Having considered a range of matters raised in relation to the Trans-Pacific Partnership Agreement (TPP) that are applicable to all free trade agreements, the Committee will now examine a number of issues related to specific provisions of the TPP, beginning with the Investor-State Dispute Settlement (ISDS) provisions.
ISDS provisions in the TPP were the most common concern cited by participants to the inquiry. As will be discussed below, participants’ concerns were focussed almost exclusively on the risk the ISDS provisions posed to Australia’s ability to make public interest regulatory decisions. On this basis, most participants felt that the ISDS provisions were not in Australia’s interest.
While these concerns may be genuine, it does not necessarily mean that ISDS is not in Australia’s interest.
In reaching a view on whether the ISDS provisions are in Australia’s interest, the Committee will consider the TPP ISDS provisions in a broader context.
ISDS is an international arbitration procedure that is intended to be an impartial, law-based approach to resolving conflicts between countries and foreign investors.
From a country’s point of view, an ISDS scheme offers a number of advantages:
it provides a mechanism to resolve investment conflicts without creating country to country conflict;
it protects a country’s citizens who invest abroad; and
it provides foreign investors in a country with reassurance that the country will respect the rule of law in relation to their investments.
From a foreign investor’s point of view, ISDS is a more reliable mechanism for resolving disputes than the alternatives:
taking action in the legal system of the host country, which may not have laws to permit such an action, or may give certain institutions immunity; or
seeking the diplomatic assistance of the investor’s home country, which relies on the willingness of the home country to provide such assistance.
ISDS is now widespread and well established. The world’s first ISDS institution, the International Centre for Settlement of Investment Disputes (ICSID) was established in 1966. ISCID was established by an international convention to which Australia is a signatory, and operated under the auspices of the World Bank.
Another mechanism used by countries to implement ISDS is the bi-lateral investment treaty. As its name suggests, these are bi-lateral treaties relating to investment between countries. ISDS is the enforcement mechanism used in these treaties.
By 2014, there were well over 3,000 bi-lateral investment treaties in force. Australia is party to 21 bi-lateral investment treaties.
ISDS provisions started to appear in free trade agreements when these agreements began including investment chapters.
In addition to ICSID and ISDS provisions in international trade and investment agreements, ISDS can be offered by a host state through local investment law, and can be negotiated into individual investment agreements by investors, particularly if they are large investors with significant leverage.
As the number of treaties containing ISDS has increased, so has the number of ISDS cases. Evidence presented to the Committee indicated that the number of known ISDS cases now stands at slightly more than 600, with between 40 and 60 new cases each year since 2003.
In other words, the public perception that ISDS is a new and unknown risk to a Government’s ability to regulate in the national interest does not reflect the reality. ISDS is a well-established and wide-spread mechanism with known risks to the Government’s ability to regulate.
How ISDS works
ISDS provisions vary across the range of agreements in which they are contained, but there is a constant framework at the core of all ISDS schemes.
To bring an ISDS case, a foreign investor must believe that an arbitrary or capricious action of the host Government has caused them to lose their investment.
ISDS cases are heard by a tribunal of three: one appointed by the investor, one appointed by the country, and a third agreed by both parties.
The cases can be either public or private, to the extent that many ISDS cases never become public.
The role of the tribunal is to review the host Government’s actions to determine if those actions were arbitrary or capricious:
They are essentially conducting what has rightly been described in some ways as global administrative law. They are reviewing the process that led to the law being passed. They are reviewing matters such as whether the reasoning that informed the passage of the law was sufficiently conveyed to the public and the affected investors, whether it was arbitrary, whether it was capricious and whether it was disguised expropriation. Those are the points they are considering.
This is an important point: an ISDS tribunal cannot overturn domestic laws and regulations. The tribunal can only require an investor be compensated for the loss of the investment.
In other words, if a Government wishes to pursue regulation it believes is in the national interest, it can do so regardless of the outcome of any related ISDS cases, noting that there may be costs incurred.
ISDS in Australia
Australia has been subject to a single ISDS case, an action by Philip Morris Asia to claim compensation for damage to brand recognition as a result of Australia’s decision to introduce plain packaging for tobacco products. This case was dismissed at a preliminary stage after a process that took three years and cost Australia a reported $50m.
On the other hand, there are 10 known cases of Australian investors using ISDS provisions against other countries.
Australian companies … do use investor-state dispute settlement to ensure that our bilateral investment treaties and investment protections in our FTAs are adhered to by our treaty partners.
Claimants from one of those cases, Planet Mining, attended the Committee’s public hearing in Perth on 5 October 2016 to discuss the benefits of having access to ISDS processes for Australians investing overseas.
According to Planet Mining, having access to ISDS provisions can be pivotal in making a foreign investment decision:
It is not the case that foreign investors can never get justice from the courts of a host state, but it is predominantly the case, in developing countries, that foreign investors face a difficult and often hostile environment from the host country's justice system. Where a difficult and hostile environment exists in a particular country, such as Indonesia, potential investors will mark that investment destination down appropriately.
Where a country that is otherwise marked down as an investment destination has a free trade agreement or treaty which provides for independent international dispute resolution for the investor, any such marking down will be qualified or even overlooked, as the investor will draw confidence from being spared exposure to a hostile justice environment and, importantly and vitally for the investor, it will know that if an independent international dispute resolution goes its way then it will have means, under international law, to recover the damages it is awarded. Conversely, where a prospective investor sees an investment proposal which would involve that investor being denied any meaningful way of recovering its lost investment as a result of the host country's government's intervention, then I say, with a measure of certainty, that the investment proposal would not be accepted.
In other words, the inclusion of ISDS provisions in an agreement Australia is party to, makes it cheaper and more attractive for Australians to invest in that country.
The Committee is of the opinion that the benefits for Australian investors from agreements that include ISDS have been largely ignored in the debate about ISDS. The debate about ISDS provisions is consequently unbalanced.
ISDS in the TPP
The ISDS provisions in the TPP have two notable features:
the provisions have evolved to address concerns arising from earlier ISDS provisions; and
the provisions apply on a multilateral basis.
ISDS provisions contained in early bi-lateral investment treaties were broadly worded and required a degree of interpretation by ISDS arbiters. The opinion of those working on ISDS is that early bi-lateral investment treaty ISDS clauses were interpreted in favour of investors over states.
It is not a coincidence that Philip Morris used the Australia-Hong Kong Bi-lateral Investment Treaty, an example of an early treaty, to bring its claim against the Australian Government.
In negotiating more recent ISDS provisions, countries have departed from a broad drafting style and moved towards more constrained language to ensure that outcomes from ISDS cases are closer to those intended by the negotiating states.
The TPP ISDS provisions represent the most modern iteration of this process. Specifically, the ISDS scheme in the TPP contain the following improvement over previous ISDS provisions:
it ties the definition of fair and equitable treatment of investors to the customary international law minimum standards of treatment of aliens. There is case history setting out the customary international law minimum standards of treatment of aliens which sets a high bar of proof for an investor wishing to make a claim;
it sets out a specific set of criteria for determining whether an indirect expropriation has occurred, which, taken together, mean that non-discriminatory regulatory action by a Government in areas that have historically been associated with regulation (such as health care and the environment), would be unlikely to qualify as indirect appropriation;
it contains a provision that, in effect, permits Governments to take any measure that it considers appropriate to ensure that investment activity is undertaken in a way that is sensitive to environment, health or other objectives. According to Dr Sam Luttrell, this provision is taken from the United States Model Bilateral Investment Treaty, and is intended to communicate to investors that TPP parties reserve the right to regulate in these areas;
it requires all cases taken under the TPP ISDS provisions to be conducted in public; and
it limits awards in ISDS cases to actual monetary loss with applicable interest.
According to Dr Jeffrey Wilson:
… the Trans-Pacific Partnership's ISDS provisions are some of the most protective regarding public welfare regulation … From a public welfare regulation point of view, this is the strongest and best that Australia has been able to access at the moment.
Another significant deficiency of early ISDS provisions was that they were in bi-lateral agreements. Each agreement was slightly differently worded and could result in very different interpretations by arbiters:
… if you have an ISDS case that establishes a definition of 'indirect expropriation around a public health regulation'—plain packaging, for example—that establishes a precedent only for the context of the BIT or FTA investment chapter to which it relates.
Dr Wilson noted that:
One of the advantages of the TPP is that, by multilateralising this process, it starts to overcome that problem. You have one investment text that can be subject to a set of interpretations which … will establish some greater certainty than what we presently have in a system of six FTAs—absent the TPP—and 21 BITs [Bilateral Investment Treaties]. So many would argue that the TPP's multilateral interpretation of ISDS is a step in the right direction towards reducing uncertainty…
Concerns with ISDS
Concern about the ISDS provisions in the TPP was widespread amongst participants. Two specific issues—concerns about a Government’s ability to regulate in the public interest, and the risk from investors in the United States—are detailed here.
Risks to public interest regulation
A number of participants were concerned about the impact ISDS would have on the ability of the Government to regulate on public interest matters.
For example, the NSW Nurses and Midwives Association argued that, because significant advances in health care came about through regulation, such as the removal of lead from petrol, rather than through medicines, ISDS provisions represent a considerable risk to advances in health care.
Some participants were concerned about the potential for ISDS to impact on the Government’s efforts to tackle climate change:
… we believe that our governments will need to meet the challenge of Climate Change with a suite of flexible and innovative environmental policies. We further believe that it would not be in the national interest to have that policy-making process impeded, directly or indirectly, by ISDS arbitral tribunals giving priority to the shareholders of private corporations that acquired a valuable interest (such as mining or grazing) in times past when the perils of Climate Change were not recognized and environmental threats were less severe.
The Joint Education Unions pointed out that the protections afforded by the TPP ISDS provisions did not extend to education services. These unions were particularly concerned about the potential for regulation in the vocational education sector to result in ISDS cases being brought against Australia.
The Committee considers that, should a case be brought against Australia in relation to public interest regulation under the TPP ISDS provisions it would most likely fail.
Australia has a clear history of regulating in the public interest in areas of health, the environment, and education. The process of making these regulations in Australia is transparent and does not discriminate between local and international investors.
The qualifications and definitional limitations in the TPP ISDS process intended to protect Governments that regulate in the public interest are, the Committee believes, sufficient to prevent an ISDS finding against Australia under the TPP. Specifically, Annex 9B paragraph 3b of the TPP states:
…Non-discriminatory regulatory actions by a Party that are designed and applied to protect legitimate public welfare objectives, such as public health, safety and the environment, do not constitute indirect expropriations, except in rare circumstances.
It is also worth noting that, in bringing its ISDS case against the Australian Government, Philip Morris deliberately selected the jurisdiction with ISDS provisions that would provide it with the best opportunity of success. Philip Morris used, from its point of view, the most helpful ISDS provisions it could find, and still lost, noting that the ISDS action by Phillip Morris took three years and cost the Australian government a report $50m.
Finally, the Committee notes that, if an ISDS tribunal finds against the Australian Government, this can mean one of only two things: the regulation was poor policy; or the ISDS provisions are not functioning as intended.
If the regulation was poor policy, then the Australian Government has treated a foreign investor badly, and that foreign investor deserves their compensation.
If the ISDS provisions are not functioning as intended, the ISDS tribunal still cannot prevent the Australian Government from progressing with public interest regulation. In addition, because the parties to the TPP are countries that might have similar findings made against them, they would all recognise the need to amend the ISDS provisions so those provisions work as intended.
Risks from investors in the United States
The Electrical Trades Union (ETU) points out that one of the potential reasons Australia has not been subject to ISDS claims is that most Australian agreements that contain ISDS are with countries that do not have extensive investments in Australia, and this will change under the TPP.
The ETU is particularly concerned about the potential for United States companies to use ISDS provisions against Australia for the first time, stating that:
US-based companies are by far the most frequent users, with twice as many cases as the country of the next largest users.
The ETU’s claim that investors from the United States are the largest users of ISDS claims comes from a Report by the United Nations Conference on Trade and Development, IIA Issue Note: Recent Trends in IIA and ISDS, published in February 2015, which included information on claims by the country of origin of the investor.
The Report showed that the majority of claims to the end of 2014 had been made by investors from developed countries, with investors from the United States being the most frequent users of ISDS provisions.
Dr Wilson did not consider that Australia was at much risk under the TPP from United States based investors:
… the Australia–US relationship is not one in which ISDS is likely to be called on to resolve these disputes, simply because the quality of the regulatory regimes in both countries is such that it is very unlikely to be called upon.
Dr Wilson’s analysis is backed up by the United Nations Conference on Trade and Development’s Report, which shows that the bulk of respondents to ISDS claims were developing countries, including Argentina, Venezuela, India, Egypt and Mexico.
Given the size of the United States economy, the fact that the majority of ISDS cases originate with investors in that country isn’t especially revelatory.
The protections afforded Australia in the ISDS TPP provisions will apply equally to investors from the United States or any other party. The Committee believes that any ISDS claims lodged by United States investors under the TPP are as likely to fail as claims lodged by investors from any other party.
Analysis of ISDS cases to date has given rise to a theory called ‘regulatory chill’, which relates to governments deciding not to pursue regulation in the public interest as a result of ISDS.
Dr Deborah Gleeson, of the Public Health Association of Australia, discussed the concept of regulatory chill in relation to health regulation:
We know that there is potential for corporations to use the threat of an investor-state dispute settlement case to deter governments from going down the path of introducing strong new public health measures, and that is a major concern.
At present, the evidence for regulatory chill is anecdotal. The example used most often during the inquiry was the New Zealand Government’s decision not to pursue plain packaging of tobacco products pending the outcome of the Philip Morris case.
I think regulatory chill is a really interesting area, and in the next few years you are going to see the emergence of a data set … I would say that it is too early to reach any empirical conclusion as to whether regulatory chill is occurring as a consequence of states granting ISDS rights.
In other words, the existence of regulatory chill as a public policy problem, as opposed to an occasional government decision, is still an open question.
Funding for ISDS cases
Dr Luttrell, who was counsel for Philip Morris in the plain packaging of tobacco products ISDS case, advised the Committee that the Australian Government’s costs in that case were in the vicinity of $50m, which he believed was high.
Nevertheless, the cost to the Australian Government of defending ISDS claims was raised during the inquiry as a reason not to pursue ISDS provisions.
During the inquiry, the Committee asked the Australian Government whether it had budgeted for the legal costs of defending ISDS claims under the TPP, and in the response to the Committee, it was not clear that the Australian Government had done so.
The Committee notes that the risk of a successful ISDS claim against Australia is not the same as the risk of a case being brought. The Australian Government should assume that, having included ISDS provisions in the TPP, those provisions will be used.
The soundness of Australia’s regulatory system will not dissuade a disgruntled investor from testing the ISDS provisions. Indeed, this has already occurred, in the Philip Morris case.
The Australian Government will be liable for actions brought against state or local governments through ISDS provisions.
In the view of the Committee, the Australian Government should:
be open about the prospect that ISDS cases may be brought against it; and
set aside sufficient funds to defend such cases.
Alternatives to ISDS
Inquiry participants noted that recent negotiations for free trade agreements have included proposals for alternatives to the current ISDS system. Two alternatives were discussed:
the Indian draft model Bi-lateral Investment Treaty (BIT), which does not include some of the qualifications around the grounds for taking an ISDS case included in the TPP ISDS; and
the European Union negotiating position on the TTIP, which requires ISDS tribunal members to be serving judges in an effort to remove any question of conflict of interest.
Both these alternatives emerged in 2015, when the process of negotiating the TPP was all but over. Consequently, they could not be considered as models for the TPP ISDS provisions.
It has been a theme of this chapter that ISDS provisions have evolved over time in response to criticisms of early ISDS provisions. The TPP ISDS provisions are a significant advance over previous provisions, and no doubt ISDS provisions developed in the future will be better than those in the TPP.
This does not constitute a reason to reject the TPP’s ISDS provisions. It only constitutes an obligation on the Australian Government to be aware of developments in this field, and adopt the developments best suited to Australia’s interests in future negotiations.
At the start of this Chapter, the Committee noted that discussion of ISDS in Australia focussed on the risks to Australian Government regulation in the public interest, rather than on the benefits to Australian investors abroad.
This focus has skewed the public perception of ISDS.
The Committee was fortunate during this inquiry to obtain evidence from the perspective of Australian investors who have used ISDS provisions against other Governments. The evidence allows a more balanced view of ISDS to be developed.
ISDS provisions are an established and evolving part of an international investment environment.
Under the TPP ISDS provisions, Australian investors have more to gain than the Australian Government and the Australian people have to lose.
The TPP ISDS provisions will reduce the costs and increase the certainty for Australian investors in TPP parties.
On the other hand, the new qualifications and improvements contained in the TPP ISDS provisions will protect Australian public interest regulation from claims.
The ISDS provisions in the TPP will not prevent an Australian Government from pursuing regulation in the public interest, even if there is a finding against the Australian Government.
Finally, the Australian Government needs be open about the fact that disgruntled foreign investors may bring ISDS claims against the Australian Government, regardless of their small chance of winning such a claim.