Investor-State Dispute Settlement under Investment Treaties and Free Trade Agreements: ad hoc Arbitration or Investment Court System?

01/02/17 17:55 Filed in: International Arbitration

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By Paul Barker

Investor-State dispute settlement (“ISDS”) has come a long way from its foundations in the mid-Eighteenth Century, when the idea of State responsibility for injury to aliens and their property began to emerge. This once esoteric area of international practice is now undergoing a period of re-evaluation, for the first time under intense public scrutiny. A particular focus is on the form that ISDS should take in future trade and investment treaties, with the European Commission and Canadian Government advocating the replacement of the prevailing system of ad hoc investor-State arbitration with a permanent, multilateral investment court.


Prior to the advent of bilateral investment treaties (“BITs”) in the latter half of the Twentieth Century, a foreign investor whose investment was expropriated without compensation did not have recourse to particularly effective dispute settlement mechanisms.  The investor would first have to take its chances in the host State’s domestic courts, which might exhibit bias or afford a lower standard of foreign investor protection than the minimum standard under customary international law.  If it failed to secure compensation after having exhausted local remedies, the investor could try to petition its own government to espouse the claim on its behalf against the host State, pursuant to the right of diplomatic protection under customary international law.  An investor-State dispute over private property would thereby be transformed into an inter-State dispute.  But the investor’s government might decide that it was not worth its while to espouse the investor’s claim in the first place.  



Notoriously, diplomatic protection in the Nineteenth Century often took the form of gunboat diplomacy.  However, the resolution of disputes by international arbitration also gained currency during this time, with the 1794 Jay Treaty between Great Britain and the United States (concerning claims by British and American nationals arising out of the American War of Independence) establishing a model for mixed claim commissions to resolve claims espoused by a State on behalf of its nationals.   


Investment treaty arbitration, which has its origins in the 1960s but did not take off until the 1990s, revolutionized the protection afforded to foreign investors.  By entering into BITs and, later, bilateral or multilateral free trade agreements (“FTAs”) containing foreign investment protection chapters (such as the 1994 North American Free Trade Agreement (“NAFTA”)), States offer to arbitrate their investment disputes with nationals of the other contracting State(s).   Where an investor qualifies for protection under a BIT or FTA that contains an investor-State arbitration clause, the investor need no longer rely on its government to espouse a claim, and usually need not exhaust local remedies either; rather, the investor may commence arbitration directly against the host State, seeking an award of damages.  Typically, the investor nominates an arbitrator in its request for arbitration, the respondent State then appoints a second arbitrator, and finally a presiding arbitrator is appointed.  There are over 

700 known ISDS cases arising under the network of more than 3,200 investment treaties worldwide.


But investment treaty arbitration has fallen out of favour with key stakeholders in recent years.  It is an 

ad hoc system, with no doctrine of precedent or appellate review to ensure consistency in the application of international investment law, and adopts a procedure effectively copied from international commercial arbitration that tends towards confidentiality over transparency.  Critics also contend that arbitration undermines host States’ right to regulate in the public interest because arbitrators – unlike judges in domestic judicial review litigation – have the power to award substantial damages running into the billions of dollars, paid out of the public purse, to multinational corporations.  Indeed, investment treaty arbitrations often do not concern bright-line cases of direct expropriation but may relate to regulatory measures that impact foreign investment, such as the recent (and unsuccessful) Philip Morris cases against Australia and Uruguay concerning anti-tobacco legislation. 


At least partly in response to public disquiet over ISDS, the European Commission has declared that it will replace the prevailing model of 

ad hoc investor-State arbitration and the practice of party-appointed arbitrators in its future trade deals.  Instead, the European Commission advocates a new investment court system (“ICS”) comprising a standing Tribunal of First Instance and Appeal Tribunal, with judges appointed by States Parties to the treaty without input from claimant investors.


As the European Commission 

explained in respect of its Trans-Atlantic Trade and Investment Partnership (“TTIP”) negotiations with the United States, the ICS is intended to address concerns that ad hoc arbitral tribunals are not the best forum to deal with the regulatory or public law nature of ISDS cases:

"The EU text proposal on investment protection for TTIP has a simple objective: to effectively safeguard the EU and its Member States’ right to regulate, while providing effective protection to European companies against unfair treatment, discrimination or other basic obligations. This will be ensured through a new fully transparent system for resolving investment disputes, with publicly appointed judges, the highest ethical standards and the possibility to have errors corrected through an appeal instance."


In December 2015, the EU and Vietnam 

concluded an FTA incorporating the ICS.  In February 2016, the European Commission announced that Canada had also agreed to incorporate the ICS into a revised version of the new EU-Canada Comprehensive Economic and Trade Agreement (“CETA”).  In December 2016, the European Commission and the Canadian Government met in Geneva for “exploratory discussions” with more than forty States on the establishment of a permanent, multilateral ICS.  For its part, the UK Government appears to be non-committal to the ICS project.


Amidst a rising tide of 

anti-free trade sentiment around the world, the new US administration announced in January 2017 that it will not ratify the Trans-Pacific Partnership (“TPP”), which had been intended to establish a free trade area in the Asia-Pacific region covering nearly 40 percent of global GDP and a third of global trade. It is, however, possible that the TPP will come into effect in some form without the US, or at least provide a benchmark for future negotiations.  It is therefore noteworthy that the States Parties to the TPP decided to retain ad hoc investor-State arbitration.  (However, consistent with the 2004 and 2012 US Model BITs, the TPP includes the option to incorporate an appellate mechanism “developed in the future under other institutional arrangements”, see TPP, Article 9.22.11)  


It is also interesting to compare the TPP with another deal in that region, the

China-Australia Free Trade Agreement (‘ChAFTA’), which was signed in 2015.  Like the TPP, ChAFTA retains arbitration as the mechanism for settling investor-State disputes.  But the treaty also includes several innovations, including the express exclusion of legitimate and non-discriminatory regulatory measures from treaty protection in Article 9.11(4), and a procedure whereby the States Parties have the opportunity to agree after a dispute has arisen whether or not an investor’s claim falls within that exclusion, see Article 9.11(6) ChAFTA.


In light of the 

promise by the new US administration to overhaul America’s trade deals, and with the UK soon to embark on its voyage of post-Brexit trade deal-making, it remains to be seen whether or not an investment court system will gain enough global support to become viable, and indeed the extent to which we may witness a regional divergence of investor-State dispute settlement mechanisms.   


  


Paul Barker is a barrister specializing in international arbitration and public international law.  He has acted as counsel or tribunal secretary in investment treaty arbitrations under ICSID, SCC and UNCITRAL Rules, and in ICSID annulment proceedings.


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