Theories of Contract: Brief

Introduction

The law of contracts is an evolving concept based on the theories propounded by various scholars to explain the liability and obligations arising due to a contract upon the parties entering into it. The theory holds significance in the law as the common law as well as the Indian law derives its foundational understanding of concepts of justice and remedy from such theories elaborating upon the relationship of the parties entering into a contract. The author aims to analyze various theories propounded with respect to the contracts act and study the inter alia relationship between the theories and the doctrine of privity in the contract for a better understanding of the law.

Analyzing the significance and applicability of theories of contracts:

1. The Will Theory

The ‘Will’ theory is the oldest and the most relevant theory in the law of contracts, also considered as an essential for a contract to be legally binding.  The will theory emphasizes on the will of the parties to enter into a contract by expressly or impliedly agreeing to do or abstain from doing something. The principle of Consensus ad idem or the meeting of minds holds relevance while enforcing the contract as the court of law only proceeds in accordance with the intention of the parties to enter into a contract over the terms agreed together. When the parties are at a consensus at idem, the law is obligated to enforce the contract unless the consideration or object of the contract in question, is itself unlawful. The theory is further based on the system of creating a contractual liability for the parties intending to contract, in case of any omissions of non- performance of the contract. The theory aims at creating a model that accounts for the interest of the public and the concerned parties by the performance of the promise, the benefit bestowed on the third person is protected under the contract.

2. The Promise Theory

A promise is another quintessential of a contract, as a valid promise with a lawful consideration is deemed to be a contract enforceable by law. The common rationale behind this theory is that since the promisor avails the benefits of the act performed by the promise, he, for the common welfare, should be bound by law from his promise to perform his part of the contract. This ensures the benefit of both the parties entering into the contract and prevents any party from maliciously causing harm to the other from non -performance of the promise.

According to Charles Fried:

“the promise principle unifies the law of contract and provides its moral foundation.’ According to Fried, the promise principle promotes freedom and autonomy because it ties contractual obligation to “self-imposed” commitments[1]”

However, not all promises are enforceable from the law but only the ones which are valid in the eyes of the law. The contracts with unlawful consideration and object are not enforceable by law as valid promises. One key criticism of the theory is that it rejects the principle of “substitution, recession, and alteration” in the contract, which, however, is fairly permitted under the Indian Contracts Act, 1872.

3. The Equivalent Theory:

This theory focusses on the consideration part of the contract, without which a contract is not enforceable under the court of law. The promisee is required to do or abstain from doing something or promise to do something as a response to the performance of the promisor; to form a valid contract. This creates a status of ‘equivalency’ between the parties showcasing that both the parties are at par required to deliver their part of the promise. Hence, a promise must contain some ‘quid pro quo’ which implies its equivalent for forming a valid contract.

This theory is also referred to as the bargain theory which implies that the parties must strike a bargain or an exchange value to enter into a valid contract. The rational society believes in the theory and functionality of a bargain where both the parties are obligated to do something for each other. It refers to the existence of consideration where one party has purchased or promises to purchase the promise of the other party.

4. The Injurious-reliance Theory:

This theory resonates that a contractual liability exists only when the parties explicitly or implicitly enter into a promise; resulting in placing a reliance on that promise, and consequently when a loss is anticipated due to the non- performance of the contract. Hence, the existence of three elements namely: reliance, loss or injury, and promise are required to create a liability. In case, where the promisee can prove the existence of the three elements, he under the court of law can sue the promisor and claim damages for the injury suffered or loss accrued due to non-performance.

This theory marks the inseparable relationship between the obligation of the promisor and the loss suffered by the promise. It relies on the natural principle that a promise creates a general expectation of performance and discharge of an obligation. In case a loss is suffered due to a violation of the obligation, the remedy will be given to the aggrieved. The theory is criticized on the grounds that accessing the reliance of the promisee on the contract is subjective in various cases, for effective implementation of this theory several tests should be ascertained to access the reliance and obligation created by the promise.

5. The Relational Theory

The theory was propounded by the distinguished jurist Prof. Ian Mac Neil, who recognizes the existence of a contractual relationship that is ongoing between the parties.

 He assumes such a case because under his observation the agreements are not always accurate or can be classified as discrete and transparent transactions. The clauses and substance matter of the contract is usually based on a previously on-going relationship of mutual trust and trade between the contracting parties. He advises that every law of contracts should encompass certain provisions enforcing specific norms in the act; such as reciprocity, encouragement for exchange participation, curb the exercise of freedom to contract for unlawful activities, and so on.

6. The Economic Theory

This theory is in consonance to the principles of natural justice which aims at delivering justice to every person who has been aggrieved in parity with justice, equity, and good conscience. The economic theory emphasizes on making the process of achieving justice available to all irrespective of their economic backgrounds. It reiterates on the establishment of a robust system where the process of suing and getting the remedy for the loss incurred is not a complex procedure. The theory propounds that even a stranger to the contract is entitled to sue in order to receive the benefits from the contract in the capacity of a third person provided that the contract is valid and the promisee can enforce it specifically. The doctrine of privity of contract is expensive and exclusive according to the theory, when the contract confers benefits on the third person.

7. The Social Theory

The social theory was engineered by the American jurist, Roscoe Pound who was the propagator of socio-legal school, implying that the laws should be amended and modified as per the patterns of changing society. It embarks on the principle of creating a balance between various stakeholders of the society such as the social requirement and the fundamental rights of the people by minimizing the friction. This theory suggests that the primary and most eminent function of the law is to provide for the welfare of the society and cater to their needs.

The propagators of the socio-legal school have no regard for the privity of the contract and empowers the third party to sue for contractual liability. This is rationalized by them in a two-fold manner: 1) providing relief to the third party and 2) safeguarding the ulterior interests of the society.

8. Theory of Unconscionability

This theory is to prevent the abuse of contracts due to the unconscionability of the party or malicious intention of either of the parties making the performance of the contract impossible. The theory guardians the interests of the promisee as well as the third party or the beneficiary to the contract. The promisor should not be kept in the position where he can easily abuse the contract by not performing his part of the contract. He should be bound by the contract to perform his part and accrue benefits to the third party as he does to the promisee. The privity rule of the contract indicates that the promisor is not bound by the contract to deliver any services or benefits to the party but is only accountable to the promisee. This theory thus dissents from the privity rule and clearly bars the promisor from retention of any benefits or services to the third party as per the substance of the contract. Hence, this theory protects and maintains the sanctity of the contract by ensuring the mechanism of conscience.

9. Reasonableness Theory

The theory of reasonability or fairness has surfaced in the law of contracts in the recent times itself, where it mandates to scrutinize the reasonability or fairness of the clauses of a contract specifically in cases where one party is at an unequal bargaining power. The theory further reinstates that if a weaker party enters into a contract with the party with higher bargaining power to influence the contract, it shall be deemed unfair and unlawful. This theory was propounded and developed through a precedent[2] by the Apex Court, where an employee was terminated from his services by the employer on unreasonable grounds. The court held that this case was ultra vires to the directive principles and article 14 of the Indian Constitution.

10. The Theory of Distributive Justice

The concept of distributive justice is a well- established jurisprudential concept in law, referring to the free distribution of wealth amongst all members of the society. The economy should not be governed by few industrialists or affluent businessmen but should be inclusive of all economic classes of the society. The theory recognizes that a beneficiary is a third person or a stranger to the contract, however, he is considered to be a part of the same social system as the contracting parties. It is an essential of the concept of distributive justice that such member of the society who has been lawfully promised certain benefits from the contracting parties should be entitled to that benefit in the court of law. This theory is in accordance with Article 39 of the Indian Constitution, mandating the framework of policy delivering equal opportunities of justice to all members of the society.

Conclusion

Through the aforementioned analysis, it is crystal clear the doctrine of privity of contract is losing its importance and relevance in the law of contracts. The theory of privity of contract is only supported by the theory of bargain or equivalency while the other theories discussed, disregard the existence and enforceability of the privity of contract. The sole foundation for disregarding the doctrine is based on the fact that it prevents the beneficiary from obtaining the benefits promised to him in a legally binding contract, causing injustice.

The law of contracts in India is a statutory law and the common law theories of contracts does not find a mention in the specific provisions of the Indian Contracts Act, 1872. However, the provisions and concepts of the act are reflective of the underlying principles incorporated in the theories and are legislated on the concepts propounded under such theories.

---

References:

[1] CHARLES FRIED, CONTRACT AS PROMISE: A THEORY OF CONTRACTUAL OBLIGATION 1 (1981).

[2] Central Inland Water Transport Corporation Ltd, v.  Bro.jo Hath Ganguly (1973)1 Q.B. 400 at 415,4l6.