Moral Obligation Bond Innovation

““Moral obligation” bonds were the inspired invention of John Mitchell. At the time Mitchell (who would go on to be Richard Nixon’s attorney general and a notorious figure in the Watergate scandal) was a partner at the well-connected Manhattan law firm Mudge, Rose and had earned a reputation (as well as a considerable fortune) as a specialist in municipal bonds. Working with Governor Rockefeller’s staff, he had come up with a way that would allow the state to provide the equivalent of a guarantee for projects the state was constitutionally prohibited from guaranteeing. As specified by the shrewd mechanism Mitchell had created, the “moral obligation” construction bonds would still not be guaranteed by the state. However—and this was Mitchell’s inspired idea, which allowed the circumvention of the restrictive provisions in the state constitution—the state would declare it had “a moral obligation” on an annual basis to replenish a reserve fund adequate to pay the next year’s debt service. The state legislature, encouraged by Governor Rockefeller, agreed that this reserve fund was indeed a “moral obligation.” And since the state now acknowledged its “moral” duty to keep sufficient moneys available, underwriters and banks were willing to accept this promise as a binding guarantee. The bonds were sold to the public as if they were a blue chip investment.”