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Part F Cross-Border Issues, 48 Customer Obligations and Foreign Law

From: The Law and Practice of International Banking (2nd Edition)

Charles Proctor

Content type:
Book content
Product:
Financial Law [FBL]
Published in print:
01 March 2015
ISBN:
9780199685585

From: Oxford Legal Research Library (http://olrl.ouplaw.com). (c) Oxford University Press, 2023. All Rights Reserved. Subscriber: null; date: 06 June 2023

Subject(s):
Regulation of banks — Debt

(p. 825) 48  Customer Obligations and Foreign Law

Introduction

48.01  The foregoing chapters have considered a variety of private international law issues which may affect the banker–customer relationship or the obligation of the bank to repay deposits.

48.02  By way of further refinement, the present chapter will examine the effect of foreign law on the obligations of the customer to the bank in respect of any facilities extended to it. Laws which may become relevant in this context will again frequently take the form of moratoria or exchange controls.

48.03  The subject is addressed because, of course, the enforceability of obligations owed by customers is a matter of considerable and obvious importance to English banks. However, the subject matter can be considered relatively briefly because much of the private international groundwork has been laid in the preceding chapters. It will be assumed throughout that the arrangements between the bank and the customer will be governed by English law.1

48.04  Why are these issues important? Exchange controls and similar laws will be of mandatory application in the country concerned, and the borrower will have no choice but to comply with them. It may therefore be impossible for the borrower to instruct its bank to make the necessary payments. It is thus fairly important not to lose sight of this very important practical constraint. It nevertheless remains important to know whether the English courts will continue to regard the debt obligation as valid, because:

  1. (a)  The borrower may have given security over assets in England. Can that security still be enforced even though, according to a foreign moratorium law, the underlying debt is not yet due?

  2. (p. 826) (b)  Likewise, can the bank exercise a right of set-off over deposits held at the London branch, notwithstanding the moratorium on the payment of the borrower’s debts?

  3. (c)  Can guarantees given by entities established in other countries still be enforced?

  4. (d)  What will be the impact of foreign exchange controls so far as the English courts are concerned?

48.05  Against that background, the present chapter considers the following matters:

  1. (a)  moratoria,

  2. (b)  exchange controls; and

  3. (c)  conclusions.

Moratoria

48.06  Occasionally, a State will announce a unilateral moratorium on its foreign debt obligations. This will usually occur in times of serious balance of payments difficulties and will be achieved by legislation or official order, decree, or similar ruling.2 Obviously, the measures will form a part of the body of law of the State concerned, and would be given effect by its courts in the event of local proceedings.

48.07  In view of the principles discussed earlier in this section, it hardly needs to be stated that such a moratorium cannot vary or discharge an obligation governed by English law.3 As a result, the English courts would continue to enforce such an obligation according to its original terms.4

48.08  The English courts will accordingly treat the debt as due in compliance with the original contractual terms. Assuming that the loan has become due, then:

  1. (a)  the bank will be able to exercise any right of set-off in respect of deposits held by it from the borrower; and

  2. (b)  the bank may also enforce any security which it may hold over real estate or other assets situate in this country, or any guarantee given by other companies.

48.09  The imposition of the local moratorium will clearly be a significant impediment in obtaining access to the ‘home State’ assets of the borrower, but it should be possible to obtain an English judgment and to enforce it against assets situate in this country and (possibly) elsewhere.

Exchange Controls

48.10  It may occasionally be the case that the State in which a borrower is resident will impose exchange controls. This will usually require the borrower to obtain official approval in order (p. 827) to make the necessary payment to the lender and/or to purchase the necessary currency at an official (and less favourable) rate. These requirements may apply at the point of time at which the facility is contracted. In such a case, the bank will usually require the borrower to obtain the necessary approvals before the loan is advanced. Nevertheless, the point may occasionally be overlooked. Alternatively, there may be no exchange controls in force as at the date of the loan agreement, but they may be imposed at a later date—usually in response to an emergency or financial crisis. It is necessary to consider both possible scenarios. For the purposes of the present discussion, it is assumed that the loan agreement is governed by English law.

Initial Illegality

48.11  What is the position if the bank and its borrower have entered into a loan agreement without obtaining any necessary exchange control approval under the laws of the borrower’s home State?

48.12  The starting point is the general principle that the validity and enforceability of a contract is determined by the law applicable to it.5 Consequently, where the agreement is governed by English law, its enforceability before the English courts is in principle unaffected. There are, however, two possible reservations to that straightforward position.

48.13  First of all, the general principle just stated is modified, in the sense that the English courts may give effect to certain provisions of a foreign system of law in determining whether a contract should be enforced. Specifically, Article 9(3) of Rome I provides that:6

Effect may be given to the overriding mandatory provisions of the law of the country where the obligations arising out of the contract have to be or have been performed, in so far as those overriding mandatory provisions render the performance of the contract unlawful. In considering whether to give effect to those provisions, regard shall be had to their nature and purpose and the consequences of their application or non-application.

The expression ‘overriding mandatory provisions’ is defined by Article 9(2) which states that this refers to rules ‘the respect for which is regarded as crucial by a country for safeguarding its public interests, such as its political, social or economic organization to such an extent that they are applicable to any situation falling within their scope, irrespective of the law otherwise applicable to the contract’.

48.14  For a country that imposes a system of exchange controls, the relevant regulations will clearly form a key plank of its ‘economic organization’, with the result that those regulations will amount to ‘overriding mandatory provisions’ for the purposes of Article 9(2).

48.15  On the face of it, therefore, a bank that makes a loan or overdraft facilities available to a borrower that does not obtain any necessary exchange control approvals could face obstacles in obtaining a judgment in England, on the basis that enforcement could be foreclosed by Article 9(2). In reality, however, this should not prove to be an obstacle because the borrower’s country will not usually be the place of performance of the payment obligations (p. 828) concerned. Whilst the borrower may have to initiate the payment from its home office, the place of payment is the place in which payment is actually received by the creditor, such that the payment becomes complete. The place of payment is therefore the country in which the creditor bank is located.7 Subject to the other matters discussed below, it follows that a contravention of exchange control regulations in the borrower’s home jurisdiction should not prevent the bank from obtaining judgment in England. The substance of the obligation remains enforceable under English law as the law applicable to the contract,8 and the considerations of foreign law will not affect that conclusion. In practice, however, banks will generally wish to ensure that borrowers do obtain any necessary exchange control approvals since it may wish to take enforcement proceedings in the borrower’s home State and/or against assets located there.

Article VIII(2)(b)

48.16  The second reservation relates to Article VIII(2)(b) of the Articles of Agreement of the International Monetary Fund. The relevant part of that Article reads:

Exchange contracts which involve the currency of any member and which are contrary to the exchange control regulations of that member maintained and imposed consistently with this Agreement shall be unenforceable in the territories of any member.

48.17  It is fair to say that this short provision has generated significant discussion and its precise scope remains open to debate. The provision has effect in the United Kingdom by virtue of the Bretton Woods Agreement Order.9

48.18  It has been argued with some force that the expression ‘exchange contract’ should be taken to refer to any contract that has an impact on the economic resources of the country imposing the controls.10 This broad approach may be said to be in line with the policy of Article VIII(2)(b). However, the English courts have sought to narrow the scope of Article VIII(2)(b), apparently with a view to preventing its use in unmeritorious cases. They have therefore defined ‘exchange contract’ to mean agreements for the exchange of one currency for another.11 The application of this test will depend upon the substance, rather than the form, of the transaction. Thus, where a letter of credit was in part intended to pay the purchase price of goods but in part intended to provide the buyer with a US dollar deposit in contravention of Peruvian exchange controls, the first aspect of the credit was enforceable, whilst the second was not.12 It follows that (p. 829) a straightforward loan between a bank and a borrower in an affected country should remain enforceable before the English courts because the agreement is not an ‘exchange contract’ for Article VIII (2)(b) purposes. However, enforcement of foreign exchange or similar facilities may remain subject to that provision.

48.19  As a secondary matter, can the borrower assert that the English law contract has been frustrated or otherwise terminated as a result of the supervening legislation, which has the effect of significantly increasing its cost of funding the necessary foreign currency payments? This question must be answered in the negative, because:

  1. (a)  increased expense is not of itself a ground on which a contract may be said to be frustrated;13

  2. (b)  a borrower must be held to be absolutely responsible for his own solvency and the unexpected difficulty in acquiring or accessing funds cannot preclude the creditor from obtaining judgment;14 and

  3. (c)  courts in the United States have rightly held that official action which results in a deteriorating exchange rate position does not afford a defence to a creditor’s claim.15

Conclusions

48.20  It appears safe to conclude that, in general terms, the imposition of a moratorium or the introduction of exchange controls in a foreign borrower’s home jurisdiction will not adversely affect the validity of any payment or other obligations which may be governed by English law.

48.21  So far as the English courts are concerned, both the loan agreement itself and any security or guarantee given in respect of that agreement would thus remain enforceable in accordance with the terms of the original documentation. As a result, the main consequences of such legislation are the difficulties of pursuing the borrower for payment within its jurisdiction of incorporation. However, such measures should not in principle affect any attempts at enforcement against assets which are located in another country.(p. 830)

Footnotes:

1  This will almost invariably be the case either because (i) the facility agreement will contain an express choice of English law or (ii) English law otherwise applies to the relationship for the reasons given in Chapter 41 above.

2  See, for example, the Philippine legislation at issue in the Wells Fargo litigation, discussed at para 46.29 above.

3  Article 12(1)(a) of Rome I, considered at para 41.12(c) above.

4  For cases in which the English courts refused to give effect to a foreign moratorium, see National Bank of Greece and Athens SA v Metliss [1961] AC 255 (HL) and Adams v National Bank of Greece SA [1961] AC 255 (HL). These cases have already been noted at para 46.28 above.

5  Arts 10 and 12, Rome I.

6  It may be noted that this provision bears some similarity to the principle that the English courts will not enforce a contract where performance is illegal in the country in which performance is required to occur. The rule is generally founded on the decision in Ralli Bros v Compania Naviera Sota y Anzar [1920] 2 KB 287 (CA).

7  See, for example, Kleinwort Sons & Co v Ungarische Baumwolle Industrie AG [1939] 2 KB 678 (CA) and Libyan Arab Foreign Bank v Bankers Trust Co [1989] QB 528. See also the discussion in Mann, para 16.22. In many cases, the payment will actually have to be settled across accounts in the principal financial centre of the currency concerned. However, that location does not, in consequence, become the place of payment: see the discussion at paras 45.31–45.37 above, noting the decisions in Libyan Arab Foreign Bank v Bankers Trust Co [1989] QB 728 and Citibank, NA v Wells Fargo Asia Ltd 495 US 660 (1990). There is, therefore, a distinction between the place of payment and the place of settlement of a monetary obligation.

8  ie in accordance with Art 12, Rome I. It may be noted in passing that courts in the United States have tended to hold that matters touching the repayment of a bank deposit, or of a loan owing to a bank, are governed by the law of the situs of the deposit or obligation, as opposed to the law that governs the contract as a whole: see Callejo v Bancomer SA 764 F 2d 1101 (5th Cir, 1985) and contrast Allied Bank International v Banco Credito Agricola de Cartago 757 F 2d 516 (2nd Cir), cert den, 473 US 934 (1985). The point will only be material where the situs of the obligation differs from the law which governs it.

9  SR&O 1946, No 36. For an in-depth discussion of Art VIII(2)(b), see Mann, ch 15.

10  See, in particular, Sharif v Azad [1967] 1 QB 605 (CA).

11  See, for example, Wilson Smithett & Cope Ltd v Terruzzi [1976] 1 QB 683.

12  United City Merchants (Investments) Ltd v Royal Bank of Canada [1983] 1 AC 168 (HL).

13  The most frequently cited authority for this proposition is Davis Contractors Ltd v Fareham UDC [1956] AC 696 (HL).

14  Universal Corporation v Five Ways Properties Ltd [1979] 1 All ER 552 (CA), where a change in Nigerian exchange control regulations caused difficulty for the buyer of a property in completing the purchase when due, because monies held within that country had been its sole source of funding for the transaction. Although the Court of Appeal reversed the first instance judgment on other grounds, it approved the judge’s statement that ‘quite emphatically, the doctrine of frustration cannot be brought into play merely because the purchaser finds, for whatever reason, that he has not got the money to complete the contract…’.

15  Bank of America NT &SA v Envases Venezolanos 740 F Supp 260 (1990) aff’d 923 F 2d 843 (1990).