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What is the “Contract Clause”?
Article I, Section 10 states that, “No state shall pass any Law impairing the obligation of contracts.”
The Contract Clause prohibits state governments from specifically legislating to interfere with (or usurp) private contract rights. It is, however, limited by the ability of state governments to legislate to interfere with those rights under their police power. The state may pass legislation impairing a contract if the law is passed to deal with a specific emergency situation. Further, a state government may generally legislate to regulate an industry or commercial activity. Such legislation may have the effect of interfering with existing contracts. Because the legislation is not directly targeted at interfering with an individual’s (or business’s) contract rights, it does not violate the Contracts Clause. The Contract Clause demonstrates the drafters’ regard for the importance of individual contract rights.
- Note: The Contract Clause does not limit the power of the Federal Government to interfere with private contract.
- Example: John has a business in State A that conducts international trade. His largest trading contract is with ABC Company (a French Company). State A passes a law requiring that all trading with ABC Company can only be carried out by State A. This would be unconstitutional if State A is intentionally legislating to usurp John’s contract rights. A generally prohibition against all trade with ABC company, however, may be legal.
Discussion: Historically, can you think of why the founders felt it necessary to include the Contract Clause into the Constitution?
- The contract clause was formulated to be applied in case the states wish to grant private laws that would invalidate certain elements of a contract in order to allow certain individuals to find relief for their debts. This would preserve private business dealings. Under the articles of confederation a state would pass legislation that granted debt relief for a particular individual but the founders sought to prevent this when they drafted the constitution. The contract clause was first based on a similar ordinance by the Northwest that was already in effect when the constitution was being drafted. The clause was also meant to make prohibitions to states. Prohibitions were to protect individuals from intrusion by the state governments and to keep the states from intruding into the federal government’s duties. The contracts clause also helped to prevent states from issuing their own paper money and from regulating economic affairs.
Practice Question: ABC Corporation in Boston has an ample tea trade with England. ABC brings in nearly $500 million annually. The fears that ABC Corp is creating a sort of monopoly and passes a law that no singe corporation can gross more than $100 million in annual sales from a single commodity. Is this type of statute constitutional?
- The statute is constitutionally right. In such a scenario the state government may regulate commercial activities as mandated by the contract clause. Monopoly risks may affect both industries in Boston and the larger USA in various ways. Firstly it shall limit the output of other products of the same nature to the market; it may also reduce consumer surplus and economic welfare. Moreover, the commerce clause allows the Federal government to regulate commerce with foreign nations, and among the several states. The dormant commerce clause also prohibits states from passing laws that excessively burdens interstate commerce. This clause enables the government to prevent protectionist state policies that favor state businesses at the expense of non-citizens conducting businesses in the state.
Ely, James W., Whatever Happened to the Contract Clause? (October 6, 2009). Vanderbilt Public Law Research Paper No. 09-21; Vanderbilt Law and Economics Research Paper No. 09-26. Available at SSRN: https://ssrn.com/abstract=1483857 or http://dx.doi.org/10.2139/ssrn.1483857
Ely, James W., Still in Exile? The Current Status of the Contract Clause (January 18, 2019). Vanderbilt Law Research Paper No. 19-04. Available at SSRN: https://ssrn.com/abstract=3318590
Ely, James W., Origins and Development of the Contract Clause (November 1, 2005). Vanderbilt Public Law Research Paper No. 05-36. Available at SSRN: https://ssrn.com/abstract=839904 or http://dx.doi.org/10.2139/ssrn.839904
Ely, James W., The Contract Clause during the Civil War and Reconstruction (May 5, 2016). Journal of Supreme Court History, Vol. 41(3), 2016; Vanderbilt Law Research Paper No. 17-07. Available at SSRN: https://ssrn.com/abstract=2778226
Ely, James W., Protection of Contractual Rights: A Tale of Two Constitutional Provisions. NYU Journal of Law & Liberty, Vol. 1, 370 (2005); Vanderbilt Public Law Research Paper No. 05-29. Available at SSRN: https://ssrn.com/abstract=820366
Weidemaier, Mark C., The Arbitration Clause in Context: How Contract Terms Do (and Do Not) Define the Process. Creighton Law Review, Vol. 40, p. 655, 2007. Available at SSRN: https://ssrn.com/abstract=986391