REUTERS | Ognen Teofilvovski

Three things you need to know about the modernisation of the ECT

The actions of states relating to the introduction, withdrawal or amendment of policy measures explicitly developed to meet climate goals has caused investment treaty arbitration to become a battleground for the settlement of international climate-related disputes. Against this backdrop, on 24 June 2022, the Energy Charter Conference confirmed that, after five years of negotiations, its member states had reached an agreement in principle regarding revisions to the Energy Charter Treaty (ECT).

The draft text will be shared with the ECT Contracting Parties by 22 August 2022 for adoption by the Energy Charter Conference on 22 November 2022. In the meantime, here are three things every arbitration practitioner needs to know about the proposed changes to the ECT.

ECT goes green

The agreement in principle affirms the “urgent need to effectively combat climate change”. To that end, the revisions to the ECT will:

  • Introduce new provisions to “reaffirm the respective rights and obligations of the contracting parties” under key multilateral instruments such as the UN Framework Convention on Climate Change, and the Paris Agreement.
  • Incorporate new provisions emphasising the contracting parties’ right to regulate in the “interest of legitimate public policy objectives”, which may “include the protection of the environment, including climate change mitigation and adaptation”.

The objectives of these changes appear to be to ensure that international climate law is considered as part of the international law applicable between the contracting parties, while also securing for the contracting parties the regulatory space they require to meet their international climate commitments.

Consistent with this, the revised ECT will also provide for a “flexibility mechanism”, which will allow contracting states to “exclude investment protection for fossil fuels in their territories”. The EU and the UK reportedly intend to apply this carve-out “including for existing investments after 10 years from the entry into force of the relevant provisions and for new investments made after 15 August 2023”.

In tandem with these amendments, the agreement in principle also envisages two amendments to the ECT that will expand its coverage of renewable and energy transition technologies:

  • First, the definition of “economic activity in the energy sector” will be amended to cover the “capture, utilisation, and storage of carbon dioxide” to “decarbonize the energy systems”.
  • Second, the list of “energy materials and products” that may attract the ECT protections will include hydrogen, anhydrous ammonia, biomass, biogas, and synthetic fuels.

The revised ECT will allow for a review every five years of the list of energy materials and products and of the flexibility mechanism.

Investors, Investments, and substantive protections

The revisions to the ECT will ensure that the ECT is applicable to fewer investors and investments, and in a more limited range of circumstances.

First, the revised ECT will specify that the investor-state dispute settlement (ISDS) provisions at article 26 of the ECT will “not apply among contracting parties that are members of the same Regional Economic Integration Organisation”, such as the European Union (EU). In this way, the revisions to the ECT will formalise the EU’s existing position that the ECT’s ISDS provisions do not apply between EU members states.

Second, the revised ECT will narrow the concepts of both “investor” and “investment” by:

  • Requiring that an “investor” satisfy a “substantial business activities” test based on indicia, such as “physical presence, employment of staff, turnover generation or payment of taxes” in the host state, and exclude from the definition those who are nationals or “permanent residents” of the host state at the time of making an investment.
  • Defining “investment” by reference to an “indicative list of characteristics” similar to the Salini criteria, including commitment of capital, expectation of gain, duration and risk, and also include specific exclusions, such as “judicial and administrative decisions”.

The revised ECT will also narrow some of the key substantive investment protections available to investors.

  • Fair and equitable treatment (FET): to “increase legal certainty”, the new FET provision will include a “list that designates certain measures or series of measures that constitute a violation”. This will include frustration of an investor’s legitimate expectations; however, the new article will “describe circumstances that give rise to investor’s legitimate expectations and the conditions under which legitimate expectations may be considered”.
  • Expropriation: the revised expropriation clause will include a “list of factors” to be considered to assess indirect expropriation claims and will state that, as a “general rule”, “non-discriminatory measures that are adopted to protect legitimate policy objectives”, including “with respect to climate change mitigation and adaptation”, do not constitute indirect expropriation.
  • Most favoured nation (MFN): the revised ECT will be explicit that the MFN provision does not allow the importation of either more favourable dispute resolution provisions or substantive protections from third treaties.
  • Most constant protection and security: this protection will be explicitly limited to “physical” and not legal security.

Other key changes

Two other important changes to the ECT are as follows:

  • Expedited review: to address potentially frivolous claims, the revised text will include mechanisms for dismissal of claims that are manifestly “without legal merit”; “unfounded as a matter of law on merits”; or “submitted as a result of investment restructuring for the sole purpose of submitting a claim under the treaty”.
  • Security for costs: Reflecting recent changes in ICSID’s Arbitration Rules, the revised ECT will explicitly provide for the possibility of requesting security for costs from the claimant. Both parties are also required to “disclose information” on third-party funding.

A model for the future? 

The modernised ECT will provide narrower investment protections to fewer parties. However, by encouraging and promoting the ongoing integration of climate law into the international legal system, the revisions to the ECT also show how the international investment regime can provide a framework for advancing climate goals in a way that is consistent with the legitimate exercise of non-discriminatory public interest regulation. In doing so, the revisions to the ECT should help to safeguard the legitimacy of international investment arbitration.

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