it can best do so where absolute equality is the goal. If it is, then all creditors collectively would act like the single creditor-pressing for payment only where continued operation of the debtor might reduce its value. Under absolute equality, individual action might not help the debtor, and might make the creditor a disfavored party later if the debtor survives. Where there is no absolute equality, creditors will exploit the gaps. See id. at 1450-55, 1459-60.

135


vency would be conceived in the old equitable sense, not the modern balance-sheet sense. Second, the fixed time-zone would be eliminated. Third, the law would contain no mens rea test at all, for debtor or creditor.558 The result would be to allow the trustee to recapture virtually all transfers from debtor to creditor from the moment that the debtor has suffered equitable insolvency.559 The super-rule would solve the problem of the infinite regress of the preference period simply by accepting it.560

The super-rule may seem unjust in its categorical extremity, sweeping away most of the distinctions among creditors and credit schemes with which preference law has tinkered. But the benefits might be considerable: Preference law would be wholly loosed from its moral, stig- matic moorings. The gain in certainty would be considerable- assuming that equitable insolvency is in fact readily discernable, after and before the fact.561 The super-rule might achieve significant redistribution from sophisticated to less sophisticated creditors,562 while removing from all creditors any disincentive to act for the communal good of all the creditors of the debtor, or of the credit economy in general.563 It would, in short, be the ultimate in codifications of the long-imagined abstract duty of a creditor-or debtor-to the entire class of creditors.

The alternative consequence of disbelief in the effectiveness of subtle rulemaking distinctions is the abolitionist position.564 Under this view, the costs of rulemaking are too great, in political controversy, legal uncertainty, and the expense of litigation.565 Moreover, any pref-

558. Id. at 1458-59. The old reasonable-cause-to-believe test protected the "vast majority" of transfers under the old Act.

559. One exception to this rule would be to protect transfers made during a period of equitable insolvency when that particular period of insolvency was not the one that actually overthrew the debtor. See id. at 1461-63. This "relatedness proviso" would apply only if a firm went solvent for a long time in between equitable insolvencies. But the "relatedness" standard might be hard to apply, and might subvert the objective predictability of a super- rule: It might increase before-the-fact certainty, but only at the cost of reducing the after-the- fact certainty of a fixed time-zone.

560. See text accompanying note 167 supra. 561. See Kraus, supra note 554, at 1460-61. 562. Id. at 1463. 563. See id. at 1464-65. Increasing voidability might seem to harm the debtor's ability to

buy secured credit. But one might argue that bankruptcy law should increase the cost of credit advanced in reliance on the possibility of a preference, to prevent an overextension of credit and illusory wealth that would trap unwary creditors. Credit would be instantly secured and perfected. The result might be fewer unencumbered assets for general creditors, but a loose preference law might cause those assets to be grabbed anyway.

564. See McCoid, Bankruptcy, Preferences, and Efficiency: An Expression of Doubt, 67 VA. L. REV. 249 (1981).

565. For preference law to deter creditor misbehavior, it must ensure that the creditor knows of the debtor's insolvency, or at least the debtor's financial difficulty. Preference law can induce inquiry, but it may not ensure knowledge. See id. at 261-62. Moreover, preference law must bear the administrative cost of recapture. The trustee's costs are administrative priority expenses, so if the taxpayers do not lose, the general creditors do. Then there is the cost creditors pay in monitoring potential preferential behavior of others. Some of this is

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erence law that tries to protect transactions that have any strong political constituency is doomed to produce trivial economic benefits. The exceptions will be so great as to make the amount recaptured trivial,566 and our lack of moral consensus about anticommunal behavior pre- vents us from adopting the only legal posture that might effectively deter creditor aggression-a truly criminal-style law that imposes a penalty on preferred creditors. We cannot seem to escape the essentially restitutionary recapture remedy that, combined with the trustee's legal burden and legal uncertainty, imposes on creditors no disincentive to seek preferences.567

In the abolitionist view, no effort at refinement is worth the costs.568 For the abolitionist, deregulation would eliminate uncertainty costs, as well as the unfair retroactive effects of bankruptcy-effects that are especially unfair under modern preference law, which captures many nonfraudulent transfers. The abolitionist, however, might retain a fraud exception-striking down transfers where debtor and creditor collude, knowing they are giving the creditor an unfair share of the assets.569

merely redistributed among creditors, but some may prevent dismemberment of the debtor, and is thus socially valuable. There is also the cost to any transferee who is in financial limbo waiting to learn whether a payment will prove preferential. Obviously, creditors bear this cost in many cases that do not end in bankruptcy. See id. at 265-68.

566. The empirical evidence is sparse, but it suggests that relatively little is recaptured. See id. at 262-65. Recapture probably does little to enhance the estate, since the estate is probably beyond rehabilitation by that point. The greater value of preference law would lie in predisaster deterrence of creditor misconduct, but, again, the actual deterrent effect is questionable.

567. See id. at 264-65. A number of factors reduce the deterrent effect of preference avoidance. The creditor may rightly calculate that the debtor will not actually go bankrupt, or at least might postpone bankruptcy for 90 days, or that the trustee might simply find it too difficult, legally or financially, to gain recapture. The creditor knows that even if he suffers recapture, the worst possible sanction will be payment of interest measured from the time of demand for return or the start of recapture proceedings. Of course, some deterrence may result from the debtor himself reporting a preference if he has been offered a beneficial workout by the honest creditors. Moreover, the preferred creditor may have to litigatejust to get the preferential transfer, and he may waste those expenses if the payment is recaptured. If the enhancement theory is good, the creditor will see his ultimate share reduced.

In these terms, the typical exploiting creditors are large, monitoring secured lenders, while the losers are the nonprofessionals-for example, tort claimants, consumers, and em- ployees. Id. at 266.

568. McCoid doubts that we can increase the effectiveness of preference law. See id. at 268-70. We can eliminate or lengthen the fixed time period-it is too short to reflect the true danger zone-but we would thereby increase the uncertainty costs of bankruptcy. We could also assess a damage penalty on preferred creditors. But unless we were to create strict liability for preferred creditors, a damage penalty would require us to invent and litigate rules or standards of culpability.

569. What would somewhat mitigate the effects of abolition is the greater ease of filing and flexibility of chapter shifts under the Code, since a quick filing increases the chances of equal distribution, the stay barring further dismemberment. But prompt filing is not ideal: The sly creditor might still seek quick payment if he did not think others were trying to do the same. But if he thought others might seek payment, he would have to file fast, because preferences to others could not be recaptured. Moreover, increased filings would cause a wasteful excess in formal bankruptcy litigation. Id. at 269-70.


Both the super-rule and abolitionist positions remain, however, no more than whimsical academic speculations. Preference law seems destined to continue in its cycles of regulatory pretense. If anything, the political, economic, and moral debates of the last decade seem like a modern revival of the original confusion depicted by Charles Warren in his history of our earliest bankruptcy statutes. The cycles seem inevitable in a world in which the phenomena of debt and credit seem to defy clear moral categories, stump economic theorists,570 and trouble empirical observers.571

This is a world where the creditor warding off mechanical application of preference rules to "ordinary course" payments may be the small local trade supplier, interruption of whose regular collection may throw him into bankruptcy, or may be AT&T; the "creditor class" may include workers thrown into unemployment as well as manipulative secret lienors. This is a world where the "debtor" may turn out to be the poor consumer needing federal relief from the cruel finance company, the foolish wastrel,572 or the manipulator absconding from just debts under an overly generous bankruptcy law; the honest fragile new enterprise needing protective encouragement, or the asbestos or contracep- tive manufacturer escaping liability for homicidal recklessness, or the oil and gas speculator573 whose debts consist of artificial inflated currency that can bring down billion-dollar banks. In this world, we cannot readily tell the virtuous from the villainous, and the various temporary constituencies of debtor and creditor interests never seem to align themselves for very long with any more familiar categories of political or economic interest, or with any consistent moral view of our credit culture.

570. For a discussion of how the very existence of secured debt seems to present an insoluble problem for microeconomics, see Schwartz, The Continuing Puzzle of Secured Debt, 37 VAND. L. REV. 1051 (1984).

571. For a discussion of the conflict in the empirical literature over the effect, if any, that the Bankruptcy Reform Act of 1978 has had on bankruptcy filings, see Marsh & Cheng, The Impact of the Bankruptcy Reform Act on Business Bankruptcy Filings, 36 ALA. L. REV. 515 (1985).

572. See Macaulay, Lawyers and Consumer Protection Laws, 14 LAW & SOC'Y REV. 115, 141, 149 (1979) (lawyers involved in consumer cases tend to reflect norm of capitalist culture that debtors who fall into trouble are at fault for carelessness at the outset of transactions, and that consumer protection laws undermine the ethics of promise keeping and debt payment).

573. Concern with bankruptcy, and with preferences in particular, has begun to strike the oil and gas industry. See McDaniel, Preference Litigation-Let the Seller Beware, 36 INST. ON OIL & GAS L. & TAX'N 4-1 (1985).

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Commercial Morality the Merchant Character and the History of the Voidable Preference

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