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Price inflation in international trade puts performing parties under real pressure when contract prices are fixed. A party providing products while prices rise may raise a defense of impracticability. However, what do you do when the parties fixed the contract price before inflation? What if a purchase order already locked in the price of the goods? Below, we analyze two clauses that parties often overlook and that can solve this particular issue.
1. An Escalator Clause for Price Inflation in International Trade
An escalator clause provides that if the price of the goods changes, you have the right to amend the contract price based on changes in the market. See Ass’n of Golden Glades Condo. Club, Inc. v. Sec. Mgmt. Corp., 557 So. 2d 1350 (Fla. 1990). However, the clause’s wording controls its reach. For example, if a contract has steel as its subject matter, the clause may cover “steel” as the only raw material for which the contract permits a price amendment. See Id.
Escalator clauses are great against rising prices if they are broad enough to encompass all sorts of raw materials. This is especially true for construction contracts. However, when dealing with customs for import of the goods, it tends to be difficult for customs to determine the duty on the merchandise.
In fact, in United States v. Ford Motor Co., the Court ruled that the duties owed on merchandise are in part a function of the value of that merchandise. The proper assessment of duties, therefore, depends on the proper assessment of the merchandise’s final entry value. A declared value that is non-final is one upon which Customs cannot “properly assess duties.” A contract provision that renders the declared value non-final therefore constitutes “information … necessary to enable” Customs to assess such duties. As a result, the importer must disclose it under § 1484. United States v. Ford Motor Co., 463 F.3d 1267, 1275 (Fed. Cir. 2006). Thus, an escalator clause can be useful against price inflation in international trade, but customs problems can arise when duties are owed, and potential litigation can occur.
2. The International Chamber of Commerce Force Majeure and Hardship Clauses
The ICC Force Majeure and Hardship Clauses balance business people’s legitimate expectations of performance with the reality that circumstances change. Sometimes performance becomes so hard that the contracts simply must change. Moreover, this clause protects international transactions involving trade, including deals strained by inflation.
How does this help against inflation? Under the ICC, “Force Majeure” means the occurrence of an event or circumstance (“Force Majeure Event”) that prevents or impedes a party from performing one or more of its contractual obligations under the contract, if and to the extent that the party affected by the impediment (“the Affected Party”) proves:
- a) that such impediment is beyond its reasonable control; and
- b) that it could not reasonably have been foreseen at the time of the conclusion of the contract; and
- c) that the effects of the impediment could not reasonably have been avoided or overcome by the Affected Party.
How Tribunals Weigh Inflation and Force Majeure
This definition gives a lower threshold of protection than a general force majeure clause that lists unforeseen events. It favors the party performing the contract in international trade. That protection matters when inflation makes performance costly. In fact, in Cessna Finance Corporation v Gulf Jet LLC (Final Award), ICC Case 18769 of 2014, the Tribunal ruled that economic hardship for the lease of the Gulf Jet aircraft was not an excuse under the governing law (“Kansas law”). The agreement had expressly excluded force majeure.
On the other hand, in Global Tungsten & Powder Corp v Largo Resources Ltd., the Tribunal ruled that the drought at the time was a force majeure. The drought prevented the tungsten from concentrating and thus tremendously increased the cost of producing the goods. However, drought was a common occurrence in the supplier’s region. Consequently, the Tribunal noted that the supplier had a duty to install a better water supply system. It also noted that the seller had a duty to use “commercially reasonable maximum efforts.” The Tribunal therefore ordered the supplier to pay the loss of the deliveries only during the period of the drought.
Therefore, the party invoking force majeure in international arbitration bears the burden of proving that no other alternatives could mitigate the issue at stake. In addition, the performing party must not have created the situation itself. For example, a party may delay the delivery of goods until an event such as Covid hits and price inflation occurs. In that case, Courts and Tribunals may refuse to excuse the performing party due to its recklessness or negligence. Therefore, Courts and Tribunals will rule on a case-by-case basis.
Conclusion
Based on these two potential clauses, parties facing price inflation in international trade should look closely at what fits their particular situation. Every Tribunal, Country, State, or Region has a different definition of “force majeure”. However, for parties focused on international trade and cross-border disputes, the ICC Force Majeure Clause offers a uniform definition. As a result, many parties view it as fair because it lacks potential bias toward any jurisdiction.
If rising prices have made a fixed-price contract difficult to perform, the clauses in your agreement will shape the outcome. Contact our team to discuss escalator, force majeure, and hardship options for your cross-border contracts.
Further reference: the UNCITRAL legal texts govern much of cross-border commercial law.
