The Unruly horse of Indian Arbitration: The evolution of Public Policy under sections 34 and 48 of the Arbitration and Conciliation Act 1996.

by Rohit Shankar

 

Introduction

‘Public policy’ has been long regarded as an abstract concept that incorporates within its ambit, considerations of legality under the prevailing laws of the nation as well as factors emerging from the sovereign rights of the nation, such as its interests in the realm of foreign policy, as well as its unique notions of justice and morality; First under common law, and later codified into statues governing contractual relationships, contracts, whose objects are in violation of the State’s public policy are regarded as void[1].

Courts have described the concept as an ‘unruly horse, which could lead anywhere’[2] as well that ‘with a good man at the saddle, the unruly horse can be tamed and jump over obstacles’[3]. Apart from a mild case of overuse of the metaphor, these rulings reflect the almost universal trend of conflicting interpretations as to the nature and scope of the concept of public policy. The choice between a broad and elastic interpretation juxtaposed with a restrictive and narrow interpretation, has been one that most jurisdictions, have struggled with and have never adequately resolved.

Arbitration has always been a means of Alternate Dispute Resolution tracing its origins, according to some authors, to the biblical judgment of Solomon[4]. Today, arbitration has become an internationally recognized method for dispute resolution with inter-state, inter-party and investor-state arbitrations being practiced in various forms both domestically in as well as internationally.

The New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards 1958, with over 150 contracting states, provides an international framework within which an arbitral award, regardless of which state the award was passed in. Among the defenses granted to a contracting state to refuse the recognition and enforcement of an award is an instance where the enforcement of the award would be contrary to the public policy of that state[5].

India’s law on arbitration emerges from the Arbitration and Conciliation Act, 1996, which mirrors the provisions of the New York Convention in allowing the refusal of recognition and enforcement of a foreign award, or the setting aside of a domestic award, on public policy considerations[6]. The position in Indian law in this regard has been consolidated through the Arbitration Amendment Act of 2015, which added explanations to the extant provisions, stipulating the scope of what might be considered the ‘public policy’ of India for the purposes of the Act.

Public Policy under common law

English courts have examined the test of public policy in the context of contracts, both to censor a contract between parties and to examine whether it must be enforced. Lord Mansfield laid down the principle that ‘no court will lend its aid to a man who founds his cause of action upon an immoral/illegal act’, thus, in effect, laying the foundations for the refusal to enforce an illegal contract.[7]

The concept of public policy, due to its inherently vague nature has lent itself to two main types of interpretations, a broad interpretation, granting Courts the power to add to its scope and a narrow or restrictive interpretation that fixes the concept to a certain stipulated number of considerations. The conflicting interpretations of the concept could also be characterized as a debate as to whether public policy was a judge-made test or one that was grounded in legislation.

In Egerton v Brownlow, the House of Lords while considering the question, sought the opinions of eleven judges. The opinion in favor of a broad interpretation was given by Justice Pollock, who postulated that even in a case without precedent where a judge had to weigh public good with the caprice of a contracting party, the judge was entitled under common law to make a determination as to the same, in favor of the public good.[8] The converse opinion, provided by Justice Parke was that judges could not create the law and could not speculate as to what could be considered good for the community.[9] The House of Lords, eventually, chose the broader interpretation of public policy, though the debate as to the conflicting interpretations continued.

Notably in the famous case of Richardson v Mellish[10], Justice Burroughs, urging a restrictive interpretation of the concept, held – “I, for one, protest, as my Lord has done, against arguing too strongly upon public policy; -it is a very unruly horse, and when once you get astride it you never know where it will carry you. It may lead you from the sound law. It is never argued at all but when other points fail.” The uncertainty faced in the application of a test of ‘public conscience’, or merely weighing the outcomes of enforcement against its refusal, was observed in Tinsley v Milligan, by the House of Lords[11].

The modern position on the concept is illustrated in a recent judgment by the Queen’s Bench in Parkingeye Ltd. v Somerfield Stores Ltd[12], where three factors were used in making a final decision; they were: –

(i)            Whether the parties had intended at the time of entering into the contract for it to have an illegal consequence.

(ii)          Whether the illegal portion of the contract was central to its execution; and

(iii)         Whether the gravity of the illegality was sufficient to render the contract unenforceable.

Thus, it may be concluded that under the English Arbitration Act 1996, when an arbitral award is refused because its enforcement would violate public policy, the Courts will use factors that are similar to those laid out in Parkingeye. Further, that the Court will seek a compromise between the conflicting interpretations of the concept of public policy under common law.

Public policy under Indian Law

The concept in general

The concept of public policy, while finding its place in numerous statues under Indian Law, such as the Indian Contract Act[13], The Transfer of Property Act[14], The Indian Penal Code[15] etc., has not been conclusively defined. The definition of the concept has arisen out of interpretations by the Indian judiciary, which, like its English counterpart, has juxtaposed a broad interpretation with a narrow interpretation. This lack of a conclusive definition has even been recognized by the Law Commission of India, in its specific recommendations aimed at providing clarity in the context of arbitrations[16].

The Supreme Court, in a matter regarding the validity of a wagering contract, expounded upon the doctrine of public policy, holding that- “for want of better words Lord Atkin describes that something done contrary to public policy is a harmful thing, but the doctrine is extended not only to harmful cases but also to harmful tendencies; this doctrine of public policy is only a branch of common law, and, just like any other branch of common law, it is governed by precedents; the principles have been crystallized under different heads and though it is permissible for Courts to expound and apply them to different situations, it should only be invoked in clear and incontestable cases of harm to the public; though the heads are not closed and though theoretically it may be permissible to evolve a new head under exceptional circumstances of a changing world, it is advisable in the interest of stability of society not to make any attempt to discover new heads in these days.”[17]

The Supreme Court’s ruling above, was founded, in addition to the common-law jurisprudence on the subject, upon an analysis of earlier rulings by various Indian High Courts on the matter.[18] In a matter concerning the withdrawal of a letter of resignation submitted by a judge, a five-judge bench of the Supreme Court, affirmed the stand that public policy was a questionable and unsafe ground for a judicial decision and was to be adopted only in instances where there was clear and undeniable harm to the public[19].

The Supreme Court has also recognized that the concept of ‘public good’, upon which the doctrine of public policy is based, is subject to variance with changing times[20]. Through this holding along with several others[21], the Court has leant toward a broader interpretation of the concept, reflecting the ongoing debate as to its scope.

Public policy in arbitrations

The concept of public policy has been a debated issue of interpretation by the Supreme Court of India in various arbitration matters before it. Given that the Indian Arbitration and Conciliation Act 1996, which allows under sections 34 and 48, for domestic awards to be set aside and foreign awards to be refused recognition and enforcement respectively, on public policy considerations, there have been several judgments on the issue.

The first pronouncement regarding the concept was in the case of Renusagar Power Co. v General Electric Co,[22] where the Supreme Court addressed a matter concerning the enforcement of a foreign award, under the Foreign Awards Act 1961 and the Indian Arbitration Act 1940. Section 7(1)(b)(ii) of the Foreign Awards Act 1961, provided that the enforcement of a foreign award could be refused if the enforcement was contrary to public policy. The arbitral tribunal in the matter had awarded interest upon interest owed by a party to the other, as well as providing compensatory damages for the same. The award was challenged on the ground that the awarding of interest on a sum that was owed by way of interest was against the public policy of India as well as the State of New York, which was the seat of the arbitration.

The Court held that the term ‘public policy’ under section 7 of the Foreign Awards Act 1961, meant exclusively the public policy of India. It further went on to hold that since the Act provided that the enforcement of a foreign award may be refused if it violates Indian law or public policy, the separation of the two grounds would indicate that there had to be more than a violation of Indian Law for there to be a contravention of public policy. The Court proceeded to lay down the scope of the public policy consideration as being restricted to: –

(i)            The Fundamental Policy of Indian Law;

(ii)          The interests of India;

(iii)         Justice and Morality.

The above narrow interpretation of public policy was however, broadened in the case of Oil and Natural Gas Corporation Ltd v SAW Pipes Ltd[23]. The Supreme Court relied upon its holdings in Muralidhar Agarwal and Central Inland Water Transport Corporation, to rule that the concept of public policy was subject to changing conceptions of ‘public good’ and that it was the duty of the Court to broaden the concept and add new heads of public policy if the situation called for it. On this basis, it was held that if the award passed by the Tribunal was patently illegal, or in direct conflict with a statutory provision, an enforcement of the award would be contrary to public policy. It thus added a new ground – that of ‘patent illegality’ – under which an award could be set aside under the public policy consideration in section 34. However, the Court stipulated that the illegality was to go to the root of the matter for the award to be termed as violating public policy.

The SAW Pipes judgement has been heavily criticized on account of its enlargement of the ambit of the term public policy. However, on an empirical examination the ruling appears to be founded on strong legal grounds. It is based on the ruling in Central Inland Water Transport Corporation, where contracts that were patently arbitrary or unfair due to unequal bargaining power was held a violation of article 14 of the Constitution of India as well as section 23 of the Contract Act. Further the ruling must be seen as having been made in exercise of the jurisdiction conferred under section 34, therefore not making it an instance of judicial intervention that is not expressly permitted under the Act.

The Supreme Court followed the SAW Pipes judgment while adjudicating the case of McDermott International v Burn Standard[24]. However, it was observed that while there were numerous criticisms regarding the correctness of the earlier judgment, its overruling was left to a larger bench.

While hearing a matter in its appellate jurisdiction concerning the enforcement of a foreign award which was being challenged as being contrary to public policy, the Supreme Court in Phulchand Exports v OOO Patriot, held that the expanded scope of the term provided under the SAW Pipes ruling would apply to Section 48. However, it examined the matter on facts and held that the enforcement of the award would not violate public policy.

The Supreme Court, in a three-judge bench, had the opportunity to revisit the position in Shri Lal Mahal Ltd v Progetto Grano Spa[25]. The Court was presiding over a matter concerning challenge to the enforcement of a foreign award under section 48 of the Arbitration and Conciliation Act 1996. It analyzed the holdings in Renusagar, Phulchand and SAW Pipes, while determining the scope of public policy for section 48. It held that the ruling in Renusagar, where another three-judge bench narrowly interpreted the concept would be applicable, while the ruling in SAW Pipes would apply exclusively to proceedings for the setting aside of domestic awards on public policy considerations. The Court further overruled the Phulchand case stating that for the purposes of enforcement of a foreign award the term public policy would consist of the three components laid down in the Renusagar case.

Another three-judge bench had the opportunity to examine the SAW Pipes judgement – with its now limited applicability – to section 34 proceedings for the setting aside of a domestic arbitral award. The Supreme Court in Oil and Natural Gas Corporation v Western Geco,[26] while examining the ambit of the term public policy, affirmed the SAW Pipes ruling and further held that the ‘fundamental policy of Indian Law’, was a concept that included three basic principles: firstly that a ‘judicial approach’ was adopted in the making of the award, secondly that the principles of natural justice were followed by the Tribunal and lastly, that the award was not so perverse and unreasonable that it offended the conscience of the Court. To test whether the award was unreasonable, the Court applied the test of reasonableness, as was famously propounded in the Wednesbury[27] case. The test laid down by Lord Justice Diplock is that a decision would be considered unreasonable if it was ‘so outrageous in its defiance of logic or accepted moral standards that no sensible person who had applied his mind to the question could have arrived at the conclusion’.

Finally, in the recent case of Associate Builders v Delhi Development Authority[28], the Supreme Court elaborated on the concept, in a matter where the appellate jurisdiction of the court was invoked under section 37 of the Arbitration and Conciliation Act 1996,in a proceeding involving the setting aside of a domestic award. The Court after analyzing its ruling in Western Geco, held that the term ‘fundamental policy of Indian law’ included in addition to: –

  1. a) Judicial approach;
  2. b) Principles of natural justice;
  3. c) Wednesbury reasonableness,

the additional requirement that the doctrine of stare decisis is followed. The Court clarified that when the award is examined in light of the above four considerations, it cannot act as a Court of Appeal and errors of fact may not be corrected.

The Court also laid down the constituent components of the terms ‘justice and morality’. The award would be contrary to the basic principles of justice if it offends the conscience of the Court to an extent where it renders the award unenforceable. The Court observed that existing rulings on the concept of morality are confined and may be expanded based on the present-day sense of prevailing morality. The Court also elaborated on the concept of ‘patent illegality’ as including the following:-

(i)            Violation of a statute, including the Arbitration Act, that goes to the root of the matter;

(ii)          Error of law by the Tribunal;

(iii)         A failure to consider prevailing trade usages or terms of the contract;

(iv)         An award without reasoning for the same being provided;

(v)          Fraud or corruption.

Post Amendment Provisions

The Arbitration Amendment Act 2015, brought various amendments to the Arbitration and Conciliation Act 1996, changing the structure of both section 34 and 48.

Section 34, which provides for the setting aside of  domestic arbitral awards, has seen two key amendments that reflect the judicial decisions on the concept of ‘public policy’:-

1)    The insertion of subsection (2A), which provides that a domestic award may be set aside on the ground of patent illegality. The proviso adds that the Court may not set aside an award merely on the ground of an erroneous application of law or a re-appreciation of evidence.

2)    The insertion of an explanation that states that an award violates public policy if it: –

(i)            Is induced by fraud or corruption or violates sections 75 or 81 of the Act or

(ii)          Is against the fundamental principles of Indian Law; or

(iii)         Is in conflict with the basic notions of justice and morality.

Section 48, which provides for the grounds on which a Court may refuse the recognition and enforcement of a foreign award has also been amended to reflect jurisprudence with the insertion of an explanation providing that the award violates public policy if it: –

(i)            Is induced by fraud or corruption or violates sections 75 or 81 of the Act or

(ii)          Is against the fundamental principles of Indian Law; or

(iii)         Is in conflict with the basic notions of justice and morality.

Significantly, the amendments only provide for the setting aside of domestic awards on the grounds of a patent illegality, while providing the same ambit of public policy for both domestic and foreign awards.

The amended Arbitration and Conciliation Act 1996, incorporates the various rulings of the Supreme Court regarding the concept of public policy and draws from the recommendations of the Law Commission of India, suggesting that the Act clearly lay down the scope of the term to encourage the arbitral process in India[29].

Conclusion

The concept of ‘public policy’ has been used to test various aspects of legal relationships between persons, both natural and juristic. The reason is that the judiciary, being an essential part of the State, has the task of safeguarding the interests of the general populace against a dilution of its rights through the contractual relations of private parties. In its essence, it recognizes the unequal nature of the bargaining power that exists in most contracts as well as the fact that the sanctity of a contract may be a veil for a subversion of rights in rem. The need for the doctrine has never been felt stronger than in today’s age of standard form contracts and arbitrations where the judiciary has minimal supervisory powers.

While there is a need for a developed and broad version of the concept of public policy in the realm of contractual relationships, the same may not be extended to the laws governing arbitrations. The process of arbitration is a method of alternate dispute resolution that has become increasingly popular in the settlement of commercial disputes. The process of arbitration hinges on the guarantee of minimal interference by the judiciary. Thus, to further the object of arbitration and to increase its instances in the country, it is important that not only is the concept of public policy interpreted in a restrictive sense, but that it has clearly defined parameters, whose ambiguities do not lend them to conflicting interpretations. The recent amendments to the Arbitration and Conciliation Act 1996, are clearly in furtherance of this pro-arbitration stance and it is hoped that they will bear fruit in the years to come.

 

[1] Section 23, Indian Contract Act 1872;

[2] Richardson v Mellish; (1824) 2 Bing 229.

[3] Enderby Town Football Club v The Football Association; [1971] Ch 591.

[4] Frank. D Emerson; History of Arbitration Practice and Law; 19 Cleveland State Law Review; 155 (1970).

[5] Article V (2) (b), New York Convention 1958.

[6] Sections 48 and 34 respectively, Arbitration and Conciliation Act 1996.

[7] Holman v Johnson; [1775] 130 E.R 294

[8] [1854] 4 H.L.C at 151.

[9] Ibid at 124.

[10] (1824) 2 Bing 229, 252

[11] [1994] 1 AC 340

[12] [2013] Q.B 840 [Hereinafter referred to as ‘ParkingEye’]

[13] Section 23, Indian Contract Act 1872.

[14] Section 25, The Transfer of Property Act 1882.

[15] Section 171B, 171C, Indian Penal Code 1860.

[16] Para 7.1; Supplementary to Report No 246, dated February 2015.

[17] Gherulal Parakh v Mahadeo Das; AIR (1959) SC 781 at para 58.

[18] Srinivas Das v Ram Chandra; ILR (1920) 44 Bom. 6; Gopi Tihadi v Gokhei Panda; ILR (1953) Cuttack 558.

[19] Union of India v Shri Gopal Chandra Misra; 1978 SCR (3) 12.

[20] Central Inland Water Transport Corporation Ltd. v Brojo Nath Ganguly; AIR 1986 SC 1571 [Hereinafter referred to as ‘Central Inland Water Transport Corporation’].

[21] Muralidhar Agarwal v State of U.P; [1975] 1 SCR 575 [Hereinafter referred to as ‘Muralidhar Agarwal’].

[22] AIR 1994 SC 860

[23] (2003) 5 SCC 705 [Hereinafter referred to as ‘Saw Pipes’].

[24] [2006] Supp. (2) SCR 409.

[25] (2014) 2 SCC 433.

[26] AIR 2015 SC 363 [Hereinafter referred to as ‘Western Geco’].

[27] Associated Provincial Picture Houses Ltd. v Wednesbury Corp.; [1948] 1 KB 223.

[28] 2014 (4) ArbLR 307 (SC).

[29] Supra at 14.

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