How Management Can Resolve Banking and Insurance Disputes through International Business Arbitration?
Management decisions play a critical role in choosing a dispute resolution method. It is the management which decides to choose arbitration or litigation, a decision which will determine the course of the proceedings, incurring costs and the final outcome.
Banking systems traditionally declined to refer to arbitration, an attitude which can be attributed to fears of abnormal arbitral awards or the separation of arbitration disputes. That is why they have often preferred litigation over arbitration.
The arbitration for some banking transactions, especially those related to LCs and contracts, is gradually gaining credence. In order to reduce costs and prevent delays, the parties in U.S. agree to refer their disputes to arbitration in contracts for consumer loans and securities brokerage agreements
It seems that banking and the financial sector can use “international arbitration” for resolving its disputes, because of its impartial tribunal and the existence of a multilateral network to enforce arbitration rule when a debtor has assets and capital. However, there are some disagreements in this regard and not all investors and bankers approve the application of the arbitration clause in this domain. Although the old tendency for arbitration (which has been a normal procedure for banks and financial institutions for many years) has now changed. A significant amount of international bank disputes are being dealt in the courts.
The use of arbitration as a dispute resolution process has been challenged. One of the most important factors adversely affecting the use of arbitration versus litigation concerns the lack of judicial precedent in arbitration.
But there is no acceptable approach among scholars on whether an arbitration can create a precedence or not. Some argue that due to the confidential nature of the arbitration, the concept of precedence (repetition of a decision already taken on a similar subject) cannot be used for arbitration. On the other hand, some scholars say that some arbitrators occasionally adhere to and rely on their fellow colleagues in an attempt to enhance the reliability of the arbitral award. As a result of this uncertainty and the assumption of the lack of a binding precedence for arbitrators, judges interested in business were chosen as members of panel of arbitrators in banking and finance disputes, and the parties to an agreement preferred litigation over arbitration.
Another controversial issue that may cause the parties to an agreement hesitate to arbitrate their dispute concerns the possibility of substantive verdict, an issue which cannot be used in arbitration. The ability of the courts to issue a substantive verdict was useful for bankers. For example, in a simple bank debt, the bank prefers a substantive procedure over any other complex and time-consuming procedure.
But it has been argued that the issuance of a substantive verdict is not entirely unprecedented in arbitration proceedings, and the claim that there is no substantive verdict in arbitration is false. Because of the mutual agreement in the arbitration, the parties can have a quick process similar to the substantive proceedings in the courts.
Based on a report on lawyer’s views on financial arbitration and financial projects, there have been positive and negative views among bankers and financiers about the existence of an arbitration clause in financial contracts. Some supported arbitration to avoid domestic courts. In the same report, bankers were less reluctant to file an arbitration clause in their contracts due to multiple factors in the majority of financial contracts and the difficulty of multilateral arbitration proceedings. There is an attitude among the bankers who assume it is their inalienable right to get back the loans they have offered, that is why they feel no need for any judicial system or arbitral tribunal.
The international binding of arbitral awards is regarded as its most prominent advantage. It is worth mentioning that implementation of arbitral awards even by the signatories of New York Convention may be challenging. For example, in India and Saudi Arabia, it has been reported that the implementation of arbitral awards has been problematic. In India, foreign arbitral awards should be “registered” in order to become enforceable. So far, no foreign arbitral award has been enforced in Saudi Arabia. Considering the fact that both of these countries have joined the New York Convention and are considered as a member state, it can be concluded that the subject matter of the enforceability cannot always be considered as an advantage of the arbitration procedure. While the satisfaction of foreign court verdicts in the jurisdiction of that court or other jurisdictions is no longer possible, the parties to the contract for international transactions still adhere to this distinctive character and prefer to take the risk in an attempt to enforce an arbitral award issued by a foreign court. But which one needs to be implemented in a foreign jurisdiction?
Despite being aware of the difficulties encountered in the implementation of arbitral awards in some signatory countries, banks do not deprive themselves of its privilege and they consider it as a mechanism that can substantially reduce the risk of execution. As risk management is an integral part of international contracts, any action that can reduce the severity of this risk should be considered to protect the success of the original contract. However, although there are undeniable advantages in the application of arbitration in international transactions, including banking and financial transactions, there is also credible evidence that the general public prefers the valid verdicts issued by the courts.
One of the factors that may drive away the parties from arbitration concerns the limited competence of the arbitrators. Since arbitration is a process of mutual consent, the parties agree on the extent of arbitration jurisdiction and the factors involved in the arbitration process. This issue is regarded as a general disadvantage of arbitration. It is argued that the arbitrators’ decision-making power is much less than that exercised by judges of a court. This may be one of the reasons why bankers are reluctant to refer their disputes to arbitration. Finally, parties to an agreement seek a definitive solution to their differences, a goal which cannot be fulfilled with the limited powers of the Arbitral Tribunal.
In fact, judicial systems may sometimes seem to force arbitration on the parties. To avoid legal cases, it appears that adding a mandatory arbitration clause in some financial and banking areas has become a common practice in the United States. In particular, a mandatory arbitration clause is included in credit card agreements, debt certificates and some other loan agreements in this country. Since bank customers did not like this banking mechanism, some organizations were established to terminate or control the so-called compulsory arbitration and provide an optional way to protect customers in banking and finance sectors.
Compulsory arbitration clauses of these agreements may appear unfair and harmful for one party (customers of the bank). Since arbitration is a confidential and private act – which is carried out behind the closed doors – it is difficult to understand its illegality. This may be the case when a customer is an ordinary citizen, who has no alternative in agreeing to arbitration in the first place, and the other party is a large company, for example, a bank with full legal authority. Therefore, one may be forced to make a distinction between compulsory arbitration and optional arbitration clauses.
As a result of developments in the nature and scope of banking and financial transactions, there is a need to examine the dispute resolution mechanism in these areas. The use of international arbitration in the financial and banking sectors has turned into a controversial issue. The first argument concerns the contractual nature of loan contracts. The debtor’s failure to repay the creditor’s loan constitutes one of the most common reasons for disputes, which is equal to the violation of the contract by one party (the borrower). On the other hand, the creditor or the other party is entitled to get compensation for any damage recorded in the contract with the debtor. Obviously, these types of cases do not contain sophisticated technical issues, and only involve issues of non-payment. It has been argued that international loan contracts can be resolved more quickly by judges than by arbitrators because these lawsuits relate to complex judicial cases not to precedents. The issue of non-payment of the borrower is a simple case which does not include controversial punitive cases. The claimant in such cases (the creditor) usually requires the court to order the debtor to pay. It is said that the title “lawsuit” does not apply to such cases, so there is no need to resolve the dispute.
The banks point to the simplicity of claims arising from loan agreement as one main reason for their disinterest in arbitration, they argue that financial disputes are a straightforward monetary issue and involve no legal complexity. It should be reminded that this argument proposed by bankers against arbitration may be too simplistic. Disputes arising from loan agreements are not always easy-to-handle cases and issues such as matching the titles to terminate letters of credit, covenant in law etc. may emerge.
In addition to non-payment, there are other conflicts in loan contracts that include factors involving the jurisdiction of multiple courts and cases of invalidity. In such circumstances, banks need to understand how they can win in these cross-border disputes. Indeed, despite the fact that banks prefer litigation for simple cases, there has been a significant shift towards arbitration in relation to complex and costly national and international disputes. The credible argument is that in cases of simple non-payment, when the borrower does not pay off his debt, there is no need for high-level arbitration. However, if the case contains any other issues, such as a bank’s failure to exercise due diligence, or the claim that the bank has been too lenient or too strict, the court proceeding will no longer be an easy issue. Unpredictable cases may turn out, and in some cases, verdicts have been issued against the creditor.
Another argument in favor of arbitration over litigation concerns the high quality of the arbitral tribunal, which is said to enjoy the service of qualified arbitrators. This issue is dubious and is not always correct. The fact that the parties have been authorized to choose their desired arbitration process and the fact that there is no requirement for the arbitrator means that the parties have complete freedom to select the arbitrators. One reason for the popularity of litigation among British bankers concerns the existence of precedence in the legal system of Britain and countries exercising Common-law.
Considering the large volume of lawsuits dealt with by courts in England and New York (both of which are among the most desirable courts in bank litigation), judges face some formal principles of prior verdicts. The fact that there are constant laws in this area, together with a convincing record in this field, can make it easier to judge because they can follow previous and existing laws in that industry. But this may make it difficult for judges to change the current rules as any changes to the statutory rules in this domain may not be welcomed by some creditors.
Concerning the advantages or disadvantages of arbitration over litigation, the existence of a legal precedence in banking laws is considered as one of the reasons why bankers have preferred litigation over arbitration even in multinational conflicts. But in some areas of financing such as derivatives, court decisions have been contradictory and resulted in a shift from litigation to arbitration. Specifically, in the proceedings of the bankruptcy proceedings of the Brothers of Lehman, the New York and London Courts issued two contradictory verdicts regarding the entry into force of Section 2 (a) of the Comprehensive Agreement of the International Association of Swaps and Derivatives. The UK court, the appeal court, believed that this section was actually applicable to the Lomas vs Firth Rixon case. But the Southern New York Bankruptcy Court ruled out the possibility of enforceability in the case. There was no obvious answer to the question of whether arbitration could provide a solution to this problem or not. It was unlikely that an arbitral tribunal composed of in some cases, 3 or 5 independent experts coming from different judicial backgrounds would be influenced by the various national courts’ verdicts. So, international arbitration could be a good alternative for national courts.
Confidentiality of arbitration may be desirable for financial institutions and banks as it protects the reputation of banks. This remarkable feature of conducting a private and confidential dispute resolution process can be very suitable for financial institutions, especially during times of crisis. But some bankers and lawyers may think differently and oppose this feature of confidentiality.
According to some leading lawyers, if the majority of disputes are referred to arbitration in order to benefit from the private and secretive resolution, the outcome of the cases will not be transparent and public. They argue that this lack of disclosure and secrecy may lead to less accountability and, ultimately, decrease the role of “substantive law” because it is not publicly available.
As a counter argument, it is argued that banks should keep their situation stable and avoid any risk of compromising their stability. Cautious banking laws are set up by central banks and the Basel Committee to ensure that banks lend wisely, are not subjected to bankruptcy and do not spread any potential risk to other banks. Therefore, any event, whether information leak or litigation or a lawsuit against a bank, can damage the credit of the bank and the safe setting they are seeking. If bank litigation proceedings are publicly held, they can put banks and their activities at risk.
In these circumstances, arbitrary judgment prevents unnecessary disclosure of the banks’ information, and can ultimately lead to the acquisition of banks’ precautionary rules that will remove any risk and create a quiet and stable environment in which they can work. In addition, recent cases show that litigation process in international loan contracts is not as popular and common as before. A wide range of borrowers and creditors are demanding the use of non-judicial mechanisms in their contracts.
An interesting example of the application of arbitration is seen in the Russian Loan Contract of February 21, 2011. The Russian Supreme Court concluded that the arbitration clause annexed to the standard contracts was invalid unless the parties confirmed their intention to settle the dispute through arbitration. In this case, both defendant and plaintiff had several loan contracts with arbitration clauses referring the case to arbitration bodies. When the dispute broke out, the plaintiff succeeded in resorting to the arbitration clause and was able to enforce the award.
It can be said that the use of arbitration in relation to loan contracts has increased, although some critics believe that there is no need for arbitration or any additional mechanism for loans. They maintain that, since there is nothing complicated in loan disputes, the simple issue of non-payment or failure to pay loans can be handled by the courts, so there is no need for arbitration.
According to leading lawyers and banking researchers, there are increasing dissatisfaction with the cost and delay of litigation processes. As a result, there is a tendency to use alternative dispute resolution methods such as arbitration. It can be concluded that apart from non-payment cases and guilty debtors, for other legal cases, alternative dispute resolution methods are the proper mechanisms for settling bank disputes.
In short, it can be concluded that many factors justify the use of arbitration as an appropriate alternative method over litigation in international financial and banking cases. These factors include the location of the debtor’s assets, the drawing up and composition of foreign contracts, the reluctance of the courts to quash the penalties for damages and their enforceability. As a result, it is imperative that the old litigation system should be carefully analyzed in order to assess its suitability for this subject. The increasing use of arbitration for banking and finance shows a change in procedures, and it may be necessary to reform the old system and develop a new mechanism to ensure the parties’ satisfaction during dispute resolution. This satisfaction will increase if arbitration responds to the user’s needs and attempts to resolve potential deficiencies. International arbitration, as a private and impartial tribunal, seems to have the ability to replace the old national tribunals in financial and banking disputes, as it has already played a successful role in international trade and construction sector.
Thank you very much. It was a big help