Trading Sovereignty For Credibility: The Power Of MNCs

The first bilateral investment treaty (BIT) was signed in 1959 between Germany and Pakistan. 60 years later, more than 3,000 BITs form a governance network for international investment. BITs were initially intended to assure foreign investors that they will benefit from the same standard of governance in a host state as they would in their home state, regardless of the quality of a host state’s legal systems, particularly in cases of expropriation.

BITs usually include binding dispute settlement clauses, which allow foreign investors to bypass domestic legal routes in favour of international arbitration. Developing countries are motivated to sign BITs because they are assumed to make the state a more attractive designation for foreign direct investment, and that this will have beneficial spillovers with regards to development, economic growth and good governance. However, arbitration procedures allow foreign investors to undermine host states good governance efforts by subverting domestic institutions.

Moreover, since the early 2000’s, the regime has become increasingly contentious in the wake of high-profile international investment arbitration cases, which have increased states’ awareness of the potential and unintended ramifications of signing BITs. During this time there was an exponential increase in the number of disputes brought forward by investors against a host state, where the average award sought has been upwards of 500 million USD, although claims have been filed for several billion USD.

The nature of the disputes brought forward has been particularly controversial, with BITs used to induce regulatory chill, or cause an altogether reversal of public policy. BITs can and have been used by investors to challenge, in arbitration, legitimate government policies concerning public health, the environment, safety, security, cultural diversity, and financial services. Indonesia and Costa Rica have been identified as having abandoned environmental measures due to the threat of potential investment arbitration; it is impossible to know how many states have abandoned policy even before an arbitration claim has been filed. Professor Eric Neumayer has argued that in signing BITs, developing states have essentially traded ‘sovereignty for credibility.’

However, it is not only developing countries who are feeling the ramifications of the BITs they have signed. Two of the most publicized disputes were actually filed against Australia and Germany. In Philip Morris v Australia, the tobacco giant tried to force Australia to overturn plain-packaging laws. They were ultimately unsuccessful — the laws were deemed a legitimate public health measure — but the dispute did cause several other countries to await the result before instituting similar laws. In Vattenfall v Germany, the Swedish firm filed a claim for several billion USD after nuclear production was shut down in Germany following the Fukushima Daiichi nuclear disaster in 2011. These cases have forced developed countries to also reconsider their approach to governing foreign investors.

There are few examples of states that have successfully withdrawn from BITs; South Africa is a powerful one. Fearing arbitration claims in the wake of the establishment of its Black Economic Empowerment initiative, which mandated partial black ownership of all enterprises, the state introduced the Protection of Investment Act (2015), which provides a system of non-discrimination by formally granting the same protections to both foreign and domestic investors.

Due to the provision and threat of international arbitration, BITs consistently undermine the ability of developing states to craft policy and regulate foreign investors. The fundamental necessity of investment treaties, at least for developing states where there are strong institutions (such as domestic courts) that can adjudicate disputes, should be called into question.