Alex Weaver
J.D. Candidate, Columbia Law School, 2016
Editor-in-Chief, Columbia Journal of European Law
In the first issue of its 22nd volume, the Columbia Journal of European Law will publish a series of essays on the Transatlantic Trade and Investment Partnership and surrounding negotiations. Here, the Editor-in-Chief frames the intra-European debate over investor-state dispute settlement.
Investor-state dispute settlement (ISDS) has been at the center of a political debate which has threatened to derail negotiations of the proposed Transatlantic Trade and Investment Partnership (TTIP) between the US and EU. Proponents see this procedure, and the investment protection scheme behind it, as a means of protecting foreign investors against political impediment and judicial partiality, a necessary component of an international investment agreement (IIA). Those who oppose this procedure, already provided for in around 1400 bilateral investment treaties (BITs) already concluded by Member States,[1] argue that it surrenders regulatory flexibility and therefore jeopardizes sovereignty. This popular opposition probably reflects the litigious reputation of American commerce, but the statistics about use of ISDS in Europe show this wariness might best be turned inward. Two cases elucidate the core tension behind ISDS: its limits on bona fide regulation (Vattenfall v. Germany) versus its usefulness (Czech solar energy disputes). The Commission’s proposed adaptations of the ICSID template do well to address the legitimate concerns, but could go further without sacrificing the legal certainty which foreign investors so desire. With an understanding of the opposition and a few key changes to the rules of the game, the European Union can overcome internal hesitation and advance the TTIP negotiations with democratic support.
I. Background to the debate
Defendants of ISDS insist on its importance in promoting investment under the proposed TTIP agreement.[2] This sentiment reflects the normal composition of BITs, which routinely include an investment protection scheme as well as a dispute settlement mechanism.[3] But the normalcy of these provisions does not preclude debate on the merits. The opposition to ISDS is grounded in a legitimate concern over sovereignty and regulatory latitude. States have traditionally enjoyed sovereign immunity in civil suits.[4] In Europe, the loss of sovereignty to foreign investors would hardly be a development against the current legal trend. The European Union, after all, is a study in ceded sovereignty, as are the 1400 existing BITs in Europe which contain ISDS provisions. Nonetheless, as European member states makes regulatory changes geared at projects of common European interest, investment protection and ISDS in their current form pose an obstacle to progress.
II. The purpose and profile of Investor-State Dispute Settlement
A. Nations provide political risk insurance though ISDS agreements
ISDS shifts the financial burden of political risk insurance to states, but policymakers do not necessarily see the two concepts as interchangeable. Taking the United States as an example, the role of public choice shines as the primary motivation for ISDS. The US has declared ISDS a priority as a “means to hold accountable…those trading partners who fall short of what they promised.”[5] As an alternative, expanded political risk insurance would solve the problem of legal certainty without the risk of being sued by foreign corporations. The United States’ dedication to ISDS might be puzzling in light of readily available political risk insurance. Markets like Brazil – which refuses to conclude BITs, much less ISDS provisions[6] – have nonetheless succeeded in attracting American commerce in part thanks to this insurance.[7] The insistence on ISDS, then, constitutes a testament to the influence of the business lobby in developed countries like the United States, which has insisted that the government bear political risk abroad.[8] When governments wish to exercise regulatory control in the globalized economy, sovereignty and accountability are often at odds. By choosing to frame this question as one of accountability, the U.S. sides firmly with corporate pressures and agrees to insure them at no cost. [9] While in some cases this may result in the proper allocation of economic costs, as in the Czech case discussed below, on balance corporations and private insurers are more equipped to absorb costs of investment decisions than governments with mutual commitments under an IIA. This is particularly true for developing countries and least developed countries, but even in advanced economies, cash does not flow freely.[10]
B. The geopolitical context of ISDS
ISDS offers investors legal certainty against a changing regulatory background. Its relative significance, however, seems more potential than realized. Relative to the volume of agreements containing ISDS provisions concluded worldwide (over 2750), the 568 cases brought in the half-century history of ISDS seem few.[11] Only 274 of those cases have been concluded, with 43% decided in favor of the host country, 31% for the plaintiff, and the remainder resolved in pre-arbitration settlement.[12] Numbers have risen in recent years, reaching a record high 59 complaints in 2012.[13] It is telling, however, that over the entire history of ISDS, the European Union has been home to a majority of claimants, representing 53% of all cases brought (299 total). The United States, by comparison, has been home to only 22% (127).[14] Last year, 26 cases were brought against European Union member States; of those, 25 were brought by fellow EU Member State nationals under existing BITs.[15] Faced with these statistics, the popular opposition to ISDS which has surged in Europe over the last year is a bit more puzzling.
III. The EU’s experience with ISDS
Despite the apparent comfort with which EU-based corporations have embraced investment protection and ISDS, questions abound in popular debate and within the halls of Member State governments.[16] Considering the contentiousness of ISDS in certain Member States, [17] two brief cases serve to illustrate the spectrum of European issues that have been litigated under BITs so far. The first case, Vattenfall v. Germany (I), has been a rallying point for opposition to the idea of ISDS, which many German voices have painted as anathema to their constitutional tradition.[18] The second, an agglomeration of seven claims against the Czech Republic, provides a textbook example of where ISDS can increase stability of investments and curb the marginal propensity of states to renege on what look like contractual obligations. The European Union’s entry into international investment agreements (IIAs) brings with it a new set of issues for deals negotiated at the EU level. Characterization of these claims is key to understanding the debate.
A. Vattenfall v. Germany (I)
In April 2009, Swedish energy firm Vattenfall brought an action against the German government before the International Centre for Settlement of Investment Disputes (ICSID).[19] The conflict revolved around the issue of the coal-fired power plant being built along the Elbe River in Hamburg, Germany’s second-largest city. The company accused Germany of illegally impeding its investment plans. In 2004, after purchasing Hamburg’s long-established electricity provider from the city, Vattenfall began making plans to build a new coal power plant in Hamburg. The company initially planned to build a smaller power plant, designated for heat and energy production, but accepted the suggestion by Hamburg officials that the company build a plant twice as large. Two years later, new science on the environmental effects of global warming sparked a change in direction for German and European energy policy. In accordance with new German law, Vattenfall was asked to make major structural changes to the plans for the plant. Vattenfall sought €1.4 billion in damages before ICSID.
The complaint sparked vociferous debate in Germany. Michael Müller, Germany’s deputy environment minister and a member of the center-left Social Democratic Party (SPD) noted at the time of the complaint, “It’s really unprecedented how we are being pilloried just for implementing German and EU laws.”[20] Some of the opposition seemed to come from the unflattering comparison between Germany and the third world, with commentators noting that, “The fact that Germany is suddenly sitting in the dock with countries like Turkmenistan and Zimbabwe doesn’t make things any easier to swallow.”[21] The dispute between Germany and Vattenfall was settled in the spring of 2011, with Germany agreeing to a watered down environmental permit in favor of the corporation.[22] The conflict between Vattenfall and Germany renewed in the same year, with a second billion-euro suit, this time over Germany’s nuclear power phase-out.[23] The Vattenfall saga perturbed those stakeholders concerned with a government’s right to regulate, citing ISDS as a means to obstruct important goals like mitigation of climate change.[24]
B. Czech solar energy disputes
Whereas Germany’s progressive pivot made it a target for investment disputes, not all regulatory changes are borne of such aspirations. A regressive change in solar energy policy in the Czech Republic brought about seven claims under the Energy Charter in 2013.[25] On its face, this too seemed to be an instance in which ISDS deprives the Czech Republic of its policy latitude. The reality is more complex. The Czech government levied a tax on electricity generated by solar energy farms, the very farms which it had attracted through various investment incentives.[26] These incentives, argue the complaints, were material to the decision to invest.[27] The claim, then, rests on the idea that it was unfair for the Czech Republic to renege on its incentive commitments.[28] The climate, too, is different – by disincentivizing renewable energy, the Czech government departed from common European environmental goals.[29] Seen in context, these reasonable claims resolve a dispute between two contracting parties, the investor and the Czech government. Without ISDS, the investor would face a futile claim in Czech court – or no cause of action whatsoever.[30] When the rules of the game are used against investors, ISDS properly allocates the cost to both participants of a contract (state and investor), rather than imposing an insurance obligation on the wronged side. While this clear-cut contractual relationship may represent a minority of claims, the Czech case nonetheless shows how ISDS can provide a level playing field where regulatory goals are largely pretextual or borne of regressive public choice.
C. The EU increases its role in these procedures, in part through TTIP
The Treaty on the Functioning of the European Union, which entered into force in late 2009, grants the Union competence over foreign direct investment through its common commercial policy power.[31] The Commission’s Communication on its Comprehensive International Investment Policy clarifies the role envisioned for the Commission in conducting these bilateral agreements.[32] Though there has been some academic disagreement over the full scope of the Commission’s power in negotiating IIAs and BITs,[33] the current trend in negotiations seems to reflect the Commission’s expansive interpretation of its own role, including the ability to bind Member States through ISDS provisions.[34] The EU is not a party to ICSID[35] (or to UNCITRAL), so each negotiation undertakes a sort of re-creation of the template for investment protection and ISDS. This presents an opportunity for the Commission to negotiate on the substance and procedure of ISDS provisions, and their recent communications about TTIP reflect their willingness to deviate from the ICSID template,[36] as advocated by the European Parliament.[37] Through the process of public consultation, the Commission has solicited a preponderance of public feedback on the new provisions. Taken as a good faith measure towards democratic accountability in EU administration, some have speculated that the public consultation and the resulting arbitration rules under TTIP could create a blueprint for future EU-level IIAs.[38] The trend envisioned by the Commission, though still in limbo, would have the EU as the sole authority for all prospective IIAs and their resolution, a result which would benefit from a curtailing of cases like Vattenfall and which would align incentives against regressive policies like those at issue in the Czech solar energy case.
IV. Commission modifications to ICSID, and their shortcomings
On their own, the investor protection provisions and dispute settlement mechanism included in TTIP could have serious consequences for the two signatories. If the TTIP rules are to serve as a blueprint for future EU IIAs, however, the agreement present a real opportunity to institute the necessary changes to both provisions. The EU would take ICSID as a starting point and modify the substantive and procedural components to be included in a TTIP agreement.[39] The main advantage of approximating ICSID rules comes with the consistent enforceability of its judgments under the New York Convention.[40] The Commission has announced its proposed modifications of the ICSID rules, in particular with regards to (a) the right to regulate, (b) indirect expropriation, (c) fair and equitable treatment, and (d) procedural changes.
A. Right to regulate
The European Commission has undertaken to modify the conventional ISDS procedure in order to accommodate more regulatory latitude. First, within the investment protection scheme, the Commission hopes to reaffirm the “right to regulate in the public interest,” which may prove too broad.[41] Most regulatory actions taken by a member State could realistically be spun to reflect the public interest – that is, after all, the government’s ultimate charge. The right to regulate extends only so far as the arbitrator determines it to violate other portions of the investment protection agreement, and therefore amounts to little substantive change. Ultimately this is a measure acting on the margin for less successful claims, as arbitrators already take into account States’ interests in governance.
B. Indirect expropriation
Second, the European Commission hopes to hone the definition of indirect expropriation, which, like clarifying the right to regulate, should cut down on some unsuccessful claims and reduce costs. The Commission has stated that, “when the state is protecting the public interest in a non-discriminatory way, the right of the state to regulate should prevail over the economic impact of those measures on the investor.” Taken in conjunction with the clarified right to regulate, one can see the similarity between this point of clarification and Article 110 of the TFEU. The idea that measures will deserve a low level of scrutiny unless they are shown to be in some way discriminatory (or protectionist, this point of EU law being less clear) is one concrete step towards a process which from the outset favors States.
The Commission could give further guidance, however, on this point. By establishing a deferential standard of review, the proposed changes from the Commission bolster the legal certainty at the outset of proceedings, and consequently at the legislative stage. This legal certainty would be further enhanced by an explicit allocation of the burden of proof for the discriminatory nature of the change. If, for instance, the burden of proof lies initially with the plaintiff,[42] until they can establish under certain conditions that it should shift, both sides would be served by clarity of legal responsibilities. This measure would serve to cut down further on suits with a low chance of success with the potential to empower States ex ante through allocation of rights.
C. Fair and equitable treatment
In addition, the Commission aims to clarify “fair and equitable treatment,” at issue in the Vattenfall case and many others, a change has the potential to benefit both sides of the table in hedging against arbitrational discretion. In the past, arbitrators have ruled in such a way that swings this definition from largely in favor of the state to largely pro-investor. Coupled with the lack of transparency in proceedings, this phrase has contributed to the impression that proceedings are a ‘black box,’ without firm legal bases for decisions. By giving specific guidance on this issue, the States, investors, and the public will face less uncertainty in ISDS. This guidance could come in the form of expanded language or illustrations, or it could be based on certain affirmations within the provisions.
D. Procedural elements
The procedural aspects of dispute settlement have also garnered the Commission’s attention. They have promised to improve dismissal mechanisms, transparency, and potential for appeals, among other improvements.[43] Coupled with the substantive changes, enhanced dismissal mechanisms will help to cut down on the volume of claims in the margin, eliminating more frivolous claims. The lack of transparency has been cited as an issue of particular concern, giving rise to the reputation of ISDS as an anti-Democratic institution. Without more light shed on these proceedings, they will not garner public trust, and rightly so. Corporations do not need a special., closed-door privilege which citizens do not enjoy in their own country, and citizens are entitled to this information. The model for this as well as other procedural improvements is being tested in negotiations with Canada, an agreement that has advanced largely without controversy.[44]
These measures address a central concern over ISDS, that the procedure is a one-sided tool for foreign investors. The procedure could be further improved, however, by allowing for counter-claims and for sanctions against frivolous suits. As it stands, the standard agreement allows claims to be initiated by investors only. This flows from the nature of disputes. If states wish to assert their own claims, they use national laws which can be enforced in their own courts. But allowing states to counter-claim in ISDS proceedings would have myriad beneficial effects on the dispute settlement mechanism. For one, in the 43% of cases which, on average, are resolved in favor of the state, the government could potentially walk away with more than just legal costs. This gives complaining investors more skin in the game, cutting down on suits with a low probability of success which are intended to put undue pressure on legitimate host country policies. Sanctions would have the added effect of “reigning in the corporate lawyers,” the general solution proposed by the Economist in its take on the debate.[45] The sanctions could be structured somewhat similar to the U.S. Federal Rules of Civil Procedure Rule 11, which allows for bench sanctions for a variety of mischief. The Economist correctly identifies corporate litigation incentives as the front from which to correct the abuse of ISDS. These changes to the procedural mechanisms shift the incentives of legal counsel further towards a conciliatory approach and away from abuse of the ISDS system.
Conclusion
These modifications would go a long way towards reducing anxiety over the potentially disruptive effects of ISDs on progressive regulation and state sovereignty. The may, however, do little to quell the populist fervor which has fueled the debate in Europe. An underexplored publicity angle might yield more pressure to modify the agreement: scare American consumers. By the numbers, American citizens have more to fear about an ISDS agreement with the EU than vice versa. By appealing to the American electoral base, the European dissidents might engender enough support to compel the US to abandon its strictly pro-corporation agenda in TTIP. The incentives of the Commission and the US converge around a dispute settlement mechanism which respects policy latitude while appreciating the insurance effect of mandatory arbitration. Creativity in the procedure of ISDS, in the forms proposed by the Commission, in counter-claims, and in sanctions against frivolous corporate lawsuits, might salvage the fractured TTIP negotiations.
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[1] A Better Way to Arbitrate, The Economist (Oct. 11, 2014), available at http://www.economist.com/news/leaders/21623674-protections-foreign-investors-are-not-horror-critics-claim-they-could-be-improved.
[2] See, e.g., ISDS clause: a gateway to future trade deals, Post sponsored by the American Chamber of Commerce, EurActiv (Sept 12, 2014), available at http://www.euractiv.com/sections/ttip-and-arbitration-clause/isds-clause-gateway-future-trade-deals-310648.
[3] Recent developments in Investor-State Dispute Settlement, UNCTAD (2014), available at http://unctad.org/en/publicationslibrary/webdiaepcb2014d3_en.pdf.
[4] Id.
[5] U.S. Objectives, U.S. Benefits in the Transatlantic Trade and Investment Partnership: A Detailed View, Office of the U.S. Trade Representative, available at https://ustr.gov/about-us/policy-offices/press-office/press-releases/2014/March/US-Objectives-US-Benefits-In-the-TTIP-a-Detailed-View.
[6] Brazil has never become party to ICSID.
[7] The Arbitration Game, The Economist (Oct. 11, 2014), available at http://www.economist.com/news/finance-and-economics/21623756-governments-are-souring-treaties-protect-foreign-investors-arbitration.
[8] The reciprocal relationship among states is what shifts the burden of the risk. Without two equal state parties agreeing to insure these corporations, market solutions would be the sole option.
[9] The provisions were designed to mitigate risk in developing countries, but trends show that in terms of political risk, development levels may be a flawed proxy for utility of ISDS. Fredrik Erixon, Roderick Abbott, Martina Francesca Ferracane, Demystifying Investor-State Dispute Settlement (ISDS), ECIPE Occasional Paper No. 05/2014, available at http://www.ecipe.org/app/uploads/2014/12/OCC52014__1.pdf.
[10] See, e.g., the European sovereign debt crisis.
[11] UNCTAD (2014), supra note 3.
[12] Id.
[13] Id.
[14] Id.
[15] Id.
[16] Indeed, a handful of European governments have demonstrated their support for the ISDS provisions, citing the uncertain regulatory climate created by American state law. House of Lords: European Union Committee. (2014) Report on the Transatlantic Trade and Investment Partnership. HL 179, 2013-2014, para. 160.
[17] Germany in particular. See Donnan, S. & Wagstyl, S., “Transatlantic trade talks hit German snag”, Financial Times (March 14, 2014), available at http://www.ft.com/intl/cms/s/0/cc5c4860-ab9d-11e3-90af-00144feab7de.html.
[18] For background, see Sebastian Knauer, Vattenfall vs. Germany: Power Plant Battle Goes to International Arbitration, Spiegel Online (July 15, 2009), available at http://www.spiegel.de/international/germany/vattenfall-vs-germany-power-plant-battle-goes-to-international-arbitration-a-636334.html.
[19] Vattenfall Ab, Vattenfall Europe Ag, Vattenfall Europe Generation Ag v. Federal Republic Of Germany (ICSID Case No. ARB/09/6).
[20] See Knauer, supra note 14.
[21] Id.
[22] Settlement agreement in Vattenfall Ab, Vattenfall Europe Ag, Vattenfall Europe Generation Ag v. Federal Republic Of Germany (ICSID Case No. ARB/09/6), available at http://www.italaw.com/sites/default/files/case-documents/ita0890.pdf
[23] Nathalie Bernasconi-Osterwalder & Rhea Tamara Hoffmann, The German Nuclear Phase-Out Put to the Test in International Investment Arbitration? Background to the new dispute Vattenfall v. Germany (II), The International Institute for Sustainable Development (2012), available at http://www.iisd.org/pdf/2012/german_nuclear_phase_out.pdf.
[24] See Knauer, supra note 14.
[25] Natland Investment Group NV, Natland Group Limited, G.I.H.G. Limited, and Radiance Energy Holding S.A.R.L. v. Czech Republic; Voltaic Network GmbH v. Czech Republic; ICW Europe Investments Limited v. Czech Republic; Photovoltaik Knopf Betriebs-GmbH v. Czech Republic; WA Investments-Europa Nova Limited v. Czech Republic, All brought before UNCITRAL and registered on 08.05.2013. Two months earlier, UNCITRAL heard Mr. Jürgen Wirtgen, Mr. Stefan Wirtgen, and JSW Solar (zwei) v. Czech Republic.
[26] S. Perry and K. Karadelis, “Sun rises on Czech energy claims”, Global Arbitration Rev., Feb. 19 2014, available at http://globalarbitrationreview.com/news/article/32436/sun-rises-czech-energy-claims.
[27] Id.
[28] In a similar case, 14 different groups of foreign investors (reportedly totaling 88 claimants) filed a collective action against Spain on November 17, 2011 in an UNCITRAL proceeding arising out of the Spain’s revocation of subsidies for solar PV plants. Renewable Energy Policy Changes Lead to Damages Claims – Investment Treaties, European Feed-In Tariffs, Arbitration, Political Risk, Expropriation, Chadbourne (June 2014), available at http://www.chadbourne.com/renewable_energy_policy_changes_june2014_projectfinance/.
[29] European State aid law makes specific exceptions to promote this type of investment incentive. See General Block Exemption Regulation, Commission Regulation (EU) N°651/2014 of 17 June 2014 declaring certain categories of aid compatible with the internal market in application of Articles 107 and 108 of the Treaty
[30] The doctrine of sovereign immunity in civil suits would potentially suppress any possibility for success on the merits.
[31] Article 207(1) of the Treaty on the Functioning of the European Union (TFEU) states: “The common commercial policy shall be based on uniform principles, particularly with regard to changes in tariff rates, the conclusion of tariff and trade agreements relating to trade in goods and services, and the commercial aspects of intellectual property, foreign direct investment, […] (emphasis added). This emphasis on FDI rather than foreign investment in general suggests that Member States retain competence over portfolio investment policy.”
[32] Communication from the Commission to the Council, the European Parliament, the European Economic and Social Committee and the Committee of the Regions ‘Towards a Comprehensive European International Investment Policy’ (hereinafter ‘Communication’), COM(2010)343 final.
[33] Particularly with regards to expropriation. See, e.g., J. Ceyssens, ‘Towards a Common Foreign Investment Policy? – Foreign Investment in the European Constitution’, 32 Legal Issues Econ. Integration (2005), at 259. Art. 345 TFEU states that ‘[t]he Treaties shall in no way prejudice the rules in Member States governing the system of property ownership’. Critics point to this article as a potential shield from EU-negotiated limits on expropriation.
[34] It asserts this expansive interpretation pursuant to Article 2(1) TFEU, which states: ‘When the Treaties confer on the Union exclusive competence in a specific area, only the Union may legislate and adopt legally binding acts, the Member States being able to do so themselves only if so empowered by the Union or for the implementation of Union acts’. Markus Burgstaller, ‘Investor-State Arbitration in EU International Investment Agreements with Third States, 39 Legal Issues Econ. Integration 2 (2012), at 207.
[35] According to its Article 67, the ICSID Convention is open ‘for signature on behalf of States members of the Bank’. Notably, the Convention is not open for signature for a supranational organization such as the EU.
[36] The EU and the EC are not parties to the ICSID convention: “The EU is not and is unlikely to become a Contracting Party to the Convention on the Settlement of Investment Disputes between States and Nationals of Other States (ICSID Convention)…The main obstacle to investor-state arbitration in EU IIAs with third states, however, is unlikely to stem from the non-availability of the ICSID Convention, but rather from the jurisprudence of the CJEU.” Burgstaller, supra note 34, at 207–221.
[37] European Parliament resolution of 6 Apr. 2011 on the future European International Investment Policy (2010/2203(INI)).
[38] Romain Pardo, ISDS and TTIP – A miracle cure for a systemic challenge? European Policy Center, Policy brief (July 14, 2014) (“Even though the public debate concentrates on whether or not to include ISDS in the final agreement, the Commission intends to primarily use the consultation to find ways to modernise this flawed and controversial mechanism which is already used worldwide. TTIP could then be used as a blueprint for future agreements. In this context, it is imperative to examine which challenges are posed by ISDS and determine the extent of TTIP’s possible contribution to tackling these challenges”), available at http://www.epc.eu/documents/uploads/pub_4637_isds_&ttip-_a_miracle_cure_for_a_systemic_challenge.pdf. See also, ISDS clause: a gateway to future trade deals, Post sponsored by the American Chamber of Commerce, EurActiv (Sept 12, 2014), available at http://www.euractiv.com/sections/ttip-and-arbitration-clause/isds-clause-gateway-future-trade-deals-310648.
[39] There has been debate during the public consultation as to whether the resulting venue for ISDS would be a standing court or an ad hoc tribunal. See Burgstaller, supra note 34, at 213.
[40] Id, at 213-14.
[41] Investment protection and ISDS in EU agreements, European Commission, available at http://trade.ec.europa.eu/doclib/docs/2014/march/tradoc_152273.pdf.
[42] This would be a state-friendly allocation of the burden of proof, which could help to curb complaints.
[43] Commission, supra note 41.
[44] A Better Way to Arbitrate, supra note 1.
[45] Id.
