New Developments on Investor-Versus-State Arbitration and their Implications: Impact of "Legalization" of Investment Treaties

Author Name KOTERA Akira  (Faculty Fellow)
Creation Date/NO. June 2005 05-J-021
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Since the later half of the 1990s, there has been a remarkable rise in the use of investor-versus-state arbitration clauses under investment treaties (hereinafter "investment treaty arbitration").

Points at issue that have frequently been raised in arbitration under investment treaties include (1) obligations to compensate for expropriation, (2) obligations to provide fair and equitable treatment, and (3) obligations to grant most-favored nation treatment. Of these, the first two points are often incorporated into arbitration decisions in cases where an investing company has suffered losses in a host country. It is rare that an arbitration tribunal supports an investing company's demand concerning compensation for expropriation. Regarding fair and equitable treatment, however, investors are often awarded compensation, with arbitration tribunals recognizing extensive rights of investors, and adopting a broader interpretation of the fair and equitable treatment obligations than is provided for under general international law (e.g., Metalclad v. Mexico, S. D. Myers v. Canada, Pope and Talbot v. Canada). As to the third point, most-favored nation treatment, recent arbitrations have upheld the principle that the government of a host country must ensure such treatment not only in substance but also in procedure (e.g., E. A. Maffezini v. Spain). This has raised the question of just how far the MFN obligation extends, shedding light on the hitherto undefined scope of the MFN principle.

Through these arbitration decisions concerning the accordance of fair and equitable treatment and MFN treatment, it now widely recognized that a host country's obligation to grant such treatment is greater than many countries believed they had undertaken under the various investment treaties. This has prompted some to question the legitimacy of investment treaty arbitration.

The question being asked is how a group of anonymous foreigners (arbitrators), in a case brought at the initiative of another foreigner (an investor), can conclude "behind closed doors" (i.e., where open and fair procedures are not ensured) that a decision taken by the national government, which represents all the people of a country, is illegal. Adding fuel to their anger is resentment over the fact that only foreign investors are entitled to use investment treaty arbitration; such mechanisms are not available to domestic investors. This leads to charges of "reverse discrimination."

In response to such criticism, measures are being studied to improve the transparency of investment treaty arbitration, as well as to ensure the consistency of arbitration decisions. At the same time, however, some countries are wary of and moving away from investment treaty arbitration, concluding investment agreements that do not adopt investment treaty arbitration as a means of dispute settlement (e.g., the investment chapter of the U.S.-Australia Free Trade Agreement).

The increasing use of investment treaty arbitration shows that the legalization of international relations (or the institutionalization of third-party dispute settlement procedures) is proceeding beyond the framework of the World Trade Organization. In the past, investors typically turned to arbitration with a complaint against the government of a host country only after withdrawing from the country. Recently, however, there have been an increasing number of cases where an investing company files a complaint while maintaining its operations in the host country. On the side of investors, it should be noted that the increased use of investment treaty arbitration has resulted in greater predictability in the investment environment. Meanwhile, governments, as users of investment treaties or free trade agreements (FTAs) that include provisions for investment, should, when negotiating such a treaty or agreement, bear in mind, that fair and equitable treatment and MFN treatment obligations may generate unforseen impacts when linked to investment treaty arbitration.