A Distinction Without a Difference? The Interpretation of Fair and Equitable Treatment Under Customary International Law by Investment Tribunals

Broad interpretations of the standard for fair and equitable treatment (FET) by investment tribunals have become a source of increasing controversy.[1]  Some countries—including the United States and Canada—have responded by attempting to limit FET to the standard of protection under customary international law (CIL), which is formed through the “general and consistent practice of states” that they follow out of a sense of legal obligation (opinio juris).[2]  The European Union, in contrast, appears to be committed to preserving a standard for FET that is not limited to CIL in exercising its new authority over investment under the Lisbon treaty.  These diverging approaches to FET are a point of contention in the negotiations on the Canada – EU Comprehensive Economic and Trade Agreement (CETA), and will also need to be addressed in the U.S. – EU Transatlantic Trade and Investment Partnership negotiations that will likely begin later this year.

In theory, linking FET to CIL results in a standard of protection that is more deferential to the regulatory authority of governments than the EU’s “autonomous” standard.  A CIL-linked standard should also have greater legitimacy given that it is rooted in the actual practice of states that they believe to reflect their international legal obligations rather than simply the pronouncements of investment tribunals.

In practice, however, investment tribunals continue to construe even CIL-based FET provisions to impose broad limits on government authority by accepting, without any evidence of state practice or opinio juris, the pronouncements of previous tribunals as definitive evidence of the standard under CIL.  The award in Railroad Development Corp. v. Guatemala[3] (RDC) is an example of this approach, which renders the linkage of FET to CIL largely meaningless.  The reluctance of investment tribunals to base their interpretations of CIL on actual state practice and opinio juris suggests that more aggressive approaches may be necessary to deter tribunals from adopting increasingly broad interpretations of FET.

Linking fair and equitable treatment to customary international law

Fair and equitable treatment provisions have been a standard element of investment treaties since Germany and Pakistan signed the first BIT 1959.[4]  These provisions—usually included within “minimum standard of treatment” articles—have been construed broadly by investment tribunals to include a right to a “stable and predictable” business and regulatory environment, allowing investors to seek compensation for changes in tax and regulatory standards.[5] As a result of these broad interpretations, FET provisions have become both the most frequently invoked and the most controversial substantive standard of protection in investor-state arbitration.

Much of the debate over FET has concerned its relationship to the customary international law standard of protection for aliens.  Although there has always been some inconsistency among investment treaties regarding the language of FET provisions, the contrast between the CIL-linked and autonomous approaches to FET came into sharper focus in 2001when the United States, Canada and Mexico issued a formal interpretation of NAFTA’s minimum standard of treatment article, clarifying that the minimum standard and its FET component were limited to the customary international law standard of protection of aliens.[6]

The United States and Canada have continued to link FET to CIL in subsequent international investment agreements and have been joined in this practice by other countries, including Australia and New Zealand.[7]  In theory, a standard for FET that is actually rooted in customary state practice should be relatively uncontroversial, given that it would be limited to the level of protection that states generally and consistently provide to foreign investors.

The BITs of the major European capital exporting countries, however, typically contain autonomous fair and equitable treatment provisions that are not limited to the customary international law standard of protection.[8]  Although the European Parliament has expressed support for linking the standard for FET to CIL in future EU investment agreements,[9] the European Commission has indicated that such agreements should incorporate the highest standards of protection of Member States’ BITs, presumably including autonomous FET provisions.[10]  The U.S.- EU High Level Working Group on Jobs and Growth has similarly called for a U.S. – EU agreement that includes “investment liberalization and protection provisions based on the highest levels of liberalization and highest standards of protection that both sides have negotiated to date.”[11]

The debate over the relationship between FET and CIL will likely be a significant issue in the U.S. – EU FTA negotiations.  The issue has already become a source of controversy in the negotiations on the Canada – EU Comprehensive Economic and Trade Agreement (CETA).  A leaked document from the European Commission indicates that Canada’s insistence that the CETA contain a FET standard that is limited to CIL “is a problem for the EU, as it may significantly reduce the level or protection for investment afforded by the FET standard itself.”[12]

Does linking FET to CIL effectively constraint its interpretation?

Although CIL is supposed to be based on actual state practice and opinio juris, in practice arbitrators tend to define the CIL-linked standard for FET in exactly the same manner as the autonomous standard: by reference to previous arbitral awards and academic writings, without any evidence of either state practice or opinio juris.[13]  This phenomenon is well-illustrated by the recent award in RDC v. Guatemala, in which the tribunal rejected the arguments of not only Guatemala, but also three other CAFTA parties including the United States, that CAFTA’s CIL-linked FET standard should be defined by reference to actual evidence of state practice and opinio juris.

The dispute arose out of a 50-year contract that RDC entered into in 1997 with FEGUA, a Guatemalan state-owned enterprise, to provide railway services in the country.  RDC charged in 2005 that FEGUA has breached its contractual obligations to remove squatters from the railway right of way and to make payments to a Railway Trust Fund.  In 2006, Guatemala terminated the contract granting RDC the right to use FEGUA’s railway equipment on the grounds that it was contrary to the national interest.         RDC brought a claim under the Dominican Republic – Central America – United States Free Trade Agreement (CAFTA), arguing that Guatemala had violated several provisions of CAFTA’s investment chapter.[14]  The tribunal concluded that in terminating the contract Guatemala had failed to provide RDC with fair and equitable treatment in violation of Article 10.5 of CAFTA, which states that “each Party shall accord to covered investments treatment in accordance with customary international law, including fair and equitable treatment . . . .”[15]

The tribunal’s approach to identifying the relevant standard of protection under CIL was much more interesting than its decision concerning Guatemala’s breach of the standard.  Guatemala argued that RDC had the burden of demonstrating the relevant standard under CIL, and that in discharging that burden it could not simply rely on previous awards of investment tribunals as either constituting or proving state practice.[16]  Three other CAFTA Parties—the United States, El Salvador and Honduras—made “non-disputing Party” submissions in which they supported Guatemala’s position that RDC had the burden of demonstrating the relevant standard under CIL based on state practice and opinio juris rather than arbitral awards.[17]

The RDC tribunal, however, did not base its conclusions concerning the relevant standard for FET on a review of state practice and opinio juris.  Instead, it simply adopted the broad formulation applied by the tribunal in Waste Management II, an investment arbitration under Chapter 11 of NAFTA, which indicated that FET encompassed due process, transparency, and “natural justice.”[18]  The RDC tribunal acknowledged that the Waste Management II characterization of FET was itself based on previous NAFTA awards rather than state practice.

The tribunal conceded that “arbitral awards do not constitute state practice,”[19] but characterized their use to define CIL as “efficient.”  This rationale for reliance on arbitral awards to determine the content of CIL is unpersuasive. Although arbitral awards may be an “efficient” source of opinion evidence concerning the content of CIL, they are of limited probative value when, as in RDC, they are not based on or supported by evidence of state practice and opinio juris.[20]  Moreover, if the relevant standard under CIL for FET can be established based on arbitral awards without reference to relevant state practice and opinio juris, it would make the distinction between CIL-linked and autonomous FET standards largely irrelevant.

Options for avoiding excessively broad interpretations of FET

RDC and similar awards could create pressure for negotiators to consider alternative approaches for constraining interpretations of FET.  Potential options including the following:

a. FET provisions could include language stating that an investor claiming that a state has violated a customary international law obligation has the burden of demonstrating that the obligation exists based on evidence of actual state practice and opinio juris, and that such an obligation may not be established solely through arbitral awards or secondary sources.

b. FET provisions could clarify that assertions by states in arbitral proceedings (both as respondents and non-disputing parties) concerning the standard of protection under CIL constitute relevant opinio juris and are therefore highly probative of the relevant standard.

c. FET provisions could include “an exhaustive list of State obligations under FET,” as the United Nations Conference on Trade and Development (UNCTAD) has suggested.[21]

d. FET provisions could be omitted altogether from future investment agreements (another option identified by UNCTAD).[22]

Given the different approaches taken to FET by the United States and the EU, the U.S. – EU TTIP negotiations present an opportunity to explore some of these options.  It seems unlikely that an FET provision would be omitted altogether from a U.S.-EU agreement, but one or more of the other alternatives noted above could both impose needed restraint on the interpretation of FET by tribunals and restore some measure of state control over its content.

Author: Matthew C. Porterfield is a Senior Fellow and Adjunct Professor at the Georgetown University Law Center’s Harrison Institute for Public Law.