Abstract
Good faith is a principle prominent in civil law countries but less so in common law countries, and which allows courts to deviate from black letter law. It provides them with flexibility to change the outcome of a deductive legal decision if they regard it as absurd. The principle of good faith thus empowers the judiciary to deviate. It can be used for an indefinite number of cases and might lead to almost all conceivable legal consequences. For instance, the judge can invalidate the contract, change the price, suspend or change a clause in the contract, or grant injunctive relief, compensation of damages, the disgorgement of profits or a removal claim. We argue that if the principle of good faith is used to develop contract law into an instrument for redistributing wealth in favor of poor parties, this can destroy the concept of contract as a social mechanism for generating mutual gains for parties, which might lead to unwanted economic consequences in terms of efficiency losses. We argue that the principle of good faith must be carefully and reluctantly used to reconstruct the fully specified contract and that well-informed judges, who understand the factual environment of a contract well should ask how fair bur self-interested parties would have allocated the risk in a pre-contractual situation. If the courts restrict the application of the good faith principle to these functions, this provides elasticity that otherwise would not exist if courts would strictly use the rules laid down in black letter law. Moreover, it saves transactions costs and is therefore in line with economic reasoning. We look at the most important Turkish cases and find that the Turkish Supreme Court following Continental European doctrines of good faith actually uses this principle to curb opportunistic behavior of parties and not to achieve redistribution from the rich to the poor by way of interfering into contract law.
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Notes
The principle of good faith, like other blanket clauses in civil law, had been badly misused during the period of totalitarianism which existed in the Soviet Block as well as in Nazi Germany, distorting the formal rules of contract law in favor of ideology and the party line. In Nazi Germany, the principle was misused to avoid contracts that did not follow the political line of the ruling party. After being occupied by the Soviet Russia, all judges in East Germany who were contaminated with Nazism were dismissed. Therefore there were almost no remaining judges in the East Germany. The solution to this obstacle was found to be the training of new judges within a short period of time. New judges were trained within 6 months, and they were especially educated in using the good faith principle. A similar development was observed in Russia after the Russian revolution, when blanket clauses in contract law were instruments for adapting the function of contract law to serve ideological purposes (Reich 1972). In Soviet Russia after the revolution, the inflationary use of blanket clauses in contract law was observed. After the revolution the first idea was to replace the old civil law by a new socialist civil law. However, realization of such a project proved to be too difficult in practice. In the end, the rulers figured out that they could use blanket clauses, such as good faith principle, to overcome such obstacles.
References to good faith can be found in various articles of the UCC. In particular see § 1–304 titled as “Obligation of good faith”: “Every contract or duty within [the Uniform Commercial Code] imposes an obligation of good faith in its performance and enforcement.” Despite this provision, in the United States courts and scholars have tried to agree on the exact meaning of the concept (Miller and Perry 2013: 694).Summers (1968: 195) regards good faith as an excluder which “has no general meaning or meanings of its own, but which serves to exclude many heterogeneous forms of bad faith”. For the distinguishable types of bad faith in contract case law see Summers (1968: 233 ff.). Summers’(1968) “excluder approach” is recognized in the Restatement. In Restatement (Second) of Contracts, §205 a, it is stated that “Good faith is defined in Uniform Commercial Code § 1–201(19) as "honesty in fact in the conduct or transaction concerned." "In the case of a merchant" Uniform Commercial Code § 2–103(1) (b) provides that good faith means "honesty in fact and the observance of reasonable commercial standards of fair dealing in the trade." The phrase "good faith" is used in a variety of contexts, and its meaning varies somewhat with the context. Good faith performance or enforcement of a contract emphasizes faithfulness to an agreed common purpose and consistency with the justified expectations of the other party; it excludes a variety of types of conduct characterized as involving "bad faith" because they violate community standards of decency, fairness or reasonableness. The appropriate remedy for a breach of the duty of good faith also varies with the circumstances.” Burton (1980) diverges from Summers’ definition and relates bad faith to the exercise of discretion by one of the contractual parties with respect to certain aspects of the contract, such as quantity, price, or time. According to the author, “Bad faith performance occurs precisely when discretion is used to recapture opportunities forgone upon contracting—when the discretion-exercising party refuses to pay the expected cost of performance. Good faith performance, in turn, occurs when a party's discretion is exercised for any purpose within the reasonable contemplation of the parties at the time of formation—to capture opportunities that were preserved upon entering the contract, interpreted objectively. The good faith performance doctrine therefore directs attention to the opportunities forgone by a discretion-exercising party at formation, and to that party's reasons for exercising discretion during performance.” (Burton 1980: 373). Another major account of the duty of good faith performance under common law is “commutative justice”, which refers to the “enforcement of the parties’ actual agreement” (Miller and Perry 2013:712). Accordingly, the good faith principle protects the reasonable expectations of the parties which they had while contracting.
See Article 7(1) CISG: “In the interpretation of this Convention, regard is to be had to its international character and to the need to promote uniformity in its application and the observance of good faith in international trade”.
See Article 3(1) of Council Directive 93/13/EEC of 5 April 1993 on unfair terms in consumer contracts: “A contractual term which has not been individually negotiated shall be regarded as unfair if, contrary to the requirement of good faith, it causes a significant imbalance in the parties' rights and obligations arising under the contract, to the detriment of the consumer.”
Reference to good faith can be found in various articles of the Principles of European Contract Law (PECL) including Articles 1:102, 1:106, 1:201, 1:302, 1:305, 2:301, 3:201, 4:102, 4:107, 4:109, 4:110, 4:118, 5:102, 6:102, 6:111 and 8:109 PECL. In particular see Article 1.201: “(1) Each party must act in accordance with good faith and fair dealing. (2) The parties may not exclude or limit this duty.”
Reference to good faith can be found in various articles of the Principles, including Articles 1.7, 4.8, 5.1.2, 5.3.3, 5.3.4. In particular see Article 1.7: “(1) Each party must act in accordance with good faith and fair dealing in international trade. (2) The parties may not exclude or limit this duty.” For a reference to bad faith see Article 2.1.15.
Hesselink (2010: 645) states that good faith is not a norm of private law, let alone of contract law. It is merely an instrument that the judge applies to create new rules. Good faith is “merely the mouthpiece through which new rules speak, or the cradle where new rules are born.” This results from the fact that in continental European systems, a judge perceives himself as the person who applies the law but refrains from creating a rule, changing an adopted rule or interfering with the contractual right of party autonomy (i.e. what parties freely agreed to). Therefore the judge needs to refer to concepts like good faith that have already been adopted by the democratically elected legislator.
“Faced with a problem in contract, the Common lawyer is as likely as not to try to solve it with an implied term. But the Civil lawyer will probably resort to a rule, whether it be a broad and fundamental precept such as the German requirement of good faith (Treu und Glauben)…” (Nicholas 1973: 950). Common law lawyers regard the good faith principle as “…an invitation to judges to abandon the duty of legally reasoned decisions and to produce an unanalytical incantation of personal values.” (Bridge 1984: 413); see also Zimmermann and Whittaker (2000: 15 ff.) According to Steyn (1997: 442), there is no need to adopt a good faith principle in English law as long as the courts take into consideration the reasonable expectations of the parties in accordance with the own pragmatic tradition of English law. For arguments that other mechanisms in English law lead to some of the legal results that are achieved via the good faith principle in other legal systems see also Zimmermann and Whittaker (2000: 45 ff.) On the other hand, according to Piers (2011), good faith has always played an important role in English law, without an explicit reference to the concept. However, unlike civil law countries, it has never taken root as a general principle. Piers (2011) explain this with the difference between the civil law and common law systems, in the sense that the civil law’s deductive method of reasoning leads to the creation of and reference to abstract principles such as good faith as the foundation of practical findings. On the other hand, common law’s inductive reasoning constitutes a structural reluctance to adopt overarching, general principles. (Piers 2011: 167–168).
“…the concept of a duty to carry on negotiations in good faith is inherently repugnant to the adversarial position of the parties when involved in negotiations. Each party to the negotiations is entitled to pursue his (or her) own interest, so long as he avoids making misrepresentations.” Walford v. Miles [1992] 2 AC 128, 138. See also Zimmermann and Whittaker (2000: 39 ff.).
Teubner (1998) argues that this divergence of English law can be explained by the liberalization of the world markets that has led to the establishment of more than one form of capitalism (Teubner, p. 24 ff). According to the author, “the British economic culture does not appear to be a fertile ground on which continental bona fide would blossom.” (Teubner 1998: 27). Laithier (2003: §II B 1) objects to this argument, stating that if such analysis were correct, American and Scottish legal systems, which are subject to similar type of capitalism, would also not recognize good faith.
However, Goode (1992: 1) states that unlike the old common law, the modern English courts “… began to try to help the weaker party, as by reducing the rigour of the caveat emptor rule in the sale of goods and by imposing certain duties of good faith in a range of other situations”. For detailed information on good faith in English law, see O’Connor (1990); Whittaker (2013). On the assessment that Anglo-Canadian law does not need to legislate a standard of good faith, see Bridge (1984: 425).
According to Piers (2011: 168–169), English courts and scholars are increasingly inclined to apply rules guided by the notion of good faith and exploring the implications of the principle. Following the opinion that English law already applies a variety of good faith-related principles, Sims (2004: 232) states that “This is best visualised as a set of circles, concentrically placed around the basic moral notion of honesty, which is the minimum standard of behaviour required by the law from all contracting parties. From this centre point, the different applications of good faith spread out in ever widening circles.” Lord Bingham expressed a similar view with the following words in Interfoto Library Ltd. v. Stiletto Ltd. (1988) 2 W.L.R. 615 (p. 621): (England has no) "overriding principle that in making and carrying out contracts parties should act in good faith " but added that on the other hand "English law has, characteristically, committed itself to no such principle but has developed piecemeal solutions in response to demonstrated problems of unfairness".
Referring to the different approaches of the civil law system and English law with regard to good faith, Sims (2004: 232) argues that the legal methodology remains the same. Therefore it is not surprising that when developing their law of “Treu und Glauben”, German courts adopted a common law technique by building up a body of case law to clarify the individual applications of the overarching concept.
Mackaay and Leblanc (2003: 26) regard good faith as the opposite of opportunism and propose a three-step test to operationalize opportunism: “an asymmetry between the parties; which one of them seeks to exploit to the detriment of the other in order to draw an undue advantage from it; the exploitation being sufficiently serious that, in the absence of a sanction, the victim and others like him or her are likely substantially to increase measures of self-protection before entering into a contract in the future, thereby reducing the overall level of contracting.” In fact, Mackaay (2009: 12) defines bad faith as the legal term for opportunism. Opportunistic behavior is inefficient because it encourages parties to take precautions and write longer contracts in order to deter such behavior and legal uncertainty. This increases transaction costs and reduces the net gain from the contract (Sepe 2010: 27; Mackaay 2011: 20). The ultimate precaution would be to forego a contemplated contract altogether, and if many potential contractors were to follow this behavior, the entire market would shrink (Mackaay 2011: 13). Mackaay (2011: 20) perceives good faith as a last resort tool for preventing opportunistic behavior. In fact, the law provides a range of specific anti-opportunism concepts, yet sometimes no such concepts will be able to curtail a specific manifestation of opportunism. In such cases, courts will resort to good faith.
Despite the large ideological difference between the Continental-European legal system and English law, in practice there is no substantial difference between the two legal systems. Goode explains the similar opinion with the following words: “In many cases we arrive at the same answers as you but by a different route. Thus there are numerous situations in which we do not find it necessary to require good faith because we impose a duty which does not depend on good faith.” (Goode 1992: 4).
Own translation from Turkish: “… Medeni Kanunun 2/2. maddesindeki kuralla, Kanunun ve hakkın mutlaklığı kuralına istisna getirilmektedir. Ancak, bu kuralın taliliği (yani ikinciliği) de gözetilerek; öncelikle her meseleye ona ilişkin kanun hükümleri tatbik edilecek; uygulanan kanun hükümlerinin adalete aykırı sonuçlara neden olabildiği bazı istisnai durumlarda da, 2/2. maddedeki kural, haksızlığı tashih edici bir şekilde uygulanabilecektir.” Yarg. İBGK, 25.1.1984, E. 1983/3, K. 1984/1. In the same vein, see also Schwarz (1946): 204; Dural and Sarı (2010: 215); Sungurbey (1974: 123); Oğuzman and Barlas (2008: 258–259); Akyol (2006: 17); Merz (1962: Art. 2, N. 49); Oğuzman (1988: 408). For a study on redundant references to the good faith principle in Turkish Supreme Court decisions, see Oğuzman (1988: 407 ff); also see Oğuzman and Barlas (2008: 260, fn. 369).
Yarg. 6 HD 8.6.1953 1953/5970, K. 1953/4240.
According to Sepe (2010: 57), good faith should be a default rule rather than a mandatory rule, because the parties are in a better condition to evaluate the efficiency condition for good faith. Therefore, the parties must be given the option to choose a literal interpretative regime, where the contract serves as the only evidentiary base that the courts will use when enforcing their agreement.
For instance, this is explicitly set forth under Article 84 (1) of Turkish Code of Obligations.
Here, one can quote the opinion of Justice Posner from the decision Market Street Associates Limited Partnership v. Frey, 941 F. 2d 588, 595: “The concept of the duty of good faith like the concept of fiduciary duty is a stab at approximating the terms the parties would have negotiated had they foreseen the circumstances that have given rise to their dispute. The parties want to minimize the costs of performance. To the extent that a doctrine of good faith designed to do this by reducing defensive expenditures is a reasonable measure to this end, interpolating it into the contract advances the parties' joint goal.” According to Sepe (2010: p. 19, fn. 53), this is one of the clearest descriptions of the law and economics approach to good faith.
We thank Flavianne Fernanda Bitencourt Nóbrega for valuable information on the good faith principle in Brazil. She provided us with cases and informed us on Brazilian and Latin American legal developments regarding good faith in contract law, especially the dogmatic concepts of “social function of a contract” and “constitutionalization of contract law” which extends human rights, originally rights vis-à-vis the state, to the contractual partner.
Decision of the Court of Appeal—Rio de Janeiro—Appeal Process Number: RJ 0024579-49.2010.8.19.0004, Court Judge: Des. Ademir Pimentel, Date of Judgment: 01/06/2012, Thirteenth Civil, Landlord: Ivan Felippe, Tenant: Ezio Huais.
The new Brazilian Civil Code, enacted in 2002 and which came into force in 2003, introduced two important general clauses: “social function of contracts” and “objective good faith”. These general clauses were codified, respectively, in Article 421 and Article 422 in the chapter of General Provisions of Contracts. The legal provision of Article 421 says ipsis litteris that “the freedom to contract shall be exercised by virtue, and within the limits, of the social function of contracts” and according to Article 422: “the contracting parties are bound to observe the principles of probity and good faith, both in entering into the contract and in its performance”. The general clauses of “social function of contracts” and “good faith” are generally applied by Brazilian Courts to leasing contracts (houses, vehicles etc.) and balanced against the terms of the contracts in order to allow the lessee to keep possession of the immovable or movable good. The leading Brazilian case of green soybean forward contract sale, which was signed between rich traders (buyers) and poor farmers (sellers) in the year of 2003, illustrates one of the most challenging adjudications of the social function of contract and the good faith general clauses just after the new civil code came into force in 2003. In this case, the judges changed the terms of the contract applying the “social function of contracts” with the purpose of balancing inequality and redistributing wealth. Before the court intervention, this type of forward contract sale “created an environment of private credit that collaborated to finance and to expand the Brazilian soybean production. However, after the lawsuits of the poor farmers and the Courts adjudication of Good faith on 2003, there was a decline from 80 to 20 % on signing this type of contract” (Nóbrega 2013: 39). “Those soybean farmers who did not breach their contracts have also been negatively affected by the strategic reactions of trading and processing companies. The concept of "social function of the contract" introduced in Brazilian civil code led to a higher degree of instability in contracts, raising transaction costs and motivating private economic sanctions” (Rezende and Zylbersztajn 2012: 207–208).
A prevailing and very wide interpretation (strongly recognized in literature and jurisprudence) of “social function of contract” is proposed by Diniz (2007), who sees the social function as a kind of contractual “super-principle”, comprising precepts of public order, good customs, objective good faith, contractual equilibrium, solidarity, distributive justice, etc. According to the author, it should comprise every constitutionally and/or legally recognized value which might be said to have a “collective” or “non-individualistic” character. Each one of these social values could thus be used for interpreting the contents of social function. Timm (2008: 14) states that the social function of contract is regarded as “… a phenomenon referred to as “publicization”, “socialization” or even as “constitutionalization” of Private Law, which results in institutes traditionally belonging to Civil Law—such as the contract and property—being guided by redistributive criteria inherent to Public Law.” According to Schmidt (2009: 476), from a legislative perspective, the Brazilian provision of “social function of contract” is a unique clause not found in any other country.
Latin American countries adopt the statutes of other countries, coming up with dogmatic concepts not found in Europe. Within this scope, social function of a contract is an official dogmatic concept not found in Europe. Another example is the constitutionalization of the contract, which extends contractual rights from the contract. Although this concept was originally created in German literature, according to Nóbrega (2012: 185), the new Constitution of 1988 which restored the democratic regime in Brazil represented a change from the liberal individualistic legal order (strictly rule-based) to a social welfare legal order (principle- and standard-oriented). The “hyperinflation” of principles, general clauses and vague concepts in the new legal order favored a decentralized judge-made legal system, with the mission to pursue “social justice.” These have shifted towards a more standard-oriented system and have opened the door to judicial activism that weakens contract enforcement, increasing uncertainty.
Hans-Bernd Schäfer met a merchant in New Delhi who had bought a flat for his 10 year-old son and left the flat empty for fear that he might never be able to evict the tenant when his son wanted to live there about 10 years later.
NJW 1955, 337.
For the responses by lawyers from different countries to the same problem see Case 19: Doctors swapping practices in Zimmermann and Whittaker (2000: 481 ff.).
According to the English perspective, the courts merely want to know what the parties have actually decided; they do not want to tell the parties how they should have decided. Therefore, if this case had been brought to an English court, the court would probably have argued that if they wanted a non-competition clause, they should have written it into the contract. The court would have said that the parties have not reallocated the risk and that the risk falls on the person who has taken over the practice in Hamburg. On the other hand, a German court would argue that the parties have failed to include such a non-competition clause but they would have done it if they had thought about it. Therefore the court would impose a non-competition obligation. One can concede that English courts come closer to the genuine will of the parties if the absence of good faith forces them to write fully specified contracts. But the transactions costs are high. In addition, the Hayekian argument that courts lack the information to mimic them seems to be overstretched in many such cases.
Similarly, according to Mackaay (2011: 17), good faith is a guiding principle that is subject to many specific “crystallizations” in order to prevent opportunism; however, considering the need for legal certainty, it is too general to be applied routinely.
For detailed information on these legal dogmatic forms in different countries see Hesselink (2010: 624 ff.).
Schmidt (1995: § 242, No. 87) explains this by stating that the legal doctrine has developed an “inner system” (Binnen system) of good faith. According to Hesselink (2010: 644), in near future there will be a practical need to abolish such an inner system, as it will no longer be manageable due to the enormous number of cases based on good faith.
According to an opinion, in such cases, it cannot be argued that a joint owner does not have a legitimate interest in using his/her preemption right. Accordingly, by way of using the preemption right, a stranger’s entry into the joint-ownership union is prevented. Moreover, such third person is not bound with the agreement, which regulates the way of utilization of the jointly owned property. In this vein, see Sirmen 2014: 473), Oğuzman/Seliçi/Oktay-Özdemir (2012: 563–564). In one of its decisions (YHGK 29.6.1990 E. 1990/6-30 K. 1990/441), the Supreme Court ruled as follows “Unless there is an agreement that is entered into by all joint-owners, if some of the joint-owners use certain parts of the jointly owned property, utilization of the legal preemption right by the other joint-owners in case of share sales is in accordance with the purpose of the right.” In the case at hand (Yarg 6 HD 19.4.2005 E. 2005/2112 K. 2005/3863), despite being against form requirements, the allocation protocol has been signed by all joint-owners. Therefore, we still think that there is a breach of good faith principle and the Supreme Court’s decision is in line with economic reasoning.
Judicial control of standard form clauses entered into Turkish consumer protection law with an amendment dating from 6 March 2003.
Our interpretation of this clause implies that the GSM operator at least had some reasonable discretion and was not forced to fix an interest rate, which is exactly the market interest rate of the competitors. One can also agree that the principle of good faith becomes important again if the user of this clause makes an unreasonable use of his discretion.
The only way to defend this decision would be to regard it as a quasi-consumer protection case in the sense that such clauses remain unknown to the buyer before he enters into the contract; hence they are not to be taken into consideration. However, this possibility, which would legitimize the avoidance of the unexpected clause, is not offered in the decision.
In Turkish law, the injured party has a better legal position under contract law than tort law. This has four main reasons: the longer limitation period; strict liability for employees and assistants; presumption of faulty breach; and compensation of pure economic loses. First, in tortious claims the limitation period is 2 years after learning about the damage and the offender, and 10 years after the tortious act (TCO Art. 72); whereas limitation period for contractual claims is 10 years at all times (TCO Art. 146).The practical difference is that, when one relies on the rules of contract law, a claim might still be made under contract law when it has expired under tort law. Secondly, in tortious liability the employer may be released from liability by proving that he showed the due level of care in choosing, instructing and inspecting the employee (TCO Art. 66/2); whereas if the employee damages the other party to the contract, the employer has no such possibility to be released from liability by proving his due level of care (TCO Art. 116). Third, with a tortious act the injured party must prove the fault of the offender (TCO Art. 50/1); however, in breach of contract, the burden of proof is reversed, which means that the breaching party must compensate unless he/she can show that he has no fault (TCO Art. 112). Finally, in tort law pure economic losses can be recovered only if there is a protective norm, or the offender has acted intentionally and against good faith; however, if there is a contractual relationship between the offender and the injured party, such losses are always recoverable.
Own translation from Turkish: “In the disputed case, the seller (dealer of propane cylinder) has no contractual primary obligation to the plaintiff, who is a third party to the sales contract; however, the protection obligation that the debtor has to the creditor extends to the people who are closely connected to the creditor or under protection due to their close connection to the performance.” YHGK 6.5.1992 E. 1992/13-213 K. 1992/315.
In its decision dated 12 March 1997, the Assembly of Civil Chambers, which is the higher chamber of the Supreme Court, interpreted the rule prohibiting the conclusion of commercial contracts by civil servants. Unlike the 13th Chamber, the Assembly ruled that such contracts are not invalid due to prohibition in the law. According to the Assembly, the civil servant will, however, be liable due to non-performance of his contractual obligations. See Yarg HGK, 12.3.1997, E. 1996/13-850 K. 1997/186.
If one reads a Turkish monograph on civil law or the law of obligations, one will see that most of the references are made to Swiss or German books and articles.
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Schäfer, HB., Aksoy, H.C. Alive and well: the good faith principle in Turkish contract law. Eur J Law Econ 42, 73–101 (2016). https://doi.org/10.1007/s10657-015-9492-1
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DOI: https://doi.org/10.1007/s10657-015-9492-1