Proportionality in Investment Dispute Resolution

Yuniarti

Faculty of Law, Universitas Airlangga, Jalan Dharmawangsa Dalam Selatan, Surabaya, Indonesia

Keyword: investment, proportionality principle, fair and equitable treatment.

Abstract: Investment dispute resolution mechanism is a enhanging broadly recently. The concern in this field is appear

from the existing of a new model of dispute resolution that was introduced by the European Union which

known as the Investment Court System. The question to this new mechanism is wether it apply the same

mechanism as the investor state dispute settlement or it made a new resolution by its new system. There are

several system that can be apply for resolve investment matter, they are the state to state dispute resolution,

the investor state dispute resolution, the international commercial arbitration, and the domestic court

mechanism. However, all those system need to apply a principle in order to gain justice, that is the

proportionality principle. This article will analyze the proportionality principle in the investment arbitration

dispute resolution.

1 INTRODUCTION

Investor- State Dispute Settlement (ISDS) is one of

the mechanisms for resolving direct investment

(FDI). In this dispute resolution mechanism, the

investor who feels that he has been harmed by the host

State can sue Host State in question into arbitration.

Since the end of 1990, the use of ISDS began to

bloom and continue to increase significantly (Jeswald

W. Salacuse, 2013). However, this mechanism turned

out to contain problems that made Host State become

increasingly reluctant with this dispute resolution

mechanism.

Firstly, The shortcomings that exist in ISDS have

caused a loss of public trust and therefore, an

alternative to a more credible dispute resolution

mechanism is needed. The problem contained in

ISDS show that this dispute resolution mechanism

cannot achieve the desired justice and neutrality.

There are some problems within the investor state

mechanism. Firstly, the appeal Mechanism. In the

existing ISDS mechanism, there are no institutions

that have the authority to correct jurisdictional errors

and ensure the consistency of the resolution of these

disputes, as benefits an appeal institution against

judicial decisions. The absence of an appeal process

is seen as a harassment of the values of justice and an

effective legal system so that this can be seen as

setback in the spirit of democracy. The ISDS system

currently only has very limited examination of the

decision of ISDS, whose function is only to cancel the

decision in question based on limited basics as stated

in Article 52 of the ICSID Convention.

Secondly, the Inconsistency of Arbitration

Decisions (Inconsistency in Arbitral Decisions).

ISDS decisions are considered to have no consistency

due to the lack of attachment to rule of precedence,

and the adoption of an ad hoc tribunal system that

creates separateness between each dispute resolution

process. This causes a decision decisions in ISDS are

unpredictable and threaten the value of the rule of

law. Therefore, the position of the State as Host State

which is also a container of public interest is

threatened.

Thirdly, Lack of Transparency. The existing

ISDS is also considered to have failed in realizing the

principle of transparency and openness. Not all ISDS

arbitration documents including their decisions can

be accessed by the public. This is due to ISDS who is

bound by ICSID regulations requiring the consent of

both parties to the dispute for the publication of ISDS

decisions. However, secrecy is beneficial for the

parties to the dispute and because of this, the

disputing party's agreement tends to be difficult to

obtain so that the ISDS decision can be published.

Those problems raise an issue in international

investment dispute settlement on the fundamental

principle which have to be implemented during the

adjudication process. Interntional rule of law assume

Yuniarti, .

Proportionality in Investment Dispute Resolution.

DOI: 10.5220/0010049701070112

In Proceedings of the International Law Conference (iN-LAC 2018) - Law, Technology and the Imperative of Change in the 21st Century, pages 107-112

ISBN: 978-989-758-482-4

107

to used in the dispute mechanism, since it will need

to consider the gap of the jurisdictions of the parties.

2 INTERNATIONAL

INVESTMENT AGREEMENT

TO PROTECT

International Investment Agreements (IIAs) has no

longer viewed merely as a private or commercial

device to protect legitimate expectations of foreign

investors. The emergence of rule of law in investment

law needs a multi-dimensional and non

compartmentalized approach on international

investment law. IIA involves the promulgation of

public interests issues such as sustainable

development, environment, human rights, health, etc,

thus it must be viewed as a ‘system of governance’

instead of merely economic instrument. This also

means that the establishment of IIA must be met with

the principle of distributive and procedural justice,

including the principle of rule of law. The need to

protect public interests and the right of state to

regulate has become the major key concern of the

reconceptualization of IIAs. In fact, the emergence of

eco social justice and the revival of calvo doctrine

promoting state sovereignty over natural resources

has shifted the neo liberalism to protectionism and

nationalism paradigm. IIAs are not only about to

protect the economic interest of the private parties,

but it is also a matter of the state’s responsibility to

protect the public interest of the local communities.

This has led to the legitimacy crisis and global

backlash against the existing IIAs.

The establishment of IIA involves the sovereign

economic and political power of the states to set a

basic legal framework in investment sector. As part

of economic governance system, IIA provisions must

ensure justice and rule of law for all stakeholders

involved in foreign investment regime. The negation

of rule of law principle may lead to asymmetric focus

on extensive protection of investor’s substantive

rights at the expense of the protection of public

interests. If it is observed from the existing IIAs, there

is no explicit provisions as regard to investor’s

liability. The pro investor bias and open ended

standard protection under the existing IIA have led to

many investment disputes involving social issues

implicated by investment. The expansive protection

of foreign investor under the IIA will certainly restrict

the regulatory flexibility of the host states. This

situation is more compounded by the domination of

dispute settlement mechanism through Investor State

Arbitration (ISA). Under the principle of ‘arbitration

without privity’, ISDS (Investor State Dispute

Settlement) has been increasingly used to challenge

the regulatory systems and policy choices of the host

states. Therefore, the reconceptualisation of IIAs is

urgently required in order to strike a proportional

protection between the investor’s legitimate

expectation and the host state’s right to regulate as

regard to the protection of public interests

Firstly, this article will analyse a basic concept of

the principle of rule of law and how this principle is

approached in international investment law. The

divergence conceptions of national and international

level of rule of law needs an adoption of transnational

rule of law. Secondly, substantive and procedural

justice in the establishment of the IIA as the basic

attributes of the rule of law will be examined. At the

substantive level, the principle of rule of law needs a

proportional allocation of rights and liability between

the contracting parties in the IIAs. At the procedural

level, to what extent the principle of rule of law has

been adopted by the arbitral tribunal in conducting

arbitral proceedings and the interpretation of

investment treaties will be discussed. Based on the

principle of rule of law, investment agreements must

be viewed as good governance instrument that require

the implementation of administrative and

constitutional law standards such as proportionality,

legal predictability, and transparency.

The principles of justice, fairness, reasonableness,

accountability and morality as the basic elements of

the rule of law have not been properly approached in

the establishment of the very existing IIAs. At a

certain point, it is true that investment treaty is

urgently required to protect economic interests of

foreign investors in the host states in order to restraint

abuse of power of the host government. However, this

is not merely the case. This view rests on

compartmentalized approach to investment law. In

this context, investment law is isolated from

constitutional justice issues as the basic element of

the rule of law. To date, the very existing investment

treaties had been considered merely as an economic

instrument to boost FDI (Foreign Direct Investment)

despite the fact that there is still a debatable issue

whether FDI can boost economic welfare of the host

states. Investment liberalization has become the

major underlying basis of the establishment of

investment treaties. Accordingly, investment treaty

mostly depends on the protection of foreign

investment. This has resulted in the imbalance

protection of the interests of investors and the host

states leading to the negation of the protection of

public interests of the host states.

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The principle of justice as the basic attribute of

‘rule of law’ entails responsibilities and duties with

regard to the protection of public interests for the

local society. This needs a more transparent

proportionality balancing of competing rights and

obligations in multilevel judicial protection of

fundamental rights across frontiers. According to

Sornarajah, both investors and the host states have

obligations relating to human rights, environmental

norms and the promotion of economic development

of the host states. The recognition of the obligation of

investors i.e. multinational corporations towards host

states and the local communities in which these

corporations operate need to be expressly

incorporated in the investment treaties. These

obligations include: (1) obligation not to interfere in

the domestic politics; (2) obligations relating to

human rights; (3) liability for violations of

environmental norms; (4) the liability to promote

economic development. Competing public and

private interests in investment treaty can be

reconciled and integrated through proportionality

principle focusing on ‘trade off’ of economic and

constitutional rights. As regard to the obligation of

investors to promote economic development of the

host state can be examined from the case of Joseph C

Lemire v Ukraine

in which case the tribunal

claimed that economic development should benefit

all stakeholders affected by the investment. This

demonstrates the rejection of one-sided interpretation

in favor of foreign investors by emphasizing that the

treaty objectives of promoting economic

development by utilizing investor protection as a tool

to achieve national objectives. This emergence of

explicit exceptions reserving state rights to protect

non-economic public interests asserts the urgent for a

balanced interpretation by taking into account both

state sovereignty and the necessity to protect foreign

investment. There must be a balanced between the

preferential treatment for the investors and the right

of state to regulate for the protection of public

interests. This involves the balancing proess between

the objective of foreign investors and other legitimate

public interests. This principle will serve the purpose

to determine whether substantive rights provisions

under the IIAs can be objectively and reasonably

justified and proportional.

The proportionality principle involves ‘a trade-

off’ mechanism which resolves conflicting norms,

principles and values. The most basic function of this

principle is intended to control and limit the

discretionary authority of the host state as a sovereign

state. It needs to define the limit of host state’s

authority to regulate as to what necessary in the public

interest through the exception clauses. The principle

of proportionality is also directed to balance the rights

and obligations of investors and host states through

reasonableness test. This test requires that the

protected right or interest must be suitable, necessary

and proportionate. The proportionality principle

involves three assessment steps. Firstly, it must be

determined whether the domestic regulatory measure

can be justified in accordance with the public policy

exception. Secondly, the relationship between the aim

pursued and the measure adopted will be assessed.

The measure needs to be ‘necessary’ to protect a

specific public policy objective.

This also means that

the protection of the interest is not excessive. Thirdly,

it has to be assessed whether the effects of a measure

are not excessive in relation to the interest affected.

The application of the rule of law and the principle of

proportionality in the establishment of an

international investment agreement is also reflected

in an attempt to provide a standard of judicial and

legal restrictions on the scope of legal norms

contained in clauses in the investment agreement.

This is reflected through the efforts to clarify

substantive treaty provisions, reaffirm public interests

through exceptions/exclusion and the establishment

of binding interpretation of the content of the

investment agreement. The word ‘necessary’

illustrates that, the protection of public interest must

be construed narrowly.

The following section provides a brief overview

of the proliferation of new model reform of

international investment agreements. This relates, in

particular, to the issue of clarifying the concept of the

FET (Fair and Equitable Treatment) and FPS (Full

Protection Security), specific provision of the ‘right

state to regulate’ and the idea of establishing a reform

on ISDS mechanism, reaffirming public interests

through the establishment of general exceptions

clause based on the principle of rule of law and

proportionality.

2.1 General Exceptions

The open-ended standard protection under the very

existing IIAs had restricted the regulatory flexibility

of the host states to pursue public interest objectives.

The expansion of the protection of legitimate

expectations of investors through IIAs has created

imbalance that may be detrimental to sustainable

development and human rights. As a result, the host

states have defended many claims and challenged

many awards before the International Centre for

Settlement of Investment Dispute (ICSID) annulment

committees.

The main reason for the disregard by

Proportionality in Investment Dispute Resolution

109

Investor State Arbitration of the customary law

requirement of settling investment disputes in

conformity with principles of constitutional justice is

the lack of adequate judicial remedies and unequal

allocation of rights and duties. An expansive, open

ended and one-sided protection in favor of investors

in IIAs is an example of the self-interests of host

states government in limiting their legal and judicial

accountability for the economic welfare of the local

communities.

The new modern of IIAs, in particular BIT,

provide for a list of general exceptions from the BIT

obligations. The adoption of ‘general exceptions’ in

some BITs amongst the developing states is in

conformity with economic evolution from traditional

capital importing states to capital exporters.

The

host states which want to justify their national

policies as BIT consistent and invoke public policy

exceptions in one of the BIT provisions. Accordingly,

not all of government measures or regulatory takings

can be considered as the violation of the legitimate

expectation of the investors under the BIT. Any

domestic measure, in order to qualify as lawful

exceptions under the BIT, needs to comply with the

conditions laid down in this provision. In order to

justify public policy exception, it has to be measured

the relationship/connection between the aim pursued

and the measures adopted.

The proportionality principle requires that a

regulatory measure must be ‘necessary to’ protect a

specific public policy objective such as public morals,

human rights, environment, and public health. The

equal protection of public and private interests in IIA

reflects the increasing recognition of local

communities as legal subjects and democratic owners

of international law. The incorporation of public

policy exception will justify judicial clarification of

indeterminate and open-ended BIT standards of

protection in conformity with governmental

obligation to protect individual rights. The

‘constitutional democracy calls for legal and judicial

protection of the constitutional rights of investors,

and the legitimate rights of locals or nationals.’ This

multilevel regulation of investments demonstrates the

need for multilevel constitutional safeguards of

public interests against abuses of public and private

powers at nationals and international levels. By

incorporating public policy exception in the IIAs can

contribute to the clarification and strengthening of the

legitimacy of constitutional rights and provide a more

focus on discretionary government powers with

adequate legal and judicial remedies for citizen. It

should be bear in mind that the reconciliation of

public and private interests must remain consistent

with the principle of rule of law i.e. justice and

fairness. Under the proportionality principle,

objective justification of public policy exception is

not without limit and it is applied narrowly. In other

words, the measure applied must confirm to the

demand must be legal. This has also been adopted in

Article 17 of the A Comprehensive Investment

Agreement (ACIA) provides that any measures and

policies taken by the host state which are ‘necessary

to’ protect public moral, public order, human and

health cannot be considered as the violation of the

BIT. This provision is similar to Article 8.9 of the

Canada-EU Comprehensive Economic and Trade

Agreement (CETA) on investment and regulatory

measures. It explicitly preserves the right to regulate

and to protect legitimate policy objectives such as

public health, safety, environment, public morals,

social or consumer protection and the promotion and

protection of cultural values. Despite the fact that this

provision attempts to preserve the right of state to

regulate in foreign investment regime, it also refers to

a restrictive interpretation of the exceptions in order

to provide a proportional protection. This can be

noted from the wording of paragraph (1) of Article 17

which states that: “Subject to the requirement that

such measures are not applied in a manner which

would constitute a means of arbitrary or unjustifiable

discrimination between Member States or their

investors where like conditions prevail, or a disguised

restriction on investors of any other Member State

and their investments”. In addition, this narrow

approach is also exemplified from the word

‘necessary’ which shows the elements of the principle

of proportionality. This means that only if there were

no alternative measures consistent with the

investment agreement or less consistent with it, which

the host state could reasonably be expected to employ

to achieve public policy objective.

From these two

points, a measure’s legality is not only necessary, but

it also must be applied equally. In this context, the

wording of ‘general exceptions’ also provides

specific guarantee that the regulatory

takings/measures will not be taken in an arbitrary or

unjustifiable discrimination. Other exceptions in

Article 17 of ACIA are subject to the condition that

the measure is ‘related to’ a legitimate public policy

objective such as conservation of exhaustible natural

resources. Compared to the word ‘necessary to’, the

term ‘related to’ demonstrates a looser degree

connection between the measure and the aim than the

stricter necessity test. This term is considered more

flexible compared to ‘necessary requirement’. In

other words, it can either be interpreted extensively or

restrictively.

However, arbitral tribunal tends to

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interpret the term ‘related to’ inconsistently. It refers

to either expansive or restrictive interpretation. The

term ‘essential security interests’ is defined by

reference to the concept of state necessity under the

customary international law. Under the customary

international law, security exceptions more likely

refer to a minimum standard of protection. Thus, it

refers to a restrictive interpretation of the exception.

However, this is not always the case. In the absence

of express exceptions, it may allow tribunals to

consider an unlimited list of legitimate government

measures. In order to avoid ‘vagueness’, ambiguity

and inconsistent interpretation of the exception at the

first stage, it needs to be clarified and defined in the

IIA. This may limit the authoritative power of the

tribunal to interpret those terms. The absence of

specific definition of the words ‘necessary to’ or

‘related to’ may lead to legal uncertainty. Other

formulation of IIAs more likely prefers to use the

word ‘good faith’ which basically also refers to a

more restrictive interpretation of exceptions. This

elaborates that the substantive protection found in

treaties must be provided in a manner that is

consistent with the rule of law i.e. the principle of

proportionality and reasonableness.

This provision is more likely intended to provide

greater regulatory flexibility to host states in pursuing

the specific legitimate objectives established in the

exceptions. The absence of the term ‘necessary to’ in

this provision suggest that the intention of the parties

in including an express intention is to provide more

regulatory space to the host sate to regulate than in the

provisions of ACIA. However, the term ‘legitimate’

in this provision may also refer to restrictive

interpretation of policy concern. The scope and

application of this provision is crucial for the

investors and the host states. Due to the lack of

certainty, the interpretation of general exceptions in

IIAs raises many interpretative issues. In fact, in the

absence of precise definition of the general

exceptions, the arbitral tribunal tends to interpret the

provision by referring to the excuse necessity under

customary international law. From this point of view,

it remains questionable and uncertain whether

exceptions provision would ensure the protection of

public interest of the host state. Restrictive and

expansive approaches can be adopted by the tribunal

with regard to the interpretation of general exceptions

in IIAs.

3 CONCLUSION

The Proportionality in investment dispute resolution

is an important aspect to proceed within the

investment dispute resolution settlement mechanism.

However, the implementation of this principle can be

implemented with an exception. Accordingly,

‘general exceptions’ does not always lead to greater

regulatory flexibility of host states in pursuing the

specific legitimate objective established in the

exceptions. A narrow approach to the general

exceptions may provide less policy space to host

states. In this case, the tribunal tends to interpret this

vague rule in favor of the protection of covered

investment as the main objective of BIT. Therefore, it

is argued that the public policy exception and the right

state to regulate must be incorporated both in the

preamble and the body text of the IIA. The

interpretation of a treaty comprises both its preamble

and the text. This can be noted from Article 31 (2) of

the Vienna Convention on the Law of Treaties

(VCLT). In addition to this, a joint binding

interpretation as regard to the general exception

should also clearly incorporated in the agreement,

thus it is not solely based on the discretionary power

of the arbitral tribunal.

The general exception clause should be framed

within the concept of the rule of law. Based on the

principle of the rule of law, general exceptions clause

must be based on the creation of substantive and

procedural justice and fairness. In terms of

substantive fairness, the wording of general

exceptions shall be formulated narrowly and devoted

to the protection of the public interest or public

morals which is fundamental and based on the

legitimate regulatory framework or policy, not

because of political interests. In other words, there

must be an exhaustive list of general exceptions. The

word ‘necessary’ in the wording of general

exceptions refers to a more restrictive and exhaustive

interpretation. By borrowing the method that has been

applied by the Appellate body of the WTO, the

interpretation of the word ‘necessary’ requires a

process of weighing and balance a series of elements

including the essential contribution made by the

measure to the policy objective, the fundamental of

the public interest protected by the measure and the

of the measure to the policy objective, the essential

contribution made by the environmental measure to

the policy objective and the implication of the

measure on international investment.

Proportionality in Investment Dispute Resolution

111

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