Investor-state dispute settlement: obstructing a just energy transition

ABSTRACT

Governments that revoke licenses and permits or take other measures to restrict the development of oil and gas in their territory will face claims from investors for compensation. When investors are foreign, they can seek compensation for ‘lost future profits’ in investor-state dispute settlement (ISDS), even if they had not commenced production. ISDS cases are likely to obstruct a just transition by chilling supply-side climate measures and diverting public funds away from climate change mitigation and adaptation efforts. Using a dataset of ISDS-protected assets in the upstream oil and gas sector, we demonstrate that the global distribution of legal and financial risks is highly unjust. More than two thirds of the net-present value of 1.5°C-incompatible and treaty-protected oil and gas assets are found in low- and middle-income countries, including those highly vulnerable to climate change. The Energy Charter Treaty (ECT) is the most significant single treaty obstructing the transition. While protection of fossil fuels in some countries may soon be phased-out of this treaty, the protection of the assets identified in our study will remain for at least ten more years. To limit ISDS risk, states should: (1) immediately cease the issuance of new permits/leases for oil and gas developments; (2) terminate investment treaties (including the ECT) and (3) develop binding rules that cap the amount of compensation that can be awarded to investors.

Key policy insights

• Oil and gas investors protected by investment treaties can claim compensation for ‘lost future profits’ in investor-state dispute settlement (ISDS) when governments impose limits on production (supply-side climate policy).

• ISDS claims could absorb a significant amount of public finance that is needed for climate mitigation and adaptation, particularly in the Global South.

• The Energy Charter Treaty (ECT) protects more upstream oil and gas assets than any other single treaty and is already being used to challenge climate action; recent efforts to modernize the treaty are insufficient.

• To limit the risk of ISDS claims, states should stop issuing permits for new oil and gas projects, terminate investment treaties and develop rules to cap the amount of compensation that can be awarded to investors.

KEYWORDS:

• Climate change
• energy
• oil and gas
• foreign investment
• investor-state dispute settlement
• Energy Charter Treaty

Acknowledgements

The authors wish to thank Kirsten Jenkins, Jan Corfee-Morlot and three anonymous reviewers for their comments on earlier versions of the manuscript.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1 It is important to note that contracts signed between investors and the host state, e.g., Production Sharing Contracts, also provide investors with legal protections and may provide access to ISDS. We focus only on treaties for this article because contracts are generally not publicly available. We would also highlight that many treaties contain an ‘umbrella clause’ that effectively elevates contractual disputes into treaty disputes.

2 These comments were made at the OECD Conference on Investment Treaties and Climate Change, 10 May 2022.

3 The numbers increase when corporate structure is considered. See further Tienhaara et al. (2022b).

4 All dollar values reported are in USD.

5 It is important to note that the ownership of oil and gas assets in Russia has changed radically since we extracted the data from the Rystad Energy UCube database in early January 2022, as the oil majors have since divested from the country in response to the invasion of Ukraine.

Additional information

Funding

This research was undertaken, in part, thanks to funding from the Open Society Foundations (OSF), Rockefeller Brothers Fund (RBF), and the Canada Research Chairs Programme.