International investment law and arbitration: a conceptual framework
International investment law and arbitration: a conceptual framework
by Rob Howse, NYU Law School | 23 March 2017
Excerpt from: Helene Ruiz-Fabri, ed. International Law and Litigation, Nomos Press, 2017 (forthcoming).
Today, arguably, investor-state dispute settlement (ISDS) has become the most controversial form of international litigation (very recently rivaled perhaps by the International Criminal Court, which is facing a stark legitimacy challenge from a number of African states). Arbitration under the International Centre for the Settlement of Investment Disputes (ICSID) or UNCITRAL (The United Nations Commission on International Trade Law), allows an investor to sue a host state before an ad hoc arbitral tribunal for violations of bilateral investment treaties (BITs) or trade and investment agreements (e.g. the North American Free Trade Agreement (NAFTA)). If successful the investor can enforce a monetary award against the host state in ordinary courts around the world. This regime has, more or less plausibly, been painted as a system of secret or “shadow” courts dominated by a clique of elite arbitrators motivated by personal wealth acquisition not justice, a system where multinational corporations unleash blue chip law firms on some of the poorest countries in the world, forcing multimillion dollar settlements or winning awards that are even larger, sometimes more than an impoverished nation’s entire annual budget for health, education and public security. The fear of such payouts has understandably had a chill effect on legitimate government regulation in many countries; inconsistently interpreted by arbitrators in different cases, the general norms in investment treaties have been read to go far beyond compensation for takings that aim to extract rents from investors and are likely inefficient, extending to regulatory changes that respond to many valid policy concerns but a negative economic impact on some particular foreign investor.
Such criticisms have made headlines and influenced debates about globalization at the highest political levels in the United States, and Europe. In a letter to Members of Congress over 200 academics in law and economics, including such distinguished scholars as Laurence Tribe and Joseph Stiglitz, made the following critique of ISDS: “Through ISDS, the federal government gives foreign investors and foreign investors alone the ability to bypass that robust, nuanced, and democratically responsive legal framework. Foreign investors are able to frame questions of domestic constitutional and administrative law as treaty claims, and take those claims to a panel of private international arbitrators, circumventing local, state or federal domestic administrative bodies and courts. Freed from fundamental rules of domestic procedural and substantive law that would have otherwise governed their lawsuits against the government, foreign corporations can succeed in lawsuits before ISDS tribunals even when domestic law would have clearly led to the rejection of those companies’ claims. Corporations are even able to relitigate cases they have already lost in domestic courts. It is ISDS arbitrators, not domestic courts, who are ultimately able to determine the bounds of proper administrative, legislative, and judicial conduct. This system undermines the important roles of our domestic and democratic institutions, threatens domestic sovereignty, and weakens the rule of law. In addition to these fundamental flaws that arise from a parallel and privileged set of legal rights and recourse for foreign economic actors, there are various flaws in the way ISDS proceedings are meant to be conducted in the TPP. In short, ISDS lacks many of the basic protections and procedures of the justice system normally available in a court of law. There are no mechanisms for domestic citizens or entities affected by ISDS cases to intervene in or meaningfully participate in the disputes; there is no appeals process and therefore no way of addressing errors of law or fact made in arbitral decisions; and there is no oversight or accountability of the private lawyers who serve as arbitrators, many of whom rotate between being arbitrators and bringing cases for corporations against governments. Codes of judicial conduct that bind the domestic judiciary do not apply to arbitrators in ISDS cases.”
In September 2015, in the context of the negotiations between The European Union and the United States on the Trans-Atlantic Trade and Investment Partnership (TTIP), the European Commission proposed to address public outrage at investor-state arbitration through inventing an alternative judicial system for the settlement of investment disputes. The judicial system would initially be incorporated (instead of arbitration) in bilateral agreements of the EU such as TTIP, but eventually would be replaced by a multilateral tribunal for the settlement of investment disputes.
The European Commission proposal has its origins in an on-line consultation the EU undertook with respect to investor protection in the TTIP; the consultation produced an astonishing number of responses-something like 150,000-with a huge number of them indicating hostility to investor-state dispute settlement. In July 2015 in its guidance to TTIP negotiators, the European Parliament recommended that under TTIP investment disputes be settled by a standing judicial body, rather than conventional methods of investor-state arbitration. The proposal, which has now been adopted by the Commission for future investment-related agreements as well as in the EU’s recent accords with Canada and Viet Nam, is a comprehensive response to the challenge of the Parliament, and European civil society, producing a detailed blueprint for an alternative, judicial system of ISDS. More recently, the EU, as will be discussed below, has worked with Canada to develop a multilateral investment court into which these bilateral judicial arrangements could be merged or that would supercede them.
While, as Poulsen and Aisbett document, many developing countries had already pushed back on ISDS (for example, signing fewer BITs or even in some cases denouncing them), in developed countries, until the EU proposal, the ISDS insider community had been able to marginalize the critics in serious policy discussions, disparaging them as outsiders who do not really understand how and why investor-state arbitration works. The rejection of investor-state arbitration by the European Parliament and Commission has conferred unprecedented political legitimacy on the critics of the existing system of ISDS, even if some of the critics have responded that the EU proposals don’t really answer their objections. The Commission and Parliament speak for a significant number of countries, some of whom have traditionally been among the largest users of ISDS. When EU Commissioner for Trade Cecilia Malmstrom introduced the Commission proposal she stated with bluntness its underlying foundation: a “fundamental and widespread lack of trust” in the existing ISDS system. After such a statement, at least in the EU, it will be very difficult to retreat to that system, whatever pressures come from the arbitration bar, and similar quarters. Indeed, far from retreat, the EU has already, as noted, incorporated the judicial model into agreements with Canada and Viet Nam and may soon do so with Singapore and Japan; and, with Canada, the EU is now taking the initiative to transform the judicial model in these agreements into a multilateral investment court. This project has already attracted the interest of dozens of states, and initial consultations have been held in Geneva and more recently at the 2017 World Economic Forum in Davos.
Some criticisms of the existing ISDS system do not hold water. For instance, there is no real evidence that arbitrators are systematically biased toward investors, and indeed the statistics show that host states win a very large number of disputes.10 While there have been some cases where investors have tried to use or abuse ISDS to attack general public policies (such as Methanex) this strategy has met with little success; Philip Morris’s attack on Australia’s tobacco regulations is a recent further example of the failure of the strategy. On the other hand, critics point out, the results in litigated cases do not exhaust the impact of ISDS on regulatory autonomy; the threat of bringing a claim may, especially in the case of developing countries, itself lead to regulatory chill. There is increasingly evidence of this at least of an anecdotal kind, albeit presented in rather sensationalist terms in the popular media; as discussed below, where host states have settled claims to avoid litigation, in essentially all cases where public information is available, the settlement involved very substantial monetary payments, or regulatory accommodations in favor of the investor. Lack of doctrinal consistency among tribunals, and the broad sweep in the way that some tribunals have stated their reasons while others have ruled narrowly on as fact-specific basis as possible with sparse legal reasoning, lead to uncertainty about the space that states have to engage in legitimate regulation, even if results in individual cases rarely amount to the radical attack on regulatory autonomy that is often claimed by critics.
The aim of this essay is to develop a conceptual framework or model that could inform debate over reform proposals on ISDS as well as evaluation of critiques and defenses of the existing system of investor protection in international law. Unlike the case of trade law, until very recently there was very little theoretical or empirical work in economics that could inform a rigorous scholarly approach. Bown and Horn note (writing at the end of 2015): “It is no exaggeration to say that Economics has paid little attention to the more than 3000 IIAs that are currently in force.” Two exceptions are the empirical literature that addresses whether and how developing countries benefit from FDI as well as that on the important question of whether international legal protections increase the flow of inward-bound FDI, particularly in developing and transitional economies. While, as mentioned, historically the economic literature has been sparse, the recent significant scholarship of Emma Aisbett , Chad Bown, Henrik Horn, and various co-authors (economics), Jonathan Bonnitcha (Law and Economics), Anne van Aaken (Law and Economics), Lauge Poulsen and Beth Simmons(political economy), Beth Simmons (political science), Susan Franck and Michael Waibel (Empirical Legal Studies) enables a much more informed assessment of the rationales for investment agreements and different ISDS options. Finally it was Joseph Stiglitz who first led me to begin thinking critically about the investment regime.
The framework or model developed in this essay is intended to indicate the kind of scholarly agenda going forward that is likely to illuminate policy choices instead of reproducing arguments for set positions in a heated policy debate.
I proceed as follows.
I begin with a historical overview of international law protection of foreign investors. This overview suggests that such protection has always been controversial, but that the controversies have shifted along different ideological, institutional and geopolitical axes over time, sometimes focusing on substantive legal norms or even where they should be negotiated, and at other times on the proper forum for settling disputes. The historical perspective helps to understand why the current debate is so complex, and at times, confusing. Today’s context for choosing options for protection of investors through international law is distinctive in many ways, yet the current debate often bears the assumptions from earlier controversies.
After the historical overview, I next disaggregate (the often not clearly or well distinguished) rationales for giving foreign investors special protections under international law in their dealings with host states. I consider such economic theory and empirical work that exists on foreign investment as well as political economy approaches, theories about bargaining between governments and firms (e.g. Laffont and Tirole), and other relevant normative conceptions such as good governance, rule of law and non-discrimination. I attempt a rough or preliminary evaluation of the strength of the various rationales, in light of possible downsides that have been identified in the literature. This part of the paper particular stands on the shoulders of Gus van Harten’s 2010 paper, “Five Justifications for Investment Treaties: A Critical Discussion.” My articulation of the rationales is somewhat different than van Harten’s, in part due to the way the scholarly debate has evolved since; van Harten did not have the benefit of a wealth of economics and political economy studies cited here that appeared after 2010, and I should say that he was particularly prescient in suggesting that a reasoned assessment of the rationales for treaty protection of investors would point to the replacement of ad hoc arbitration with a judicial model. This is the overall conclusion of this present study, with a strong preference for a multilateral judicial system.
In the section of the essay that follows the consideration of rationales, I examine to what extent the most common legal protections found in treaty instruments (compensation for expropriation, fair and equitable treatment (FET) and national treatment (NT) align well or poorly with the various rationales. I also bring in a couple of possible variations: 1) these norms are accompanied by an “umbrella clause” that may elevate contractual claims of the investor as well as non-contractual reliance-type claims on government representations into treaty claims; 2) the various investor protections are limited or balanced by a general public policy exception clause like that in the General Agreement on Tariffs and Trade (GATT) and other agreements of the World Trade Organization (WTO), which allows the defendant state to argue that the challenged measures constitute policies necessary to achieve legitimate public policy purposes, while being maintained in a manner that is non-discriminatory, non- arbitrary, and consistent with the due process of law (the GATT general exceptions provision as interpreted by the WTO Appellate Body). In this stylized discussion, I bracket the question of how the norms in question are interpreted and I assume as wide a range of readings as is indicated by the current system of ISDS where ad hoc arbitration without precedent or appeal has generated enormous inconsistencies in the way that general norms are understood, particularly fair and equitable treatment but also regulatory takings (often characterized as indirect expropriation).
The third section examines what kind of dispute settlement is optimal based upon a given rationale and the kind of substantive norms that would be well-matched to that rationale. Here I address (admittedly stylized) options: the existing system, assuming widely criticized features of it are largely preserved; state-to-state dispute settlement, which over history has been the predominate model for settling disputes in international economic relations (and where the most highly developed form is represented by the WTO dispute settlement system); the bilateral Investment Court System (ICS) as proposed by the EU and featured in CETA and the EU- Vietnam Agreement; a multilateral investment tribunal, along the lines that that the EU and Canada are now taking the leadership to negotiate with a wide range of countries; such a tribunal might hear both state-to-state claims and investor-state claims, as well as provide standing to other actors affected by investment disputes, e.g. indigenous peoples, community groups, human rights victims and NGOs.
My conclusion is that to the extent that any of the commonly stated rationales for the investment regime hold water, and the substantive norms of the regime fit with these rationales, a multilateral investment court is a superior forum to investor-state arbitration, or even bilateral adjudication; moreover, on some rationales, the availability not just of investor claims but of standing for other stakeholders and, of state-to-state dispute settlement, in the multilateral court may be of key importance.
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