Contracts and COVID 19: A Radical Solution that goes beyond Force Majeure

-Amal Sethi and Aditi Vishwas Sheth†

The COVID-19 pandemic has turned the world upside down, with disruptions being caused in all walks of life. One area where this has been felt the most is in the enforcement of contracts. In many instances, the performance of contracts has become arduous or improbable There are also the social costs of a contract which further discourage enforcement. Every contract creates negative externalities that have to be borne by society; some of which, may not have been contemplated during the formation of the contract. During the COVID-19 pandemic, enforcement of contracts may incur considerable medical costs or lead to health hazards. As can be seen here, here, here, here, and here, courts and commentators in India have recognized these predicaments, and have considered that the performance of a contract during the COVID-19 pandemic might be excused by the force majeure exception recognized by Section 56 of the Indian Contract Act of 1872.

Undoubtedly, this is a positive trend as it does not strictly attempt to enforce contracts in detriment to one or both parties’ interests. However, even as courts and commentators recognize the force majeure nature of the COVID-19 pandemic, they are still fixated in trying to operate within the confines of the bargain theory of contract. According to the bargain theory of contract, a promise is enforceable if it is part of a mutually agreed to deal. Although non-performance of a contract has been excused, it is only done by using the force majeure exception, thus staying true to the bargain theory. One of the main problems with the bargain theory of contract is that it has the potential of thwarting overall economic efficiency by insisting on a perfect bargain which is seldom probable, as well as enforcing the performance of a contract irrespective of economic efficiency.

Moreover, using the force majeure exception requires a case-by-case analysis resulting in an ad hoc approach. The current COVID-19 count in India is at 4.6 million, with another 100k new cases added daily. We are surely not going to see the end of the pandemic anytime soon. If every contract is subjected to litigation to determine the way forward, it will open a floodgate of litigation which would increase the cost of ‘accessing justice’. Additionally, whether a contract can be set aside due to force majeure would depend on many subjective considerations which would be different in the eyes of every judge, legal commentator, and the public. As medical opinions are evolving and political considerations are varying, some might consider that despite the COVID-19 pandemic, events such as weddings, funerals, religious gatherings, educational activities can go on as usual. Many might think otherwise. It is also questionable whether courts are well suited to deal with the polycentric considerations that a determination of a situation of force majeure in the current context would entail.

Consequently, what we need in these unprecedented times to frame a pragmatic solution is to look beyond the confines of the bargain theory and instead look at the reasons why one enters a contract in the first place. The primary reason why contracts exist is to encourage cooperation and increase productivity. In the absence of enforceable contracts, many promises that would be productive otherwise, would not be entered into. Furthermore, having an enforceable contract converts some games with a non-cooperative solution into games with a cooperative solution. There can be numerous circumstances in the absence of an enforceable contract where one of the parties to a contract might be tempted to not-cooperate, i.e. not perform the contract because their probable loss exceeds their probable gain. Contracts ensure that this does not happen.

In turn, we suggest a rather radical way to rethink the enforcement of contracts during the COVID-19 pandemic, which pays cognizance to the purpose of contracts. To start with, we propose that every contractual performance due during COVID-19 should be deemed to be impacted by force majeure and considered not capable of being performed according to its ordinary terms. This should be without exception and despite what is provided for in a contract or The Indian Contract Act of 1872. However, by proposing this, we do not imply that parties are absolved of all legal obligations. In fact, we hope for the exact opposite of that. What we hope is that courts should not instinctively involve themselves in resolving every contract affected by the pandemic by undertaking a bargain theory analysis that acknowledges a force majeure exception. Arguably, this might seem too extreme a measure considering the active role played by courts in India. However, we believe that an economic analysis factoring the costs and benefits accrued to both parties would require this radical step. Considering every contract would be deemed as being impacted by force majeure, we suggest that the next step would be for parties to a contract to renegotiate the terms irrespective of their existing pre-commitments. This step could possibly help convert some games with a non-cooperative solution into games with a cooperative solution. Obviously, the parties to a contract might even decide to proceed according to the terms of the contract without any amendment to the original contract if that is what they deem most optimal. More often than not, the same considerations that guided the entry of the original contract might prevail.

Legalists who believe in the sanctity of contracts and courts that enjoy wielding power will have their eyes popping out at this suggestion. Nevertheless, we think this is the right way to move forward. Neither should the court’s force performance of contracts strictly according to their terms nor should they enforce their vision on the parties. It is imperative that during the COVID-19 crisis, parties be allowed to rethink their contractual obligations. Recalling that the purpose of contract law is to encourage cooperation and productivity and help convert games with a non-cooperative solution into games with a cooperative solution, this new regime would best help forward the promise of contracts. We also acknowledge that the court’s role cannot be disposed of entirely since that would again be inefficient. Despite collegial negotiations, performing contracts might not be feasible, disputes would still be bound to arise, and renegotiations might yield unsuccessful outcomes. In such a situation, courts may have to intervene. While courts must still decide cases equitably to ensure justice, courts will need to recognize this new contractual order and not involve themselves till the parties have not attempted cooperative solutions. Knowing that they have to undergo collegial bargaining before they even approach courts, might also help reduce the extensive costs involved in litigation in India and the load on courts. This would be another win-win for every player and vital for overall efficiency.

Some critics might see our suggestions as a window dressing for mandatory mediation but what we are suggesting is nowhere close to that. Firstly, we are suggesting that every contract, no matter what it contains, is by default considered as not capable of being performed for the time being because of the COVID-19 pandemic. Secondly, we are asking courts in India to step away from their traditional role in contract resolution and to discard the bargain theory of contracts. Thirdly, we are recommending parties to mandatorily consider if they can find some middle ground and envision a situation of mutual benefit even if this situation is proceeding with the original terms of the contract. Fourthly, we are suggesting courts to involve themselves only if collegial bargaining fails. Beyond this concern, there is also another objection to our solution that proponents of fairness over welfare might raise: What about contracts whose performance is not impacted by the COVID-19 pandemic and where one of the parties might see this new order as a way to seek an undue advantage. We have two responses to this. Firstly, in the ordinary course of events, parties are always free to renegotiate. This arrangement would be no different from that. Secondly, if a party is trying to take advantage of the new order and not perform his end of a bargain, under Section 65 of the Indian Contract Act of 1872, they would still require to return any benefit received under the contract and provide reparations. This might have some minor consequences for overall efficiency but would nonetheless not negatively detriment a party in significant ways. Nevertheless, in light of the overall benefits, we feel this is still a cost worth bearing.

In conclusion, though we are not advocating this approach for all seasons (even though a reconsideration of the contractual regime might be in order), till the COVID-19 pandemic persists, we do think our radical approach to rethinking contracts is worth considering.

† Amal Sethi is a fellow at the University of Pennsylvania and Aditi Vishwas Sheth is a student at the National Law School of India University, Bangalore.