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COVID-19: A Case of “Frustration of Contract”?

The SARS-CoV-2 virus has led to a worldwide pandemic. In order to slow down the exponential increase of infection numbers, various severe restrictions were gradually introduced in Germany. The nationwide lockdown decreed on March 22 paralyzed many areas of life and the economy. It is clear that the effects of the Corona pandemic have far-reaching economic consequences. It is equally obvious that some industries, such as the event and tourism industry, or aviation were faced with the prospect of insolvency from one day to the next due to the shutdown. Can Corona therefore justify a frustration of contract (Störung der Geschäftsgrundlage) according to German law? In Germany, a frustration of contract is given in cases in which a circumstance occurs or becomes apparent after the conclusion of the contract that makes the unchanged execution of the contract appear highly unjust. The contract can then be adapted to the new situation or even cancelled. The legal instrument “frustration of contract” could therefore potentially help to overcome the Corona crisis. In a recent article in Juristen Zeitung, Prof. Dr. Stefanie Jung, Professor of Corporate Law at the TUM Campus Heilbronn, examines the legal requirements of a fundamental frustration of contract and uses the current crisis as an example to show how the instrument might help to ease the consequences of such a crisis.

 

A New Interpretation for Systemic Crises

There are two forms of frustration of contract regulated in § 313 of the German Civil Code:

  1. Specific frustration of contract
  2. Fundamental frustration of contract

Lawyers mostly only discuss situations in which there is a problem underlying one specific contract. A frustration of a specific contract, for example, is given if a carnival fan pays for a good view from a window to watch the parade but the parade is cancelled. However, a fundamental frustration of contract may be given in case of systemic crises. If two parties conclude a contract, they assume that the fundamental political, economic and social circumstances will not change. That is the basis of the contract. If this basis no longer exists, then § 313 BGB is applicable. Therefore, a fundamental frustration of contract is assumed in case of wars and natural disasters. As Germany has not been hit by a comparable event in decades, it has not been discussed in depth how the legal requirements look like in the case of a fundamental frustration of contract. Therefore, the article proposes a novel interpretation of the specific legal requirements and based on this discusses if epidemics can lead to a fundamental frustration of contract.

 

§ 313 BGB and the Corona Crisis

First of all, it should be noted that often the direct effects of the event (natural catastrophe, epidemic) do not in themselves lead to circumstances that would suggest an application of § 313 BGB. For example, even severe flu outbreaks have not been classified as such, as the number of people who fall ill or die does not allow any clear conclusions to be drawn. Only if a large proportion of the workforce is lost due to an epidemic would this be assessed differently. Rather, the indirect effects of the event, e.g. the government measures taken and their economic consequences, can lead to a fundamental frustration of contract. Of importance for such a classification are the duration of the event and its effects, the extent to which it affects the whole nation, and the scope of its economic and social consequences. So is the Corona crisis a case of fundamental frustration of contract?

The infection and death figures due to the Corona virus alone do not justify a fundamental frustration of contract in Germany. The situation is different with regard to the government measures taken. In particular, the forced closures, the mandatory domestic quarantine, the prohibition of events and travel restrictions, i.e. the so-called lockdown, are to be assessed as extremely drastic government measures. They have had and continue to have a nationwide effect on large parts of the German economy. The considerable duration of the lockdown (more than six weeks) lead to extreme economic effects, especially due to possible chain reactions (e.g. in supply chains). The forecasts indicated early on that some sectors would be threatened to their existence after just a few weeks. Although the government was quickly counteracting this effectively with aid packages, the consequences were not fully absorbed. Therefore, at least during the lockdown the rules on fundamental frustration of contract were applicable – e.g. to permanent supply contracts. However, as most government measures have been lifted by now, this cannot be generally assumed anymore.

 

Why Frustration of Contract is a Useful Instrument in Times of Systemic Crises

The general legal consequences of § 313 BGB are adjustment and dissolution. However, adjustment takes priority over dissolution. In case of systemic crises, the priority of adjustment is particularly justified, because adjustment, in contrast to dissolution, can contribute much more to minimizing economic collapse. Adjustment allows keeping the contract alive and going back to the original terms after the crisis. .

As a result, § 313 BGB is the central norm of civil law for dealing with systemic crises. At the same time, however, one should be aware of the limitations of the provision. In the event of an acute crisis, considerable uncertainties cannot be avoided. Moreover, the regulation can only absorb the economic impact to a (very) limited extent. In situations such as the Corona crisis, flanking government measures are therefore indispensable.

 

Prof. Dr. Stefanie Jung, Professor of Corporate Law at the TUM Campus Heilbronn

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