To Repay or not to Repay: A Holistic Overview of the Question of Reparations under the ISDS
Investment treaties are signed for the purpose of protecting and promoting investments. The concept of investment treaties emerged as an alternative to diplomatic protection which was considered inadequate for investment protection. The size of individual investment treaties has grown considerably with treaties running into over a hundred pages at times. Protection against expropriation has become an integral part of bilateral investment treaties (BITs). A valid expropriation generally has elements of public interest and compensation (full reparation). Compensation or full reparation may also be provided for breaches of other substantive protections under the BIT.
The full reparation sometimes, however, may produce devastating effects for the state. Under investor-state dispute resolution regime (ISDS), for example, the amount of compensation has sometimes been equivalent to significant portions of the Gross Domestic Product (GDP) of the state. For such circumstances under the principle of full reparation an exception was envisaged in the sessions of the International Law Commission (ILC).
A Case for Full Reparations
Tribunals often refer to Articles on Responsibility of States for Internationally Wrongful Acts (ARSIWA) for determining questions regarding remedies in cases involving internationally wrongful acts. The ARSIWA are themselves not binding however, their relevance is recognised as they reflect the customary international law. As per Article 31 of ARSIWA, a state is under obligations to make full reparations for the injury caused by the internationally wrongful act. Further, reparations can be trifurcated into three categories: restitution, compensation, and satisfaction.
The remedies, on the other hand, can be basically classified into two types: pecuniary and non-pecuniary. Pecuniary remedies are called compensation and are widely used in investment disputes. Compensation is an essential part of the definition of lawful expropriation in investment treaties. Non-pecuniary remedies include restitution and satisfaction. However, the applicability of non-pecuniary remedies differs across cases. For states that are parties to the International Centre for Settlement of Investment Disputes (ICSID) Convention the obligation to enforce an award is limited to the pecuniary obligations. Compensation is generally accorded preference in investment treaties and disputes due to the relative ease and practical and legal feasibility as compared to non-pecuniary methods.
The provision on full reparation in ARSIWA reflects the holding of the Permanent Court of International Justice (PCIJ) in the case of Factory at Chorzów (Germany v Poland). The PCIJ held that the reparation must, “as far as possible”, negate the consequences of the illegal act and create circumstances that would have existed had the wrongful act not been committed. As per Chorzów, full reparation includes the right of the affected party to ask for the fair market value on the date of the award or violation (whichever is higher) as well the lost profits. It has been argued that such a holding has sound economic logic. The rationale is that the state is committing an illegal act and hence should not be allowed to obtain profits from an illegal act.
The concept of full reparation has been accepted and applied in various cases decided by arbitral tribunals in investment claims. It is accepted that notwithstanding the nature or character of the illegitimate measure the damages that are awarded have to be sufficient to compensate the affected party fully “and eliminate the consequences of the state’s action”. In Greentech v. Italy, an attempt was made by Italy to reduce the extent of the damages awarded by leveraging the phrase “as far as possible”. Italy argued that considering the various facts and circumstances of the case there should be a reduction in the amount of damages in light of the words “as far as possible”. The tribunal took a contrary view and interpreted “as far as possible” to mean that the tribunal has to take all necessary steps to ensure the realisation of the full compensation to the affected party.
Since the Chorzów Factory case, there has been support of the principle of full reparation in international law which was eventually represented in the ILC Articles of 2001. However, the support has not been unanimous. There has been advocacy of an exception to the principle of full reparation during the framing of the ARSIWA. An exception to the principle was envisaged but was ultimately not incorporated into the final draft of the articles. The development of the exception is discussed in the next section.
Development of Exceptions to Full Reparation
The idea of an exception to the principle of full reparation first emerged for restitution. An exception of “excessive onerousness” was suggested for restitution. This exception would apply if the restitution would seriously jeopardise the "political, economic or social system of the State''. In such a case instead of restitution, compensation would have to be provided. This idea was accepted by the ILC members and the proposal of limiting restitution in a manner that does not jeopardise the political independence or economic stability of the state was adopted. However, it was pointed out that if the restitution seems too "excessively onerous" then in all probability compensation would also be excessively onerous. This was the discussion specifically regarding restitution. However, in the future ILC reports the same standard of "excessive onerousness" for restitution came to be applied to compensation.
The crux of the conundrum concerning full reparation is themed around the scenario when “the full compensation is demanded by a developed state from a developing state”. While the amount may appear insignificant for a developed state the amount may be excessive for a developing state and may deprive it of its right to development. The mere payment of compensation to a transnational corporation may lead to bankruptcy of the developing state.
The point of inequality between the capacities of the states is extremely relevant with regard to the investor-state dispute resolution mechanism. There is an inherent pattern that can be seen in almost all the BITs. The claimant is usually an entity from a developed state and the developing state is the respondent. Even though BITs guarantee a certain special standard of protection for both the states, in practice it is the developed (capital exporting) state that gets access to such protections. As a principle of equity, “reparation cannot be awarded in total disregard of the condition of the country!"
Developed countries, like the United States, unfortunately, have often acted as a bulwark against any international legislation arguing for an exception to the principle of full reparation. The United Kingdom has also been toeing the Americans, so has the rest of the developed world. Some welcoming primers in an otherwise morally morbid “developed nations clique” can be Chile and Czechia who provided support to the exceptions to full reparation. Germany too has argued that there are examples in history where the “burden of full reparation” is taken to an extent that jeopardises the entire social and economic system of the State. However, the context in which Germany presented its support was limited to compensation for wars (read: the First World War and the subsequent Treaty of Versailles) and not disputes involving individuals.
Public International Law and ISDS
For a rule of customary international law to exist, there must be a general practice and the general practice has to be accepted as law. In the recent past, the PIL has focussed on providing an exception to the principle of full reparation in two cases: (1) war reparations and (2) exceptional within the ISDS regime.
In the post-World War Two period, war reparations were calculated with consideration for the people of the state. The Versailles Peace Treaty, for example, acknowledged Germany's responsibility for reparations but also provided that it did not have adequate resources to make complete reparation for the damage caused. The Potsdam Agreement limited the reparations in a manner which enabled the German state to survive without external assistance. The San Francisco Treaty also took a similar approach and noted that Japan had insufficient resources to make full reparations and maintain its economy. The United Nations Security Council had set up the United Nations Compensation Commission for ascertaining the damages for aggression against Kuwait by Iraq. The UNCC considered the capacity of the Iraqi State to make the payments and set a percentage of yearly proceeds from the sale of Iraqi oil as compensation. The Eritrea-Ethiopia Claims Commission had to decide on the claims for damages arising out of the Eritrea-Ethiopia war of 2000. The commission noted that the claims for damages raised by both the states were extremely high and could have potential effects on the states with regard to their human rights commitments. However, the decision here has not been received favourably by other fora. This has thus not been considered as an authority in any significant decision.
As per the ILC Conclusions on the establishment of customary international law, the practice must be general. In other words, it must be sufficiently widespread, representative and consistent. No general practice exists if no pattern of behaviour can be discerned. From an overview of these examples, it can be said that across various time periods the idea of limiting the amount of compensation to a “reasonable” amount has existed. Adequate consistency remains lacking.
Practice within ISDS (Provisions within the BITs)
In contemporary times, with the changes in treaty provisions, a new customary practice within Public International Law is being created: the incorporation of provisions for reduction of the amount of compensation “in public interest”. Some notable such BITS include the following:
Iran-Slovakia BIT incorporates a provision that the award shall be determined considering "an equitable balance between public interest and interest of those affected".
The UAE-Slovakia BIT also incorporates a similar provision for calculation of compensation in cases of expropriation.
India-United Kingdom BIT (1994), Chile-Tunisia BIT (1998) and Mozambique-Netherlands BIT (2001) also contain provisions for "just" and "equitable" compensation. Such a provision may also assist in balancing the needs of the state and the claim of the investor.
The catch, however, in such cases lies with the wording and their possible interpretation by the respective adjudicating body. “Just” or “fair and equitable compensation” can also be interpreted so as to award extraordinary damages to the investor if the asset has provided them with extraordinary profits in the past. However, the mere incorporation of such a provision may also stand to benefit the state by putting an obligation on the tribunal to consider the background facts and circumstances which may include the economic capacity of the state.
These changes, irrespective of their shortcomings reflect a positive, and welcoming change, in the field of international investment law.