In this blog post, Yashika Joshi, who is currently pursuing a Diploma in Entrepreneurship Administration and Business Laws from NUJS, Kolkata, writes about the choice of law in international arbitration agreements.

International arbitration is an increasingly important part of the complex cross-border transactions. It is a great advantage over litigation. Not only is litigation expensive and time-consuming, but it tends to destroy business relationships. Developing a dispute resolution agreement at the beginning of any transaction acknowledges the disputes that may arise in future. A proper agreement called the international arbitration agreement can be drafted stating all the clauses that the parties wish to decide in anticipation of future disputes. Effective and fair procedures can be drafted for dispute resolution when the relationship is unaffected by disputes, rather than if you wait until a dispute arises and disturbs the smooth relationship. There are various forms of dispute resolution, one of them being arbitration. When an agreement is put forth between cross-border parties, such an agreement is called international arbitration agreement.

Features of international arbitration:

Flexibility

In arbitration, parties have enormous flexibility to tailor the procedure to suit their particular contract and needs.

Final and binding

International arbitral awards are final and binding. Alternative dispute resolution procedures such as mediation and conciliation are consensual and will not result in a resolution of the dispute unless the parties agree on an outcome. Litigation produces a binding determination, but may be subject to appeal. International arbitration awards, on the other hand, are not subject to appeal.

Enforceability

In international litigation, parties must resolve their dispute in the national courts of one of the parties. If the unsuccessful party has no assets in that country, the successful party might need to enforce the judgment in another country. This will depend on the existence of enforcement provisions in that country and can be expensive, time-consuming and sometimes ineffective. In contrast, a simple procedure for enforcing arbitration awards internationally is provided by the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (New York Convention) which is in force in some 145 countries.

Neutrality

Neutrality of the forum is an important difference between international arbitration and international litigation. Although judges in litigation are expected to be impartial and are thus neutral in that sense, the reference to neutrality in the context of international disputes concerns the nationality of the decision maker.

In international litigation, the judge is likely to have the same nationality as one of the parties. The mere perception that the judge shares an important characteristic, nationality, with one of the parties may of itself be enough to cause concern to the other party. In international arbitration sole arbitrators will almost invariably be of a different nationality to the parties. Where the tribunal consists of three arbitrators the chairperson of the tribunal will be a person from a third party.

Further, in the international arena, the prospect of prosecuting or defending a case through a foreign court system, using unfamiliar laws and procedures before a judge of the same nationality as the opponent, is perceived as a major disadvantage. International arbitration allows a neutral, agreed or known procedure and a decision of a national neutral arbitrator.

Confidentiality

Both the procedure and outcome of an international arbitration are private and confidential. The court proceeding is usually public.

Speed and costs

Arbitral proceedings can be commenced, and the dispute resolved, faster than litigation if an appropriate procedure is used. In arbitration, in contrast to litigation, the parties have to pay the fees and expenses of the decision makers. However, arbitration is as cost efficient as the parties allow it to be. By designing and managing the procedure effectively, the cost can be managed. This allows and encourages the parties and the tribunal to focus on the key issues at an early stage, and can avoid the process taking precedence over the real issues in dispute, a common perception. Further, it is becoming increasingly common for the successful party to be awarded all or part of its costs of the arbitration, without having to resort to a cumbersome taxation process which is common in some states.

Arbitration in international context involves numerous difficulties, one of the most troublesome of which is the choice of substantive law to be applied to a given dispute. The substantive law of the arbitration may be specified in their original agreement. In general, parties to an agreement containing an arbitration clause have virtually complete autonomy in selecting the substantive governing law; almost any choice of substantive law by the parties is enforceable, so long as the arbitral award itself is enforceable. If there is the absence of express or implied choice by the parties, the governing law may be chosen by the arbitrator. Although parties frequently specify the law of a particular jurisdiction as the background law governing the merits of any dispute, they often supplement such a choice, or avoid it altogether, by referring to Lex mercatoria, customs of the trade, or general principles of law. Of these three substantive schemes, the last is especially vague because of its broad scope and lack of explication in the literature. Particularly because there is no delineated set of general principles, the results become unpredictable, and parties to the agreement have little ground on which to base their expectations. Moreover, because general principles of law are an especially popular choice of substantive law when sovereign governments are involved in the agreement, and because such agreements are likely to proliferate as developing nations make a long term economic development contract with companies from industrial nations, the application of this term will become an even more important issue.

When the parties clearly specify the substantive law of a particular jurisdiction, there are little chances for the application of general principles of law. Nor would there be much justification for the imposition of such principles, as the agreement by the parties on an explicit, developed national law exhibits a common understanding of or familiarity with such law, as well as intentions.

In many cases, the parties simply are unable to agree on a particular national or non-national law and are willing to put off any conflict over the applicable law until the need arises. Arbitrators in such situations have more discretion than in any other case, as they may apply any substantive law that their arbitral rules and other procedural provisions allow. Traditionally, scholars believed that the arbitrator was bound to apply the conflict-of-laws system where the arbitral tribunal had its seat, but recently this view has been challenged; instead, arbitral tribunals now frequently apply the conflict-of-laws system they view most appropriate.

Alternatively, arbitrators may apply a variety of other conflict-of-laws standards that have only an indirect foundation in national law. The least significant departure from a national conflict-of-laws system is the cumulative application of the conflict-of-laws systems connected with the dispute. A more substantial departure is the application of the conflict-of-laws system the arbitrator views as most appropriate and most responsive to international commerce. A third, still greater departure is the application of a basic conflict-of-laws rule derived from a comparison of competing systems. The last step before attaining a fully denationalized arbitral procedure is the application of a national substantive law without reference to any conflict-of-laws system.

Finally, in the absence of any choice of Substantive law by the parties, an arbitrator in some cases may apply a fully non-national standard such as Lex mercatoria, standard usages, or general principles of law. In general, two elements in a contract might permit the application of such a non-national standard. First, the existence of an arbitration clause in an international transaction, together with the international character of the dispute and the reasons that parties choose arbitration to resolve disputes, although not sufficient to ensure the exclusive use of a non-national law to govern the agreement, provide a basis for the use, albeit non-exclusive, of non-national law in arbitrating the dispute. Second, when considering disputes over economic development agreements, particularly those containing stabilization clauses that limit a sovereign’s capacity to alter the rights of the private party, arbitrators invoke a non-national standard to assess the validity of the stabilization clause to protect the private party’s rights.

When the arbitrator is free to choose and interpret any such non-national law, the arbitrator’s inquiry must begin with the discovery and derivation of the general principles of law. Because there is no clearly delineated set of general principles, it is uncertain at the time of contracting what general principles will govern disputes arising under the agreement. Herein lies the greatest -weakness of the use of the non-national law: it creates uncertainty in arbitral decision-making, with the ultimate result that parties to such agreements are unable to predict the legality of their actions before arbitration confidently. Here, too, lies the strongest argument for developing a coherent set of principles based on published arbitral awards. Delineating the non-national law of international arbitration would capture the advantages of neutrality and fairness that are the fundamental aim of non-national standards, and at the same time reduce the uncertainty that results from the process of deriving the general principles in each arbitration.