Freedom of contract

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Freedom of contract is the process in which individuals and groups form contracts without government restrictions. This is opposed to government regulations such as minimum-wage laws, competition laws, economic sanctions, restrictions on price fixing, or restrictions on contracting with undocumented workers. The freedom to contract is the underpinning of laissez-faire economics and is a cornerstone of free-market libertarianism. The proponents of the concept believe that through "freedom of contract", individuals possess a general freedom to choose with whom to contract, whether to contract or not, and on which terms to contract.

Contents

History

Henry James Sumner Maine proposed that social structures evolve from roles derived from social status to those based on contractual freedom.[ citation needed ] A status system establishes obligations and relationships by birth, but a contract presumes that the individuals are free and equal. Modern libertarianism, such as that advanced by Robert Nozick, sees freedom of contract as the expression of the independent decisions of separate individuals pursuing their own interests under a "minimal state."[ citation needed ]

United States

In the United States, the right to make and enforce contracts is embedded in Title 42 of the US Code. The term "make and enforce contracts" includes "the making, performance, modification, and termination of contracts, and the enjoyment of all benefits, privileges, terms, and conditions of the contractual relationship". [1]

Lochner v. New York

In 1902, a New York baker named Joseph Lochner was fined for violating a state law limiting the number of hours his employees could work. He sued the state on the grounds that he was denied his right to "due process". Lochner claimed that he had the right to freely contract with his employees and that the state had unfairly interfered with this. In 1905, the Supreme Court used the due process clause to declare unconstitutional the New York state statute imposing a limit on hours of work. Rufus Wheeler Peckham wrote for the majority: "Under that provision no state shall deprive any person of life, liberty, or property without due process of law. The right to purchase or to sell labor is part of the liberty protected by this amendment." [2]

Writing in dissent, Oliver Wendell Holmes Jr. accused the majority of basing its decision on laissez-faire ideology. He believed that it was making law based on economics rather than interpreting the constitution. He believed that "Liberty of Contract" did not exist and that it was not intended in the Constitution.

Afterward

In his "Liberty of Contract" (1909), Roscoe Pound critiqued freedom-of-contract laws by laying out case after case in which labor rights were struck down by state and federal Supreme Courts. Pound argued the courts' rulings were "simply wrong" from the standpoint of common law and "even from that of a sane individualism" (482). Pound further compared the situation of labor legislation in his time to common opinion of usury and that the two were "of the same type" (484). Pound lamented that the legacy of such "academic" and "artificial" judicial rulings for liberty of contract engendered a "lost respect for the courts" but predicted a "bright" future for labor legislation (486–487). [3]

The Supreme Court applied the liberty of contract doctrine sporadically over the next three decades but generally upheld reformist legislation as being within the states' police power. In 1937 the Court reversed its view in the case West Coast Hotel Co. v. Parrish . In that case the court upheld a Washington state law setting a minimum wage.

United Kingdom

In the late 19th century, the English judiciary espoused "freedom of contract" as a generally applicable feature of public policy, best expressed in Printing and Numerical Registering Co v Sampson [4] by Sir George Jessel MR. In the later 20th century, the view of the common law had changed completely. In George Mitchell (Chesterhall) Ltd v Finney Lock Seeds Ltd , Lord Denning MR compared "freedom of contract" with oppression of the weak, as he outlined the development the law had undergone.

The heyday of freedom of contract

None of you nowadays will remember the trouble we had – when I was called to the Bar – with exemption clauses. They were printed in small print on the back of tickets and order forms and invoices. They were contained in catalogues or timetables. They were held to be binding on any person who took them without objection. No one ever did object. He never read them or knew what was in them. No matter how unreasonable they were, he was bound. All this was done in the name of "freedom of contract". But the freedom was all on the side of the big concern which had the use of the printing press. No freedom for the little man who took the ticket or order form or invoice. The big concern said, "Take it or leave it." The little man had no option but to take it. The big concern could and did exempt itself from liability in its own interest without regard to the little man. It got away with it time after time. When the courts said to the big concern, "You must put it in clear words", the big concern had no hesitation in doing so. It knew well that the little man would never read the exemption clauses or understand them.

It was a bleak winter for our law of contract. It is illustrated by two cases, Thompson v. London, Midland and Scottish Railway Co. [1930] 1 K.B. 41 (in which there was exemption from liability, not on the ticket, but only in small print at the back of the timetable, and the company were held not liable) and L'Estrange v. F. Graucob Ltd. [1934] 2 K.B. 394 (in which there was complete exemption in small print at the bottom of the order form, and the company were held not liable).

The secret weapon

Faced with this abuse of power – by the strong against the weak – by the use of the small print of the conditions – the judges did what they could to put a curb upon it. They still had before them the idol, "freedom of contract". They still knelt down and worshipped it, but they concealed under their cloaks a secret weapon. They used it to stab the idol in the back. This weapon was called "the true construction of the contract". They used it with great skill and ingenuity. They used it so as to depart from the natural meaning of the words of the exemption clause and to put upon them a strained and unnatural construction. In case after case, they said that the words were not strong enough to give the big concern exemption from liability; or that in the circumstances the big concern was not entitled to rely on the exemption clause. If a ship deviated from the contractual voyage, the owner could not rely on the exemption clause. If a warehouseman stored the goods in the wrong warehouse, he could not pray in aid the limitation clause. If the seller supplied goods different in kind from those contracted for, he could not rely on any exemption from liability. If a shipowner delivered goods to a person without production of the bill of lading, he could not escape responsibility by reference to an exemption clause. In short, whenever the wide words – in their natural meaning – would give rise to an unreasonable result, the judges either rejected them as repugnant to the main purpose of the contract, or else cut them down to size in order to produce a reasonable result. This is illustrated by these cases in the House of Lords: Glynn v. Margetson & Co. [1893] A.C. 351; London and North Western Railway Co. v. Neilson [1922] 2 A.C. 263; Cunard Steamship Co. Ltd. v. Buerger [1927] A.C. 1; and by Canada Steamship Lines Ltd v The King [1952] A.C. 192 and Sze Hai Tong Bank Ltd. v. Rambler Cycle Co. Ltd. [1959] A.C. 576 in the Privy Council; and innumerable cases in the Court of Appeal, culminating in Levison v. Patent Steam Carpet Cleaning Co. Ltd. [1978] Q.B. 69. But when the clause was itself reasonable and gave rise to a reasonable result, the judges upheld it; at any rate, when the clause did not exclude liability entirely but only limited it to a reasonable amount. So where goods were deposited in a cloakroom or sent to a laundry for cleaning, it was quite reasonable for the company to limit their liability to a reasonable amount, having regard to the small charge made for the service. These are illustrated by Gibaud v. Great Eastern Railway Co. [1921] 2 K.B. 426; Alderslade v Hendon Laundry Ltd [1945] K.B. 189 and Gillespie Bros. & Co. Ltd. v Roy Bowles Transport Ltd. [1973] Q.B. 400.

Australia

In Australia, the principle of "Freedom of Contract" is integral to its legal system, mirroring the autonomy found in contract laws globally. Central to this is the Australian Consumer Law, [5] which safeguards fair dealings and transparent terms in contractual agreements. This law ensures a balance between the freedom of parties to negotiate and enter into contracts, and the protection of consumers from unfair or deceptive practices. It highlights the importance of equitable contract terms, particularly in safeguarding the interests of consumers and small businesses, in line with Australia's commitment to fair trading and consumer rights. [6] The history of "Freedom of Contract" in Australia has evolved significantly over time. Initially, this principle was heavily influenced by English common law, emphasizing the importance of autonomy and mutual agreement in contract formation. Over the years, the Australian legal system has refined and adapted these concepts to address local needs and circumstances, particularly focusing on consumer protection and fair trading practices. This evolution reflects Australia's commitment to balancing individual freedoms in contract negotiations with the protection of societal interests, especially in terms of consumer rights and equitable dealings.

Law and economics

In economics, the freedom of contract has been studied in the field of contract theory. According to the Coase Theorem, the freedom of contract is beneficial in the absence of transaction costs. When two rational parties voluntarily enter into a contract, they must be (at least weakly) better off than in the absence of the contract. The parties will agree on a contract that maximizes the total surplus that they can generate. Hence, restrictions on the class of enforceable contracts can only reduce the total surplus. Yet, prohibiting certain contracts can be beneficial when there are transaction costs. For example, Spier and Whinston (1995) have shown that not enforcing a contract between two parties can be desirable when the contract has negative external effects on a third party (which does not participate in the contract due to transaction costs). [7] It has also been argued that the presence of asymmetric information can make restrictions on the freedom of contract desirable, since such restrictions can prevent inefficient distortions due to signalling and screening. [8] , [9] Similarly, when there are transaction costs due to moral hazard problems, restrictions on the freedom of contract can be welfare-enhancing. [10] [11] Furthermore, it can be desirable not to enforce certain contracts when agents are susceptible to cognitive biases. [12] Finally, an important problem is whether contractual parties should have the freedom to restrict their own freedom to modify their contract in the future. Schmitz (2005) and Davis (2006) argue that it can be beneficial not to enforce non-renegotiation clauses in contracts. [13] , [14]

See also

Related Research Articles

Adkins v. Children's Hospital, 261 U.S. 525 (1923), is a United States Supreme Court opinion that federal minimum wage legislation for women was an unconstitutional infringement of liberty of contract, as protected by the due process clause of the Fifth Amendment.

<span class="mw-page-title-main">Exclusion clause</span>

Exclusion clauses and limitation clauses are terms in a contract which seek to restrict the rights of the parties to the contract.

Fundamental breach of contract, is a controversial concept within the common law of contract. The doctrine was, in particular, nurtured by Lord Denning, Master of the Rolls from 1962 to 1982, but it did not find favour with the House of Lords.

<span class="mw-page-title-main">Restraint of trade</span> Common law doctrine

Restraints of trade is a common law doctrine relating to the enforceability of contractual restrictions on freedom to conduct business. It is a precursor of modern competition law. In an old leading case of Mitchel v Reynolds (1711) Lord Smith LC said,

it is the privilege of a trader in a free country, in all matters not contrary to law, to regulate his own mode of carrying it on according to his own discretion and choice. If the law has regulated or restrained his mode of doing this, the law must be obeyed. But no power short of the general law ought to restrain his free discretion.

<i>Photo Production Ltd v Securicor Transport Ltd</i>

Photo Production Ltd v Securicor Transport Ltd[1980] UKHL 2 is an English contract law case decided by the House of Lords on construction of a contract and the doctrine of fundamental breach.

<span class="mw-page-title-main">Unfair Contract Terms Act 1977</span> United Kingdom legislation

The Unfair Contract Terms Act 1977 is an act of Parliament of the United Kingdom which regulates contracts by restricting the operation and legality of some contract terms. It extends to nearly all forms of contract and one of its most important functions is limiting the applicability of disclaimers of liability. The terms extend to both actual contract terms and notices that are seen to constitute a contractual obligation.

Coppage v. Kansas, 236 U.S. 1 (1915), was a Supreme Court of the United States case based on United States labor law that allowed employers to implement contracts—called yellow-dog contracts—which forbade employees from joining unions.

<i>George Mitchell (Chesterhall) Ltd v Finney Lock Seeds Ltd</i> 1983 British court case

George Mitchell (Chesterhall) Ltd v Finney Lock Seeds Ltd is a case concerning the sale of goods and exclusion clauses. It was decided under the Unfair Contract Terms Act 1977 and the Sale of Goods Act 1979.

<span class="mw-page-title-main">English contract law</span> Law of contracts in England and Wales

English contract law is the body of law that regulates legally binding agreements in England and Wales. With its roots in the lex mercatoria and the activism of the judiciary during the industrial revolution, it shares a heritage with countries across the Commonwealth, from membership in the European Union, continuing membership in Unidroit, and to a lesser extent the United States. Any agreement that is enforceable in court is a contract. A contract is a voluntary obligation, contrasting to the duty to not violate others rights in tort or unjust enrichment. English law places a high value on ensuring people have truly consented to the deals that bind them in court, so long as they comply with statutory and human rights.

A contract is an agreement that specifies certain legally enforceable rights and obligations pertaining to two or more parties. A contract typically involves the transfer of goods, services, money, or a promise to transfer any of those at a future date, and the activities and intentions of the parties entering into a contract may be referred to as contracting. In the event of a breach of contract, the injured party may seek judicial remedies such as damages or equitable remedies such as specific performance or rescission. A binding agreement between actors in international law is known as a treaty.

West Coast Hotel Co. v. Parrish, 300 U.S. 379 (1937), was a decision by the United States Supreme Court upholding the constitutionality of state minimum wage legislation. The court's decision overturned an earlier holding in Adkins v. Children's Hospital (1923) and is generally regarded as having ended the Lochner era, a period in American legal history during which the Supreme Court tended to invalidate legislation aimed at regulating business.

<i>Hollier v Rambler Motors (AMC) Ltd</i>

Hollier v Rambler Motors (AMC) Ltd[1971] EWCA Civ 12 is an English contract law case, concerning the incorporation of terms into a contract and the contra proferentum rule of interpretation. It shows an example of a very hostile interpretation of exclusion clauses.

Interpreting contracts in English law is an area of English contract law, which concerns how the courts decide what an agreement means. It is settled law that the process is based on the objective view of a reasonable person, given the context in which the contracting parties made their agreement. This approach marks a break with previous a more rigid modes of interpretation before the 1970s, where courts paid closer attention to the formal expression of the parties' intentions and took more of a literal view of what they had said.

Incorporation of terms in English law is the inclusion of terms in contracts formed under English law in such a way that the courts recognise them as valid. For a term to be considered incorporated it must fulfil three requirements. Firstly, notice of the terms should be given before or during the agreement of the contract. Secondly, the terms must be found in a document intended to be contractual. Thirdly, "reasonable steps" must be taken by the party who forms the term to bring it to the attention of the other party. The rules on incorporating terms in English law are almost all at a common law level.

<span class="mw-page-title-main">Deviation (law)</span>

The doctrine of deviation is a particular aspect of contracts of carriage of goods by sea. A deviation is a departure from the "agreed route" or the "usual route", and it can amount to a serious breach of contract.

Unfair terms in English contract law are regulated under three major pieces of legislation, compliance with which is enforced by the Office of Fair Trading. The Unfair Contract Terms Act 1977 is the first main Act, which covers some contracts that have exclusion and limitation clauses. For example, it will not extend to cover contracts which are mentioned in Schedule I, consumer contracts, and international supply contracts. The Consumer Rights Act 2015 replaced the Unfair Terms in Consumer Contracts Regulations 1999 and bolstered further requirements for consumer contracts. The Consumer Protection from Unfair Trading Regulations 2008 concerns certain sales practices.

<span class="mw-page-title-main">South African contract law</span> Law about agreements between two or more parties

South African contract law is "essentially a modernized version of the Roman-Dutch law of contract", and is rooted in canon and Roman laws. In the broadest definition, a contract is an agreement two or more parties enter into with the serious intention of creating a legal obligation. Contract law provides a legal framework within which persons can transact business and exchange resources, secure in the knowledge that the law will uphold their agreements and, if necessary, enforce them. The law of contract underpins private enterprise in South Africa and regulates it in the interest of fair dealing.

<span class="mw-page-title-main">Penalties in English law</span>

Penalties in English law are contractual terms which are not enforceable in the courts because of their penal character. Since at least 1720 it has been accepted as a matter of English contract law that if a provision in a contract constitutes a penalty, then that provision is unenforceable by the parties. However, the test for what constitutes a penalty has evolved over time. The Supreme Court most recently restated the law in relation to contractual penalties in the co-joined appeals of Cavendish Square Holding BV v Talal El Makdessi, and ParkingEye Ltd v Beavis.

<i>Cavendish Square Holding BV v Talal El Makdessi</i> English contract law case

Cavendish Square Holding BV v Talal El Makdessi[2015] UKSC 67, together with its companion case ParkingEye Ltd v Beavis, are English contract law cases concerning the validity of penalty clauses and the application of the Unfair Terms in Consumer Contracts Directive. The UK Supreme Court ruled on both cases together on 4 November 2015, updating the established legal rule on penalty clauses and replacing the test of whether or not a disputed clause is "a genuine pre-estimate of loss" with a test asking whether it imposed a proportionate detriment in relation to any "legitimate interest" of the innocent party.

In economic theory, the field of contract theory can be subdivided in the theory of complete contracts and the theory of incomplete contracts.

References

Notes

  1. ↑ Cornell Law School, 42 U.S. Code § 1981 - Equal rights under the law, accessed 7 July 2023
  2. ↑ Lochner v. New York, 198 U.S. 45 (1905).
  3. ↑ Roscoe Pound, "Liberty of Contract," 18 Yale Law Journal 454 (1909).
  4. ↑ (1875) 19 Eq 462, 465, regarding freedom of contract and patents
  5. ↑ The Australian Consumer Law. "The Australian Consumer Law". consumer.gov.au. Retrieved 2024-01-18.
  6. ↑ Appius Lawyers (2022-03-18). "Freedom of Contract in Australia". Appius Lawyers. Retrieved 2024-01-18.
  7. ↑ Spier, Kathryn E.; Whinston, Michael D. (1995). "On the Efficiency of Privately Stipulated Damages for Breach of Contract: Entry Barriers, Reliance, and Renegotiation". The RAND Journal of Economics. 26 (2): 180–202. doi:10.2307/2555912. ISSN   0741-6261. JSTOR   2555912.
  8. ↑ Aghion, Philippe; Hermalin, Benjamin (1990). "Legal Restrictions on Private Contracts Can Enhance Efficiency". Journal of Law, Economics, & Organization. 6 (2): 381–409. ISSN   8756-6222. JSTOR   764783.
  9. ↑ Schmitz, Patrick W. (2004). "Job protection laws and agency problems under asymmetric information". European Economic Review. 48 (5): 1027–1046. doi:10.1016/j.euroecorev.2003.12.007.
  10. ↑ Müller, Daniel; Schmitz, Patrick W. (2021). "The right to quit work: An efficiency rationale for restricting the freedom of contract". Journal of Economic Behavior & Organization. 184: 653–669. doi: 10.1016/j.jebo.2021.02.004 . ISSN   0167-2681.
  11. ↑ Schmitz, Patrick W. (2005). "Workplace surveillance, privacy protection, and efficiency wages". Labour Economics. 12 (6): 727–738. doi:10.1016/j.labeco.2004.06.001. hdl: 10419/22931 .
  12. ↑ Koszegi, Botond (2014). "Behavioral Contract Theory". Journal of Economic Literature. 52 (4): 1075–1118. doi:10.1257/jel.52.4.1075. ISSN   0022-0515.
  13. ↑ Schmitz, Patrick W. (2005). "Should Contractual Clauses that Forbid Renegotiation Always be Enforced?". The Journal of Law, Economics, and Organization. 21 (2): 315–329. doi:10.1093/jleo/ewi019. hdl: 10419/22932 . ISSN   8756-6222.
  14. ↑ Davis, Kevin E. (2006). "The Demand for Immutable Contracts: Another Look at the Law and Economics of Contracts Modifications". New York University Law Review. 81: 487.
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