Reply to EFILA

This post is by David Schneiderman (University of Toronto), Kyla Tienhaara (Australian National University), and Gus Van Harten (Osgoode Hall Law School).

We respond to the European Federation of Investment Law and Arbitration (EFILA) paper called “A Response to the Criticism Against ISDS” (17 May 2015). EFILA is a pro-ISDS group that appears primarily to represent the ISDS arbitration industry. Among other things, the EFILA paper purports to address “often voiced myths” and “one-sided” arguments made by “radical critics” against ISDS. We reply here from the perspective of specialist academic researchers in ISDS who reject these dismissive descriptions of ISDS opponents.

We do not intend to give an exhaustive reply to the EFILA paper, or to reproduce EFILA’s claims in any detail. Rather, we intend to respond briefly to some of the more troubling points made by EFILA and to take note of a few things with which we agree. Our broader aim is to contribute to the debate over ISDS in the hope of improving dialogue about ISDS.

On Pro-Investor Interpretation in ISDS:

EFILA argues — as do many ISDS promoters — that concerns about pro-investor interpretations of investment treaties are misplaced because the majority of ISDS case are not decided in favour of the investors. This argument is based on a massaged presentation of the numbers on “wins” and “losses” in ISDS because it (1) conflates the results at the jurisdictional and substantive stage of ISDS cases as outlined here; (2) puts aside the large number of settlements in which foreign investors are also fairly described as “winners” and states as “losers” based on the expectation that ISDS helped the investors to get a public pay-out or a regulatory change that was not otherwise available; and (3) downplays the inability of states to be “winners” in ISDS, in the manner of a foreign investor, because the treaties do not allow states to sue and recover a damages award from a foreign investor. Put differently, ISDS is like a football game in which foreign investors take a series of penalty kicks and states have to stop them all in order to avoid losing.

Also, critics do not contend that ISDS is completely fixed such that foreign investors win all or the great majority of cases. Indeed, concerns about potential bias in ISDS may work against some investors, especially when they bring claims against a powerful state such as the United States. Also, if investors won all of the time, states would withdraw and the system would collapse. Nevertheless, investors win a substantial percentage of cases and, for the reasons below, they appear to win more cases that one would expect them to win in a judicial process. In such a process, for example, it is reasonable to expect that a great number of ISDS cases would not be allowed to proceed. About half of ISDS cases appear to relate to a contract that is likely to have its own clause on dispute settlement. In a judicial process, such cases would typically be referred to the contractually-agreed forum and not allowed as a parallel treaty claim. Not so in ISDS, as constructed by ISDS arbitrators.

Primarily, critics of ISDS point to expansive interpretations – such as the informal policy in favour of parallel treaty claims –  embraced by investment tribunals. The EFILA paper takes notice of one study by Van Harten which shows that ISDS arbitrators are more likely than not to take jurisdiction over an investor’s claim, especially in cases where investors are nationals of capital-exporting states. However, EFILA complains that there is no equivalent study revealing an expansive approach on questions of substantive rather than jurisdictional interpretation.

As it happens, a follow-up study not yet published by Van Harten deals with the resolution of substantive issues (arising from the same dataset as the jurisdictional study). The follow-up study confirms the findings in the previous study and supports the hypotheses in that study. In summary, it was found that arbitrators tended by a ratio of about 3 to 1 to resolve substantive issues expansively and that this tendency increased significantly when the investor was from a major Western capital-exporting state, particularly the United States, United Kingdom, or France. The cumulative results of both studies also indicated that the tendency toward expansive resolutions decreased significantly when the respondent country was the United States.

In any event, perhaps the most essential point in Van Harten’s empirical study was the same as that stressed in the Corporate Europe Observatory and Transnational Institute report that is criticized by EFILA: the inherent uncertainty in empirical studies on potential bias in adjudication reinforces the case for institutional safeguards of independence to protect against reasonably perceived bias as well as actual bias. In our view, that CEO/ TNI report has done more than any single publication to draw the attention of policy-makers and the public to the important and glaring absence of judicial safeguards in ISDS.

EFILA was selective in its presentation of Van Harten’s empirical research, especially because it did not discuss his book published by Oxford University Press in 2013, which reported, based on a content analysis of over 160 cases, that there is little evidence of court-like restraint by tribunals in the exercise of their review function. The absence of such restraint was clearest in their review of legislative and executive decision-makers. The extensive findings in this book offer further evidence that the lack of judicial safeguards in ISDS has had a meaningful impact on outcomes in ISDS at the expense of the institutional role of legislatures and governments.

On Divergent Interpretation in ISDS:

Like most supporters of ISDS, EFILA sees little problem with divergent, even directly conflicting, tribunal interpretation of investment treaties. Consistency and predictability in the ability of states and citizens to enact policy agendas – and plan for their financial costs – appears not to be a pressing concern for EFILA.

On Lack of Independence and Impartiality in ISDS:

Though it is supported by empirical evidence revealing expansive interpretation of investment treaties by ISDS tribunals, this concern also is treated dismissively by EFILA. We find it problematic that supporters of ISDS are often eager to accuse others of being motivated by self-interest but not themselves even though, in our experience, most ISDS supporters are members of the ISDS arbitration industry.

On the Elite Group of Party Arbitrators in ISDS:

EFILA does not dispute the fact that a small club of arbitrators dominate ISDS. This is a matter of “party choice,” they claim, and parties are “able to change it.” The emphasis on party choice highlights the privileged status of foreign investors in ISDS, considering that no other affected parties – domestic companies, local communities, or private individuals accused of misconduct in an ISDS dispute – can have full standing alongside the state in ISDS proceedings.

EFILA’s position also downplays the power of default appointing authorities, especially at the World Bank, to choose arbitrators. Because those appointing authorities appoint from the club, states and investors both have an incentive to continue to draw from this same small pool. The legitimate fear of the parties is that they will be disadvantaged if they appoint “outsiders” who are less likely to have power or influence over co-panelists because they are not senior members of the club.

On Exorbitant Costs in ISDS:

EFILA admits that costs of investment arbitration are high but so are costs, they argue, in domestic courts. Costs in domestic courts, at least in the first instance, are not going to be as stratospheric as those in a privatized system of justice where everyone in the room, even the owner of the room, is paid a fee. EFILA also does not address the key reason why costs have exploded in ISDS: the system allows special access to a uniquely wide-ranging and retrospective remedy of compensation against the state for its legislative, policy, and judicial decisions. In plain language, ISDS is costly because it offers a lucrative opportunity for lawyers to earn high fees and to enrich their clients at public expense. Contrary to EFILA’s impression, in the vast majority of cases, the clients enriched by the public have been large corporations or very wealthy individuals.

On the Chilling Effect due to ISDS:

EFILA alleges that there is “no basis in political science or analysis of international (investment) law and ISDS statistics” to claim that investment arbitration results in regulatory chill. EFILA relies on a study by Caddel and Jensen which purports to show that most ISDS cases (47%) concern executive or administrative acts, while a minority of disputes (9%) concern legislative acts. There are several problems with relying on this study.

First, the authors appear to assume that executive and administrative decisions are not made in the public interest or that they cannot be chilled. This is belied by many ISDS cases such as the recent Bilcon ruling against Canada. That ruling concerned an administrative decision by an independent Canadian environmental review panel, and adopted by two levels of government, that recommended that Bilcon’s proposal for a quarry be denied because of potential adverse social and environmental affects. The dissenting tribunal member declared in a separate opinion that the decision was “a significant intrusion into domestic jurisdiction” and that it “will create a chill on the operation of environmental review panels.”

Second, there is a big methodological problem with EFILA’s reliance on this study. Caddel and Jensen coded cases as ‘executive’ or ‘administrative’ only if they viewed the primary target as being an executive or administrative act, even if a legislative measure also was being challenged. If one examines a similar dataset and counts every case that involved a challenge to a legislative action, then the percentage is much higher than EFILA reports (approximately 37% not 9 %).

While we are reluctant to invoke anecdotal evidence, leading arbitration lawyer Toby Landau stated on Australian radio that:

[Regulatory chill] definitely exists, and there’s palpable evidence of it. There are those who deny it, but I can say that, in my role as counsel, on a number of occasions now, I’ve actually been instructed by governments to advise on possible adverse implications or consequences of a particular policy in terms of investor-state cases.”

EFILA then claims that the current disputes “most commonly mentioned as causes of regulatory chill,” namely the Australian plain packaging initiative, “are still pending and have not led to actual changes in legislation.” EFILA appears not to be aware of evidence reported in the scholarly literature, such as research by Schneiderman concerning abandonment of a similar plain packaging initiative by Canada in 1994. The proposal was dropped after a threat by former US Trade Representative Carla Hills, on behalf of two large U.S. tobacco manufacturers, that the Canadian government would be sued for hundreds of millions of dollars under NAFTA.

The point we wish to stress is that governments may have abandoned a range of public interest measures, sometimes without public knowledge, due to the threat of an ISDS claim or an actual claim. In our experience, governments prefer not to make public such cases of regulatory change due to ISDS. We are aware of such cases that are not public and not reported in the literature, based on confidential interviews with government officials. It is irresponsible to deny the existence of regulatory change due to ISDS for any particular government or country (let alone all of them!) in the absence of independent, thorough, and public investigation of the issue, for any individual government or treaty.

A final argument in the EFILA paper is that measuring regulatory chill is “virtually impossible.” As scholars who have directly studied regulatory chill, we would be the first to admit that this topic is complex and presents challenges for researchers. But this does not mean that the regulatory chill hypothesis can simply be rejected. The appropriate response is to devote resources into overcoming the methodological obstacles. Above all, governments should be pressed to organize independent, thorough, and public reviews of the prospect of regulatory chill due to ISDS where there is a reasonable basis to expect its existence.

On the Rule of Law in the US and EU:

It is apparently of little consequence to EFILA that European and North American countries have efficient and well-functioning courts that can resolve disputes between investors and states. This should be “irrelevant,” they claim; countries “that enact laws and regulations with due process and respect the rule of law having nothing to fear from international arbitration.”

This claim by EFILA flies in the face of the available evidence. Canada is the only Western developed country that has accepted broad-based ISDS with the United Sates. Canada has faced 35 investor claims under NAFTA, and is among the five most sued countries in the world. Canada has, by our count, won seven and lost seven, with numerous significant cases ongoing. The U.S. has also faced a significant number of claims by Canadian investors and, as is well known, has yet to lose a NAFTA case. It seems, according to EFILA’s logic, Canada is a state that enacts laws without due process and that does not respect the rule of law whereas the United States upholds both principles perfectly.

On Brazil’s Record of Attracting FDI Without BITs:

To its credit, EFILA accepts that evidence of a correlation between signing BITs and attracting inward FDI is ambivalent. The results are “heterogeneous,” they acknowledge. In addition to methodological difficulties, Brazil’s record of attracting new inward investment without having any BITs in force has proven awkward for ISDS proponents. All of this, we notice, contradicts the unfortunately misleading claim in the EFILA paper that ISDS “will encourage” investment flows.

In response to the Brazilian example, the EFILA paper offers two principal arguments. First, EFILA admits that there are other determinants to inward investment other than the signing of BITs. We agree with this statement. Second, no study has shown that signing BITs had a negative impact on FDI flows. Even Brazil’s new investment treaties, which do not include ISDS, underscore the necessity for an international legal framework, according to EFILA. If this is an endorsement of the Brazilian BIT model as a preferable alternative to ISDS, we support that position.

EFILA concludes that ISDS should remain a component of investment treaties so long as it cannot be shown that the treaties are harmful to investment flows. There is very little accounting in this assessment for the potentially vast costs of ISDS to the public in the form of pay-outs to large corporations and very wealthy individuals, and the costs to the public and investors in the form of pay-outs to ISDS lawyers and arbitrators.

On The Conclusion:

The EFILA paper downplays the current controversy over ISDS. They attribute it to Europe’s “growing pains.” This symptom, they claim, is similar to the heated debate that was generated when U.S. President George W. Bush sought fast track authority from Congress in 2004. The interesting fact is that this debate continues to cycle through Congress and is occurring again this year. We do not see the controversy going away any time soon. We expect that the legitimacy of ISDS will continue to be challenged in Europe and around the world as more and more policy-makers and people become aware of the deep flaws in ISDS.