Developed in the aftermath of the Cold War, the Energy Charter Treaty (“ECT”) is a multilateral investment treaty signed by states (“Contracting Parties”) to enable global cooperation and stability in the energy sector. While the objective of the ECT lies in protecting foreign investment and promoting non-discriminatory conditions for trade in energy materials, it has increasingly become a shield for fossil fuel investors to protect themselves from any losses they might incur due to the pro-clean-energy policies of a State.

The ECT has been criticized for its archaic provisions and for not being in line with the Paris Agreement, a widely agreed-upon framework for a sustainable future. In the recent past, several Contracting Parties to the ECT have withdrawn from the same over concerns that it is restricting countries from reaching their climate goals under the Paris Agreement. Lately, the European Commission alerted its member states that a mass exit from the ECT is the need of the hour. In an attempt to align the treaty with the UNFCCC and the Paris Agreement, negotiations regarding its modernization took place. However, upon examining the leaked text of the “modernized” ECT, one can safely conclude that it is a misnomer.

SCHEME OF THE TREATY

Article 10 of the original ECT provides a plethora of protections for foreign investments in the energy sector. These protections range from general projections, such as granting fair and equitable treatment to the investors, to constant protection and security for the investor and their assets in the host state. It specifies that the threshold of treatment offered to the investors should in no way be less than one required under international law. It also protects against discrimination and expropriation and guarantees freedom to transfer funds in and out of the country without delay. Art. 10 also provides an extra layer of protection for the investors by stating that if two or more contracting parties enter into another international agreement subsequently or had entered into one previously, the one more favourable to the investor shall govern in case of a dispute.

Although these protections were introduced to promote energy efficiency and minimize the environmental impact of energy production and usage, they have most commonly been used by traditional energy companies to sue countries for trying to implement environmentally friendly energy policies like curtailing offshore drilling and coal power phase-outs for compensation. Over the years, Contracting Parties like Spain and Italy have fallen prey to such claims. Arbitral tribunals in such claims have ordered the Parties to pay heavy chunks of money as compensation to these traditional energy companies.

Such awards put the Contracting Parties in a precarious position. On the one hand, they have to comply with their obligations under the Paris Agreement, and on the other, they are being punished for it under the ECT. All these reasons compelled the Contracting Parties to consider modernization of the ECT.

The modernized version of the ECT does try to bring in reforms by introducing some climate-friendly changes. However, they are too piecemeal and lack the practicality to materialize the modernization.

CHANGES IN THE MODERNISED VERSION

The official text of the modernized ECT, after 15 rounds of negotiations, was leaked to the public in September 2022 amidst a lot of speculation regarding its future. Even after lengthy deliberations, the most problematic areas of the old ECT have not been addressed. Some of the changes to the treaty will go a long way in setting the tone for future investor-state arbitrations.  

REGIONAL ECONOMIC INTEGRATION ORGANISATION CLAUSE 

Under the old treaty text, most EU members argued that in intra-EU cases, the arbitral tribunals under ECT lacked jurisdiction. Two major arguments were asserted by the members to prove the same. Firstly, Article 26 of the ECT refers to disputes between a Contracting Party and an Investor belonging to another Contracting Party. Pursuant to Article 1(2) of the ECT, both, a nation-state and a Regional Economic Integration Organisation (“REIO”) could be a Contracting Party. It is thus argued that the EU, as an REIO, should be considered a single Contracting Party to the ECT. Secondly, it is argued that the arbitration clause in the ECT is not compatible with the principle of autonomy of the EU legal order and the exclusive jurisdiction exercised by the CJEU under Articles 267 and 344 of the Treaty on the Functioning of the European Union (“TFEU”). 

However, tribunals have consistently rejected these objections owing to Article 26(3) ECT, which states that Contracting Parties give unconditional consent to submit to any international arbitration or conciliation in accordance with this article. It was only recently that in Green Power v. Spain an SCC tribunal upheld the claim that tribunals under the ECT indeed have no jurisdiction to settle Intra-EU claims. It observed that the existence of such ajurisdiction impairs the autonomy and uniform application of EU law. It was therefore found to be incompatible with Articles 267 and 344 of the TFEU. This objection was also raised before the domestic courts, where recognition and enforcement of arbitral awards are sought. It is also contended that intra-EU disputes are not arbitrable under Article V(2)(a) of the New York Convention, which states that the courts of a Contracting State have the power to refuse recognition and enforcement of an award if they find that the subject matter of the dispute which led to the award, is not capable of settlement by arbitration under the law of the country where recognition and enforcement is sought. The modernized ECT has tried to resolve this confusion by introducing Article 24(3).

Article 24(3) of the modernized ECT states that Article 7 (Transit), Article 26 (Investment dispute settlement), Article 27 (disputes between Contracting Parties), and Article 29 (trade with non-WTO members) shall not apply among Contracting Parties that are members of the same REIO in their mutual relations.

This change is consistent with the ECJ’s observations in République de Moldavie vs. Komstroy LLC, which upheld the autonomy of the EU legal system. In this case, Article 344 of the TFEU was emphasized, under which the Member States undertake not to submit a dispute concerning the interpretation or application of the Treaties to any method of settlement other than those provided for therein.

This addition goes a long way in clarifying the position with regard to intra-EU disputes. However, an Investor may still try to invoke intra-EU claims through arbitration under Article 26 of the ECT, which hasn’t been changed in the new version. Under this article, the investors may choose from four different arbitration forums: the ICSID rules, the SCC

Arbitration Institute, the ICSID Additional Facility Rules, or an ad hoc arbitration pursuant to the UNCITRAL Arbitration Rules. The arbitration institution or the tribunal may determine the applicability of the newly introduced article. For example, if an Investor were to invoke proceedings under the SCC Arbitration Rules, then the decision to constitute an arbitral tribunal would depend upon a prima-facie test of the presence of consent to opt for arbitration as a means to resolve the dispute. A similar process would be followed if ICSID rules were chosen. On the other hand, if an ad-hoc arbitration pursuant to UNCITRAL rules were to be opted for, the arbitral tribunal would decide on the jurisdiction. These arbitral tribunals might have their seats outside the EU, meaning that EU courts would not have the authority to oversee and issue interim reliefs. In such a scenario, the Respondent States would still be at liberty to challenge the enforcement of the award for lack of jurisdiction.  

SURVIVAL CLAUSE

Article 47(3) of the ECT provides that even if a Contracting Party withdraws from the treaty, the provisions of the treaty would still apply for the next 20 years after the withdrawal takes effect. This period goes against the ethos of the global energy market and the world’s attempt to lock the temperature at 1.5 Celsius of the pre-industrialization era, both of which require countries to adopt cleaner energy sources at the earliest in order to meet the obligations under the Paris Agreement. Despite its problematic approach, this clause was not put up for negotiations and was not included in the list of topics for “modernisation” in 2018. This missed attempt to “neutralise” the survival clause can be fatal to the Paris Commitments. Recently France announced its intention to exit from the treaty. The Netherlands, Spain, and Poland have all expressed their concerns and shared their plans to exit. Such mass withdrawal puts the ECT’s future under a lot of uncertainty. The withdrawal may also be followed by many claims raised by investors who fear losing out on the 20-year sunset period within which the parties can bring in claims against members who are no longer Contracting Parties to the treaty.

Withdrawal from the ECT might not be as beneficial as changing the ECT to align with the world’s climate goals, as parties can still face the dire consequences of the sunset period. Even after withdrawing in 2015, Italy was asked to pay more than 190 million euros, in August 2022, to a UK-based oil company, Rockhopper Exploration, in an ICSID arbitration. The tribunal found that Italy’s ban on offshore drilling to protect its 12-mile territorial waters from exploitation breached the ECT. Clearly, withdrawal does not guarantee that states would be at liberty to implement climate-friendly energy policies.  

WHAT COULD HAVE BEEN BETTER

Article 10 of the ECT provides for what can be called an “umbrella clause.” The current text allows any dispute between a Contracting Party and an Investor belonging to another Contracting Party “related to the investment.” This inclusion is quite broad and allows non-treaty-related disputes to come under its ambit. Investors may bring in claims against states for their obligations beyond the treaty itself. It also gives way to claims arising out of “indirect” investments, which could include investments acquired by investors through a chain of corporate vehicles. The modernised version also does not address this problem. This clause could have been done away with or have its scope narrowed by allowing only those disputes that arise directly out of the investment to be brought in as a claim. A distinction between treaty-related claims and contract-related claims must have been established. 

The modernization also leaves pertinent issues like lack of impartiality and independence among arbitrators, inconsistency in arbitral awards, and failure to require the exhaustion of domestic remedies unaddressed.

The introduction of a pre-condition to arbitration would have gone a long way in reducing the number of arbitration claims. This pre-condition could include negotiations, amicable talks, recourse to domestic courts etc. Such a mechanism would add cost-effectiveness and efficiency to dispute resolutions under the ECT, unlike the time-consuming and costly arbitration proceedings in the present structure.

The main driving force behind modernization has been neglected yet again. It fails to address the urgency of the climate crisis. Negotiators agreed upon a “flexibility mechanism” to allow countries to exempt fossil fuels from investment protections in their territories. However, only a few Contracting Parties, like the EU and UK have agreed to carve out investments in fossil fuels. Consequently, fossil fuel investments in these countries will no longer enjoy protections under the ECT. For all other Contracting Parties, indefinite protection for fossil fuel investments provided under ECT will continue, and the same stands in direct violation of the scientifically determined global climate goals and the Paris Agreement. Even after withdrawal from the treaty, the looming fear leaves countries with no option but to restrict their climate policies to avoid paying heavy damages.  

CONCLUSION

The leaked text of the Modernized ECT fails to answer the most pressing questions. It is a passive solution to a burning problem (quite literally). Its provisions are out of step with modern treaty practices. The best step forward for the Contracting Parties would have been to negotiate for clauses that make it possible for them to implement clean energy policies, including measures like coal phase-outs, ban on drilling exploration, etc., without being sued by traditional energy companies for hefty compensations. At a time when the world needs to come together to reduce emissions and meet net-zero targets, the modernized ECT is a step in the wrong direction.

Author’s Bio

Vrinda Basu is a 3rd year undergraduate student pursuing a B.A. LL.B. (Hons.) at Dr. Ram Manohar Lohiya National Law University, Lucknow. The author would like to thank Siddhant Ahuja for his guidance and support.

This Article was originally published on May 3rd, 2023.