Why does ISDS matter?

DISCLAIMER: All opinions in this column reflect the views of the author(s), not of EURACTIV.COM Ltd.

Commissioner Malmström is a supporter of ISDS. [ALDE Communication/Flickr]

Jonathan Peel debunks some myths about ISDS, and explains why business supports investor protection.

Jonathan Peel is a member of the Employers’ Group of the European Economic and Social Committee, vice-president of the EESC REX section and the author of a counter-opinion on ISDS, filed by the Employers’ Group during the last EESC Plenary Session.

The key to the ISDS controversy lies in the ability of companies who invest in another country to protect their interests when under threat. Foreign Direct Investment (FDI) is an important contributor to economic growth and jobs, but companies that so invest are ipso facto taking a specific risk.

If two countries desire to promote economic relations with each other through an International Investment Agreement (IIA), each will promise the other that they will guarantee certain levels of treatment to investors and investments from the other country. States look to include provisions to protect their own companies against discriminatory actions of trade partners.

These promises then need to complete full domestic ratification processes. They do not in any way prioritise corporate interest over the right of governments to so regulate. In the interests of the rule of law governments need to be held to the guarantees they give. Foreign contractors need to be protected against disproportionate and abusive treatment, such as through direct expropriation, discrimination on grounds of nationality and unfair and unequal treatment when compared with domestic investors.

When matters go wrong, a neutral disputes mechanism is important. Investments are often very long term and political circumstances in host states can change. An IIA between two states (or Regions) involves international law. To be effective that needs an effective, balanced, international disputes settlement mechanism.

With most IIAs, however, the disputes settlement mechanism puts together individual companies and the host state through the Investor to State Disputes Settlement (ISDS) Procedure (Provision for ISDS is found in some 93% of the more than 3,250 IIAs signed to date, although the procedure has only been used in under 100, i.e. in less than 3%.). ISDS is retrospective in character. Unlike the WTO Disputes Settlement Procedure, if a state loses a case only payment of compensation is involved. It does not need to repeal the relevant legislation. Investment is not a WTO competency, being dropped from the Doha Round agenda in 2003.

Equally, it is unrealistic for an aggrieved company to expect that any dispute should automatically be taken up at State-to-State level, at political or diplomatic level. If companies were to rely on the EU to take disputes up on a State to State basis, very few could be so pursued, and smaller companies would be less likely to have their voices heard. Many cases between two mature democratic legal systems are unlikely, but if this Procedure were to become the norm, the number of cases would rise, with major resource implications.

As Commissioner Malmström herself has pointed out in connection with the TTIP negotiations, international law cannot be invoked in US courts, and no US law prohibits discrimination against foreign investors. In other countries, domestic courts may be less trustworthy.

Investment became an EU competency under the Lisbon Treaty. The EU-Canada trade agreement (CETA), together with the investment chapter in the EU-Singapore Free Trade Agreement, both yet to be ratified, are the EU’s first investment agreements. CETA includes an extensive investment protection chapter including provision for ISDS, which has gone a long way to address outstanding concerns, but ISDS needs to evolve further.

Over time a number of real and perceived abuses have arisen through the use of ISDS, which need to be addressed. ISDS needs to be updated. Apart from the principle of “Most Favoured Nation” (MFN), and the cover normally included by the Commission to deal with compensation in cases of war, revolution and so on, investor protection under an IIA and therefore open to the use of ISDS, needs to be restricted to cover the four substantive protections, namely

  • Not to discriminate on grounds of the nationality of an investor
  • A minimum standard of treatment, usually described as “fair and equitable”
  • Prompt, adequate and effective compensation when expropriation occurs (not discriminatory and with due process)
  • Allowing transfer of funds related to the investment

The EESC Employers’ Group also welcomes the four areas for further study on investment protection and ISDS identified by the Commission in January 2015 as a result of its public consultation on investment protection and ISDS in TTIP, following its inclusion in the mandate for the negotiations given unanimously by the member states. These covered:

  • The protection of the State’s right to regulate
  • The establishment and functioning of arbitral tribunals
  • The review of ISDS decisions through an appellate mechanism
  • The relationship between ISDS and domestic judicial systems

Due protection of the State’s right to regulate is essential, and any remaining ambiguities removed. As stated in the Committee’s Opinion on TTIP (REX/390), it is “essential that any ISDS provision proposed in the TTIP does not hinder the ability of the EU member states to regulate in the public interest”. Previous IIAs have been primarily drafted with the need to protect investments. Both CETA and the Singapore Agreement have tightened key definitions to avoid unwarranted interpretations and specifically refer to the right to regulate in the preamble to each agreement. The EESC Employers’ Group considers that this should now be included in the body of the relevant text, as a specific Article of any such agreement.

It is essential that arbitrators on ISDS tribunals must be fully impartial and not open to conflicts of interest. The EESC Employers’ Group urges that all arbitrators must be chosen from a roster pre-established by the Parties to the relevant agreement, and that clear qualifications are established for such arbitrators, notably that they are qualified to hold judicial office and have proven expert knowledge in the relevant fields of international law.

An appellate mechanism is also essential – a legal process without a right of appeal is rightly very rare, although this exists in current IIAs. The EESC Employers’ Group notes reference was made to an appellate mechanism in the original TTIP negotiating directives. Design of such a mechanism will be critically important, including the methods how members are designated, their qualifications and remuneration, together with any time limits to be applied. It should cover errors of law and errors of fact. Early consideration should be given as to whether a bilateral mechanism could be made multilateral, perhaps modelled on the WTO Appellate Body. Any such mechanism will involve extra costs, but that should be taken into account.

The relationship between ISDS and domestic judicial systems will be harder to resolve. IIAs are international agreements and domestic courts do not necessarily have the competence to interpret matters of international law. Even the best system can falter, but double claims should be prohibited. Either potential litigants should make a final choice at the start of proceedings, or lose the right to go to domestic courts as soon as they turn to ISDS.

A multilateral, International Court is the longer term answer. This needs to be developed in parallel with the development of ISDS in TTIP and elsewhere. It is imperative that some form of international investor protection remains whilst such an international body is negotiated and established.

It is important to ensure critical mass for the establishment of an International Court as the longer term objective for investment dispute settlement. The widespread acceptability of such an international appellate mechanism is likely to stem from it being set up through consensus, which should deal with potential related problems that all new international institutions, including the International Criminal Court, face.

The EESC Employers’ Group cautions against the suggestion that, as all “G7” members are currently involved in IIA negotiations, these start to develop an International Court separately by themselves. Critical mass can only be achieved if a much wider spread of countries involved from the onset, and the door is left open for others to join as and when they are interested.

In the meantime, the EESC Employers’ Group recommends the EU and the US to engage on a bilateral investment dispute settlement mechanism in TTIP.

A Business Round Table organised by the EESC Employers’ Group on the Transatlantic Trade and Investment Partnership, TTIP, concluded that: “An international agreement such as TTIP should create the right conditions to attract a high level of future investment in the transatlantic market. This includes granting ample access and non-discriminatory treatment for investors on both sides and improving the current framework for IP, including ISDS by making it more accessible to SMEs and striking a proper balance between investor rights, the right of states and local authorities to regulate in the public interest”.

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