Public Morality and Contractual Penalties

Abstract

This article first discusses the principle of public morality. Any legal transaction which violates public morality is void. Thereafter, it is analysed how the principle of public morality affects the concept of contractual penalties. In the view of the legislature, only penalties having the nature of a sanction are compatible with the principle of public morality. However, penalties having a punitive character are not prohibited, instead being only limited. Thirdly, the article considers how an agreed contractual penalty may be reduced. If the contractual penalty that the parties have agreed to is excessive, the judge can reduce it on application of a party. However, not infrequently the judges in China will apply the principle of public morality to a contractual penalty ex officio. In addition, the article looks at legislative provisions limiting usury and the permissible annual interest rate for loan agreements.