Letters of Credit – Reconciling Legal Rules with Commercial Realities Prof Jason Chuah City University London

1. Letters of Credit – Reconciling Legal Rules with Commercial Realities Prof Jason Chuah City University London

2. A bit of history * Origins not very clear – Ancient Babylonian (a clay promissory note dating back to 3000 BC) and Egyptian (248 BC); Ancient Greece – banks were issuing documentary letters “ “on correspondents with the view to obviating the actual transport of specie in payment of accounts”. * 13th century Marco Polo reported that the negotiable letter was a “way... the Great Chan can have and indeed does have more treasures than all the kings in the world” * 14th century – Medici banks in Bruges and Italy * 19th century – virtual monopoly by British banks

3. What is an LC? • Method of trade finance • Sale contract (usually cross border – reason: trust) • Buyer (applicant) • Seller (beneficiary) • Issuing Bank (payer) • In order to paid, seller must tender conforming documents evidencing its performance of the sale contract.

4. Two key principles • Principle of Autonomy • Sztejb v Henry Schroeder Banking Corp • Fraud Exception – narrowly construed (The American Accord (1983)) • Principle of Strict Compliance • A means to control fraud and forgery? • A matter of construction? • No non-documentary conditions can be required by the LC

5. Trends and developments • Use of LC in decline in intra-EU trade • High rate of rejection; fear of fraud • Protection from credit crunch? • More creative use of the LC • As a guarantee for conventional (high risk) lending • As a no-questions asked payment instrument

6. Legal status of the LC • Not a negotiable instrument, not a promissory note, not a bill of exchange • Is is a contract? Requirement for consideration? • Definition of consideration – act for an act, a promise for a promise, a promise for an act, an act for a promise • What consideration has been provided by the beneficiary?

7. Does it matter? • To enforce a bare promise – issues • How to construe the promise – presumed intention test in this context • Legal intent from form • Status or position of the promisor becomes crucial? Marubeni v Mongolia

8. Creative use – legal response? • Sirius v FAI [2003] EWCA Civ 470 • Use non-documentary conditions admitted • Mahonia v Morgan Chase Bank [2003] EWHC 1927 • Illegality as a justification for not paying • Marubeni v Mongolia [2005] EWCA Civ 395; also Meritz Fire and Marine Insurance Co Ltd v Jan De Nul Nv [2011] EWCA Civ 827 • Construction of the documentary requirements – seems to depend on the status of the issuer

9. Fear of fraud • Limits of the research – empirical work needed • Much work concentrates on the problem of fraud and abusive calls (in the context of demand guarantees) and makes the following criticisms • Banks do not police fraud • Misplaced belief that documentary conformity means absence of fraud • Forgery easy to commit • Large value deals constitute an irresistible temptation to fraudsters • All or nothing approach – only fraud by the beneficiary will suffice (bad faith will not)

10. Commercial Realities • Any alternatives?Trust in international trade – thrombosis will occur? (Donaldson LJ) • Why the arm's length approach by banks • Should liability be attached to the act of giving money? • A payment instrument not a method of trading • Blame not the LC but the system? • Time is essential • Commercial certainty • A new unified code to limit LC law to trade in physical goods?

11. Thank you very much. Questions are very welcome: Jason.Chuah.1@city.ac.uk