Investor-state disputes arising from COVID-19: balancing public health and corporate wealth

In response to the COVID-19 pandemic, governments globally are engaging in a difficult balancing act of protecting public health, mitigating economic damage and avoiding interference with private rights.  

Even during a global pandemic, however, States are likely to be challenged for implementing measures that interfere with an investor’s private rights. Governments the world over have introduced COVID-19 prevention measures such as hard border closures, city and regional lockdowns, suspension of construction, production and mining, nationalisation of private industries and import and export restrictions.  

Almost certainly, these measures will be tested by international investors across a number of industries, alleging breaches of bilateral investment treaties and free trade agreements. Do investors have legitimate claims? How would a State defend such claims?

This Insight considers whether investors have a legitimate basis to claim an indemnity under an international investment agreement for their loss arising from government-mandated COVID-19 control measures. It also discusses the potential defences under international investment agreements and customary international law available to a State that is implementing measures to prevent the spread of COVID-19. 

COVID-19 measures 

Governments globally have taken different approaches to prevent the spread of COVID-19. At the most extreme, governments in countries such as Italy and India have taken measures to suspend manufacturing, construction and mining. Spanish and Irish governments have taken measures to nationalise private hospitals and health care. A number of countries, including China and Australia, have imposed internal travel restrictions or hard border closures to limit the movement of people between regions within those countries.  

At the other end of the scale, the Swedish government has taken a recommendations-over-restrictions approach to prevent the spread of COVID-19. Bars, restaurants and businesses remain open and unfettered with the government putting the onus on the elderly to remain inside. 

Potential claims by investors

Government mandated COVID-19 measures may be challenged by investors if the measures breach protections the State owes the investor under an international investment agreement. 

An international investment agreement is an agreement between two or more States that contains rights and protections to promote private investment between the States. The most common types of international investment agreements are bilateral investment treaties (BITs), multilateral treaties or free trade agreements (FTAs) (with investor protections). 

Whilst every international investment agreement is different there are a number of investor protections that are common across the agreements. It is possible that an investor could make a claim under an international investment agreement arising from the government imposed COVID-19 measures on the following bases: 

• a breach of an investor’s right to fair and equitable treatment (FET);
  
  
• a breach of investor’s right to full protection and security (FPS);
  
  
• a breach of the national treatment standard; or
  
  
• indirect expropriation by the State.

Australia is a party to 16 different bilateral investment treaties.[1] To make a claim under an international investment agreement an investor relies on the Investor-State Dispute Settlement provisions in the agreement. The International Centre for Settlement of Investment Disputes (ICSID) has prepared for claims arising from COVID-19 measures by proposing amendments to the ICSID Rules, which are discussed below. 

Fair and equitable treatment

Generally, international investment agreements require the State to ensure an investor receives fair and equitable treatment. For example, Chapter 8, Article 6(1) of the Singapore-Australia FTA (SAFTA) states that “Each Party shall accord to covered investments treatment in accordance with the customary international law minimum standard of treatment of aliens, including fair and equitable treatment and full protection and security”. 

The requirement for a State to afford an investor fair and equitable treatment has both procedural and substantive elements. From a procedural perspective the FET protection requires that the State afford the investor procedural fairness and due process in the exercise of its powers. 

One of the key drivers of this protection is transparency. For example, a State that made public statements guaranteeing certain businesses would not be shut down during COVID-19, and subsequently mandated that those businesses be shut down, may be in breach of its requirement to afford investors FET. Substantively, a tribunal may consider whether the State’s COVID-19 measures restricting an investor’s private rights are proportionate to the anticipated benefit of preventing the spread of the virus. 

Full protection and security 

In international investment agreements the FET protection generally is accompanied by an obligation for a State to provide full protection and security to an investor and its investments. A key question is whether the FPS protection applies only to physical security or extends to legal and commercial protection. This question has divided international tribunals and remains unsettled. 

On one hand, physical protection extends to the State being obliged to defend the investment from physical violence or force. If a tribunal interprets the FPS protection narrowly in this way it is unlikely that government mandated COVID-19 measures would result in physical violence or force. 

On the other hand, if a tribunal was to interpret the FPS protection more broadly, a State’s failure to implement appropriate and timely COVID-19 prevention measures may give rise to a claim that the State breached its obligation to provide full commercial protection and security to the investor and its investment. 

National treatment standard

The national treatment standard exists to ensure that foreign investors and their investments will be treated no less favourably than domestic investors and their investments. For example, article III(c) of the BIT between Australia and the People's Republic of China states that “A Contracting Party shall at all times … treat investments and activities associated with investments in its own territory … on a basis no less favourable than that accorded to investments and activities associated with investments of nationals of any third country.”

A tribunal may find that a State has breached the national treatment standard if the government implements measures that discriminate against foreign investors. Government-mandated COVID-19 protection measures have the potential, at least arguably so, to discriminate against foreign investors. For example, a number of governments globally have implemented COVID-19 measures that mandate the closure of airports and prohibit flights in or out of the country.  

These measures adversely affect both domestically-owned and internationally-owned airlines. If, however, a State government subsequently implemented ‘bail out’ measures that only applied to domestically-owned airlines, the State may face a claim that it has breached the national treatment standard. 

Indirect expropriation 

Indirect expropriation by a State occurs when a State implements measures that have the effect of controlling or interfering with the use, value or benefit of an investment. For example, article VI(1) of the BIT between Australia and the People's Republic of Indonesia states that:

“A Party shall not nationalise, expropriate or subject to measures having effect equivalent to nationalisation or expropriation (hereinafter referred to as ’expropriation’) the investments of investors of the other Party unless the following conditions are complied with:

(a) the expropriation is for a public purpose related to the internal needs of the Party and under due process of law;

(b) the expropriation is non-discriminatory; and

(c) the expropriation is accompanied by the payment of prompt, adequate and effective compensation.”

An ICSID Tribunal held that a series of State measures over a period of time that has the same effect may also constitute indirect expropriation. In Spain, the government has issued a Royal Decree that has the effect of allowing the government to assume control of private hospitals and clinics in an attempt to ‘nationalise’ the Spanish health system and its response to COVID-19. Such government measures may provide a basis for an investor to allege indirect expropriation by the government.

Defences under international investment agreements

If it can be established that government-mandated COVID-19 measures described above are incompatible with a State’s obligation under a relevant international investment agreement, the question will then turn to whether the State has a valid defence to a claim. A State may have a defence under the relevant international investment agreements and / or at customary international law.

Where an exception exists under an international investment agreement and the exception applies, the international investment agreement obligations will not apply to the COVID-19 measure. The General Agreement on Tariffs and Trade (GATT) and the General Agreement on Trade in Services (GATS) include general exceptions that the agreements will not prevent a party from adopting or enforcing measures to protect human life or health, provided that the measures are not arbitrary or discriminatory.[2]

Only few bilateral investment treaties include general exceptions of a similar nature. For example, some BITs include exceptions for non-discriminatory measures necessary for the maintenance of public order or permit actions taken in circumstances of extreme emergency or for the protection of its own essential security interests. While general exceptions in BITs are rare, exceptions are increasingly present in recent bilateral FTAs, for example:

• the SAFTA that entered into force on 28 July 2003 provides for the purposes of the chapter on investment within the agreement, that non-discriminatory measures are permitted where “necessary to protect public morals or to maintain public order”, “necessary to protect human … life or health” or “necessary to secure compliance with laws or regulations which are not inconsistent with the provisions of this Chapter including those relating to … safety”.
  
  
• the China-Australia FTA (ChAFTA) that entered into force in December 2015 provides that non-discriminatory measures for “legitimate public welfare objectives of public health, safety, the environment, public morals or public order shall not be the subject of a claim” by an investor.
  
  
• Australia has ratified the Indonesia-Australia Comprehensive Economic Partnership Agreement (IA-CEPA) that provides for the purposes of the chapter on investment within the agreement, that non-discriminatory measures are permitted where “necessary to protect public morals or to main public order” and to “protect human…health”.
  
  
• the Australia-Hong Kong Free Trade Agreement (A-HKFTA) that entered into force on 18 January 2020 incorporates the general exceptions in the GATT and GATS.  

While there is a strong argument that the COVID-19 measures would classify as a measure to protect ’public health’ and ’safety’, it must be remembered that for the exceptions to apply, the measures taken must be non-discriminatory in nature. States may also seek to rely on the doctrine of the State’s police power that provides that State regulations, within the bounds of accepted police power or regulatory power of States, are not compensable expropriations where such measures are for the bona fide purpose of protecting public welfare. The same caveat applies, however, to the power being exercised in a non-discriminatory and proportionate manner.[3] 

Defences under customary international law

States may also defend against COVID-measure related treaty claims on the basis of customary international law defences.[4] The three defences relevant to defending COVID-19 measures include force majeure, distress and necessity. The plea of necessity featured heavily in the investment treaty-based cases arising from the Argentine financial crisis, whereas force majeure and distress have not featured prominently in investment treaty cases.

The defence of necessity requires that a State must fulfil four requirements: 

• a grave and imminent peril;
  
  
• that threatens an essential interest;
  
  
• that the State’s act must not seriously impair another essential interest; and
  
  
• that the State’s act was the ‘only way’ to safeguard the interest from that peril.  

The plea of necessity will be excluded if: the obligation in question excludes reliance on necessity; and the State contributed to the situation of necessity.[5] The issue of contribution was live in the claims arising from the Argentine financial crisis. For example, one tribunal dismissed Argentina’s attempt to rely on necessity, finding it contributed to the situation of necessity with “well-intended but ill-conceived policies”.[6]  Whereas, another tribunal found the plea of necessity required some degree of fault and accepted Argentina’s reliance on the plea.[7] Satisfying the requirements of necessity is a high-bar and the level of contribution by the government to the COVID-19 pandemic will become a critical factor.

The defence of force majeure is strict. It requires the fulfilment of five conditions: unforeseen event or an irresistible force; the event or force must be beyond the State’s control; the event must make it ‘materially’ impossible to perform an obligation; and the State must not have assumed the risk of the situation occurring.[8] 

The defence of distress requires the State to show: threat to life; a special relationship between the author of the act and the persons in question; that there was no other reasonable way to deal with the threat; that it did not contribute to the situation; and that the measures were proportionate.[9]

As mentioned above, the defences of force majeure and distress have not received much attention in investment treaty cases and it remains to be seen whether this will change in any claims arising from the COVID-19 pandemic. 

Proposed amendments to ICSID Rules 

The ICSID has released its fourth working paper containing proposed amended ICSID Rules, with the goal of placing the proposed amended rules before its membership for a vote in late 2020.[10]  This will lead to the potential for the amended rules to be in place by early 2021 and so would be relevant for any claims arising out of the COVID-19 pandemic. Some of the key changes to the rules include: 

• standalone fact-finding rules, which will allow parties the opportunity to constitute a committee to make objective findings of fact which could have the ability resolve a legal dispute between the parties;
  
  
• mediation rules, which are aimed to allow parties to resolve part or all of their dispute with the assistance of a mediator;
  
  
• expedited rules, which may be helpful in providing access to investment arbitration for small and medium sized companies with the ICSID also hoping that such entities will consent to the expedited process;
  
  
• the requirement for all filing to be done electronically for processes to become faster, more environmentally friendly and less expensive; and
  
  
• a requirement to disclose third-party funding, whether it be direct or indirect.  

The draft code of Conduct for Adjudicators in Investor-State Dispute Settlement released 1 May 2020, provides a set of concrete rules for arbitrators, judges and other types of adjudicators. The draft code provides applicable principles, as well as outlining detailed provision which allow for some flexibility in unforeseen circumstances. Relevantly, article 3 sets out the general duties of adjudicators, stating that adjudicators shall, at all times: 

• be independent and impartial, and avoid any direct or indirect conflicts of interest, impropriety, bias and appearance of bias;
  
  
• display the highest standards of integrity, fairness and competence;
  
  
• be available and act with diligence, civility and efficiency; and
  
  
• comply with any confidentiality and non-disclosure obligations. 

This article is part of our insight series COVID-19: Navigating the implications for business in Australia and beyond. To get notified by email when new COVID-19 insights are released, please subscribe for updates here.