EUROPEAN ECONOMIC AND SOCIAL COMMITEE

EUROPEAN ECONOMIC AND SOCIAL COMMITEE Hearing in the framework of the EESC opinion on Investment Protection and ISDS in EU Trade and Investment Agreements Brussels, 3 February 2015 Investment Treaty Making: Trends, Challenges and the Way Forward James X. Zhan 1 Director, Investment and Enterprise Team Leader, UN World Investment Report UNCTAD Introduction It is my honour to be invited to the European Economic and Social Committee (EESC) to speak on the important topic of international investment agreements (IIAs) and investor-state dispute settlement (ISDS). Recently, this issue has been receiving enormous attention, not only in the context of Transatlantic Trade and Investment Partnership (TTIP), but also at the global level. The issue is not new, however. IIAs have been negotiated for over 50 years now. The topic started to be controversial in the early 21 st century, when the number of investor-state arbitrations exploded. This demonstrated that IIAs are powerful instruments that, on the one hand, provide protection to foreign investors and, on the other hand, expose host States to regulatory risks. 1 This statement is built largely on UNCTAD policy analysis led by the speaker, but it does not necessarily represent the views of the UNCTAD Secretariat or its member States. 1

In my remarks, I would like to give you the big picture, with an emphasis on the EU s role and position in this area. In particular, I will talk about: Salient features of European Union (EU) inward and outward foreign direct investment (FDI); Trends in the IIA regime and key challenges; Trends in ISDS, as well as pros and cons; Reforming the IIA regime and ISDS mechanism. 1. Salient features of EU inward and outward investment Let me first highlight the salient features of EU inward and outward investment, and its relationship with the United States (US). As you know, FDI plays a significant role in the global economy, mainly through the integrated international production networks of multinational corporations, i.e. global value chains. The EU has long accounted for the bulk of international production, providing and receiving a large share of global FDI. Inward FDI stock in the EU has grown rapidly over the past two decades (Annex Figure 1). By 2013, its inward stock reached almost $ 3 trillion more than a five-fold increase from its 1995 level, accounting for 15% of global inward FDI stock. The scale of foreign affiliates in the EU is quite significant. The sales of foreign affiliates in the region reached $4.1 trillion in 2011, accounting for almost one fifth of total sales by foreign affiliates in the world. In terms of employment, foreign affiliates employed 7.2 million people in the EU, 14% of employment generated by foreign affiliate worldwide in 2011. Outward FDI stock of the EU has grown more than six-fold since 1995, reaching an estimated $4.5 trillion in 2013(Annex Figure 1) and accounting for 22% of global outward FDI stock. During this period, the growth rate of outward FDI stock exceeded that of EU output and exports. Regarding bilateral investment between the EU and the US, the EU FDI stock in the US reached $1.7 trillion, while the US FDI stock in the EU reached $2.4 trillion by 2013 (Annex Figure 2). 2

Indeed, the facts and figures have demonstrated that there is a strong investment relationship between the two global economic power houses. 2. IIAs regime: trends and key challenges In the absence of a multilateral investment system, the current international investment regime is multi-layered, multi-faceted and highly atomized, consisting of over 3,260 investment treaties most at the bilateral level, but also at the regional and plurilateral level (Annex Figure 3). The EU and its Member States are prominent stakeholders in this system. Today, the EU countries are parties to 1,360 extra-eu bilateral investment treaties (BITs) and 199 intra-eu BITs. Altogether, these treaties account for over half of the global BIT universe. The Lisbon Treaty s mandate and the EU Commission s intention to gradually renegotiate and replace these BITs present a major opportunity and a major challenge. The EU's new approach to investment treaty making will have a far reaching impact on the future international investment regime. What are the key challenges raised by IIAs? The first challenge is policy space. The root of the current debate lies in the fact that IIAs grant protection to foreign investors, which can significantly impact the regulatory power of host countries. There is growing concern that IIAs, in their traditional form, could unduly restrict policy space. Broad and vague formulations of IIA provisions create a risk that investors may challenge core domestic policy decisions, for instance in the area of environmental, energy or health policies. Similarly, there are concerns regarding the (lack of) balance between the rights and obligations of States and investors, with investors having only rights and States only carrying obligations. The second challenge is how to integrate sustainable development objectives into IIAs. Most existing IIAs follow the approach of focusing more or less exclusively on investment promotion and protection, while largely neglecting the sustainable development impact of investment. Only recently have new IIAs begun to illustrate a growing tendency to craft treaties that address sustainable development objectives. The third challenge relates to the systemic complexity of the multi-layered and multi-faceted IIA regime, with gaps and inconsistencies within the regime. Furthermore, investment policies do not exist in isolation, but interact with other policy areas, such as trade policies, labour policies, industrial policies, social policies and environmental policies. Coherence remains a major challenge. 3

3. ISDS: trends and perspective ISDS is a mechanism that allows a foreign investor to sue the host State before an ad hoc international tribunal and to demand financial compensation for host government s violations of the IIA. By the end of 2014, the total number of known treaty-based ISDS cases reached 608 (Annex Figure 4). Respondent States. In total, 101 governments have been respondents to one or more investment treaty arbitrations. Over 70% of all known cases were brought against developing and transition economies. Another 20% of cases that is, well over a hundred claims were brought against EU countries (mostly the new Member States). Home States. The overwhelming majority of ISDS claims were brought by investors from developed countries. Claimants from the European Union initiated over 50% of all cases globally (Annex Figure 5). Among them, investors from the Netherlands, UK, Germany, France, Italy and Spain have been the most active ISDS claimants. It is also worth noting that almost one hundred ISDS disputes have an intra-eu dimension, i.e. these are cases filed by EU investors against other EU Member States. Putting ISDS cases into a broader perspective. Global FDI stock amounts to approximately $26 trillion and involves about 104,000 multinational companies with over 892,000 foreign affiliates worldwide. Compared to these huge numbers, the 608 ISDS cases that were filed over the last two decades look quite small. However, one must not only look at numbers. Some cases impact key policy areas far beyond investment policies per se, such as energy policy, health policy or measures related to financial crises. And some cases involve huge amounts of money. 4. ISDS debate: pros and cons Next, I would like to summarize the main arguments that have been made in favour and against the use of ISDS. I will be brief because I think that the discussion is well known to the two Committees. Those who are in favour of ISDS point out that it: Provides an additional important avenue of legal redress to covered foreign investors; 4

Allows foreign investors to avoid national courts of the host State if they have little trust in them as regards their independence, neutrality, efficiency and competence in international investment law; Removes the sovereign immunity obstacle that may complicate domestic legal claims against the host State; Gives additional teeth to the substantive obligations of the treaty; and Dispenses with the need for investors to convince their home State to bring claims against the host State. By contrast, those who are against ISDS argue that it: Grants foreign investors greater rights than are granted to domestic investors; Exposes host States to additional legal and financial risks, without necessarily bringing any additional benefits in terms of additional FDI flows; Lacks legitimacy; Is not transparent enough; Is very expensive for users; Fails to ensure consistency of arbitral decisions; Does not provide for an appeals mechanism to review erroneous decisions; Raises concerns about arbitrators' independence and impartiality; and Creates incentives for nationality planning by foreign investors to benefit from ISDS. 5. Reforming IIA regime and ISDS mechanism The concerns about IIAs and ISDS have prompted a debate about their challenges and opportunities in multiple fora. There is now broad recognition of the need to address existing challenges and improve the system. At UNCTAD's recently held Fourth World Investment Forum, most participating States and other IIA stakeholders made statements to that effect. What could be the main parameters of such reform? First, in my view, IIA reform should be systematic and comprehensive, while gradual and properly sequenced. It is important to carefully assess costs and benefits in order to design a system that best serves the needs of investors, governments and other affected stakeholders alike. 5

Second, we should bear in mind that in order to effectively address today s IIA related challenges, reform of substantive obligations and of enforcement mechanism, i.e. dispute settlement, must go hand in hand. Hence, we should not look at ISDS in isolation. The two elements of the system should be addressed together, otherwise any reform attempt risks remaining piecemeal. Third, it must be a holistic exercise based on a multi-stakeholder consultation and involvement. This is key in order to ensure that the reformed IIA regime enjoys increased legitimacy and, for this reason, I welcome the involvement of the EESC in these processes. Fourth, with a huge stock of existing IIAs, countries need to think about not only the new agreements, but also about how to deal with the already concluded ones. Fifth, I would like to draw your attention to UNCTAD s contributions to the debate on the IIA reform. Our Investment Policy Framework for Sustainable Development (IPFSD) sets out options for each element of an IIA. Further, we have identified and discussed five main options for the ISDS reform (all of these papers are available on our website 2 ). UNCTAD also provides a global platform to convene representatives of all investment stakeholders. UNCTAD can also facilitate governments in their reform processes. Let me now come to options for reform of ISDS. The debate has been focussing on "to have or not to have ISDS". Today, the question should be: What is the way forward in case we decide to drop ISDS? And What improvements need to be made to the ISDS mechanism in case we decide to retain it? Over the last years, UNCTAD has worked intensively on this issue and we have come up with five reform options (see Figure 1). Each of these options has its pros and cons that need to be analysed carefully. One option is to limit investor access to ISDS and to improve procedures in existing international conventions dealing with ISDS. This option narrows the range of situations when investors may resort to ISDS. This option does not effectively address ISDS' problems, but rather reduces their acuteness (e.g. helping slow down the proliferation of cases). Some countries have adopted such policies. 2 http://investmentpolicyhub.unctad.org; http://unctad.org/iia. 6

Figure 1. Five options for ISDS reform Another option is to tailor the existing ISDS system. With this option the main features of the existing system would be preserved and individual countries would apply quick fixes in new/future IIAs. This option allows countries to address those concerns that appear most relevant to them. However, this would also leave many of the key ISDS problems untouched. And, it would potentially results in a piecemeal approach that stops short of offering a comprehensive and integrated way forward. A third option is to create an appeals facility. This can help improve the consistency of interpretations, correct mistakes of first-level tribunals, enhance predictability of the law, and broadly, help rectify current legitimacy concerns. However, with approximately 3,000 legal texts, absolute consistency and certainty would not be achievable. And, an appellate stage would add time and cost to proceedings. Finally, for this option to be meaningful, it needs to be supported by a significant number of countries. However it is currently contemplated by some countries. A fourth option is to create a standing investment court. This implies replacing the current system of ad hoc arbitration tribunals with a standing international court serving the interests of investors, States and other stakeholders. However, this is the most difficult to implement, 7

requiring a complete overhaul of the current regime through a coordinated action by a large number of States. A last option is to foster alternative methods of dispute resolution (ADR) and dispute prevention policies (DPP). This is relatively straightforward, as countries can enshrine ADR/DPPs in IIAs or implemented them the domestic level without any specific references in the IIA. While much has already been done by countries around the globe, ADR/DPPs do not in themselves solve key ISDS-related challenges. The most they can do is to prevent disputes, rendering this reform path a complementary, rather than a standalone, avenue for ISDS reform. Concluding remarks I believe that it is time to take on board all the options available and consider the implications of each and every one of them. This can help identify the best possible mix of approaches and alternatives so as to maximize the benefits and minimize the potential risks. The objective is to find a solution that best serves the needs of investors, governments and other affected stakeholders alike. Whatever the formula and approaches, we need to bear in mind the guiding principles of sustainable development and inclusive growth. In short, what we need is a new generation of IIAs that would address the challenges of investment policies in the 21st century. The IIA reform is a global challenge and UNCTAD is the United Nation's focal point for all investment-related matters. Facilitating the reform process and assisting governments in finding the right solutions is therefore a high priority for us. We pursue this goal through the three pillars of our work, namely policy research and analysis, international consensus-building and technical assistance for over 150 countries. Ladies and Gentlemen, it has been an honour and a pleasure for me to be with you today. I thank you very much for your attention, I wish you a fruitful discussion and remain at your disposal for any questions that you might have. 8

Annex: Figure 1. FDI stock of the EU (excluding intra-eu) (Billions of dollars) 5 000 4 500 4 000 3 500 3 000 2 500 2 000 1 500 1 000 500 Inward stock Outward stock 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 Source: UNCTAD. Figure 2. United States FDI stock in EU and from the EU (Billions of dollars) Source: UNCTAD. 9

Figure 3: Trends in IIAs signed, 1983-2013 Source: UNCTAD, IIA database. Figure 4: Trends in known ISDS cases, 1987-2013 Source: UNCTAD, ISDS database. 10

Figure 5: ISDS cases involving the US and EU Member States Cases brought against the US and EU Member States Claimant investors' home States, including the US and EU Member States Source: UNCTAD, ISDS database. 11