Law and Economics: the Comparative Law and Economics of Frustration in Contracts

Frustration of purpose is a defense to the enforcement of a contractual obligation. Legal systems generally provide this defense when an unforeseen event undermines a party’s purpose for entering into a contract. In many legal systems frustration of purpose is often treated and discussed jointly with the related doctrine of impossibility, which concerns situations where unforeseen events render impossible (practical impossibility) or far more burdensome (economical impossibility) the performance of the obligations specified in the contract. Although different in their substance, the economic analysis of the doctrines of frustration and impossibility share a common logic. In the following analysis we shall therefore treat these doctrines together. When unexpected contingencies occur during the performance of a contract, there may be a divergence between what parties have expressly agreed upon in the contract and what they have implicitly assumed was their contractual obligation in terms of assumption of risk. In other words, when there is a period of time between the conclusion of the contract and the performance of the parties, there may be a fundamental change of circumstances that makes the performance of the contract far more burdensome, or even physically impossible, for one party, or that completely frustrates the purpose of the contract for one party. The event that causes the change is, as said, unexpected or unforeseen and is not explicitly referred to in the parties’ agreement. If it were in the parties’ agreement, the general rules on breach of contract would apply. In all of these cases, the overarching question is whether the burdened party should be obligated to perform (or, if her performance has become impossible, pay damages) or whether she may be allowed to escape contractual liability by resorting to one of several “contract defenses.” Such defenses might include the rebus sic stantibus (“all the things thus standing” ) clause under which a party’s obligation under the contract is required only when conditions are the same as they were when the contract was formed.