[Part I] Withdrawal or Modernization of the ECT? No Winners Except Capital

This article is divided into two parts. The first part will introduce the Energy Charter Treaty, its origin, purpose, and concerns.

Introduction

Tackling climate change has become a major global issue, with growing protests and demands for action putting pressure on governments to comply with the 2015 Paris Agreement and the European Green Deal. The Paris Agreement aims to limit global warming to well below 2°C, ideally 1.5°C. This push for climate action has also influenced investment arbitration, as thousands across Europe and the Americas have started protesting against treaties like the Energy Charter Treaty, CETA, NAFTA, and others. Critics argue these agreements prioritize investor interests and create a “regulatory chill,” preventing governments from implementing policies that could negatively affect foreign investments. We are now seeing a shift from a focus on investment protection to increased investment regulation.

The Energy Charter Treaty (here in after called as ECT), once a key framework for international energy cooperation, is now facing widespread abandonment across Europe. On February 22, 2024, the United Kingdom announced its withdrawal, following countries like France, Poland, Germany, etc. The European Union also announced its intention to exit in 2023 and gave written notification to the depositary of the Energy Charter Treaty in June 2024. The backlash stems from concerns that the ECT, originally designed to protect energy investments, now hampers climate action by allowing fossil fuel companies to challenge environmental regulations. As the global focus shifts toward sustainability, many view the treaty as outdated and misaligned with modern energy policies. Further details will highlight the countries that have officially withdrawn or plan to leave this year, signaling the treaty’s uncertain future.

Before delving deeper into the current issues with the ECT, it’s important to understand its origins and purpose. The ECT was established in the early 1990s, following the collapse of the Soviet Union, as a way to integrate Eastern Europe’s vast energy resources into the broader European and global markets. Western Europe, with its stronger economies but limited energy resources, sought to tap into the energy-rich former Soviet states, while Eastern Europe needed foreign investment to rebuild its economies. The ECT serves as a multilateral framework to protect foreign investments in the energy sector, particularly fossil fuels. A key feature is the Investor-State Dispute Settlement (ISDS) mechanism, allowing foreign investors to sue host states under Article 27 if they believe their investments have been harmed. This mechanism, popular among investors, allows only investors not states to initiate claims.

Concerns

Concerns surrounding the ECT have intensified over the years, particularly regarding its impact on climate action. Critics argue that the treaty allows energy companies to sue governments over environmental policies that threaten their profits, including future profits. This has been especially problematic for countries attempting to transition away from fossil fuels. More than 100 Investor-State Dispute Settlement (ISDS) claims have been filed under the ECT, including cases against Italy’s ban on offshore oil production and the phase-out of coal power in the Netherlands. As awareness of climate change has grown, many European countries are abandoning the treaty, citing its overprotection of fossil fuel investments and its incompatibility with climate goals. The European Union has responded by negotiating agreements with third countries that exclude the ISDS mechanism, instead opting for an international investment court system with a first-instance court and an appeal body. This shift aims to address investment disputes while supporting climate initiatives.

Article 10 (1) of the ECT  contains the Fair and Equitable Standard which lays down that.

“Each Contracting Party shall, in accordance with the provisions of this Treaty, encourage and create stable, equitable, favorable, and transparent conditions for Investors of other Contracting Parties to make Investments in its Area. Such conditions shall include a commitment to accord at all times to Investments of Investors of other Contracting Parties fair and equitable treatment.”

The Fair and Equitable Treatment (FET) standard in the ECT has long been criticized for its broad and ambiguous wording. Critics argue that its vague language allows investors to file claims against governments, which can hinder efforts to transition to sustainable energy. As mentioned above in 2021, the Netherlands faced two lawsuits from German company Uniper after it attempted to phase out coal, illustrating how the FET provision can be used to challenge climate policies aimed at reducing fossil fuel reliance.

Following up with this is the apparent sunset clause. As per Article 47 (3) of the ECT,

“The provisions of this Treaty shall continue to apply to Investments made in the Area of a Contracting Party by Investors of other Contracting Parties or in the Area of other Contracting Parties by Investors of that Contracting Party as of the date when that Contracting Party’s withdrawal from the Treaty takes effect for a period of 20 years from such date.”

Even after leaving the ECT, countries remain bound by its obligations for investments made while they were members. For example, Italy, despite exiting in 2016, was ordered to pay £250 million to UK investor Rockhopper over a dispute regarding ceased oil exploration. This compensation, which included future profits, was eight times the original £28 million investment. Such cases discourage countries from leaving the treaty.

Additionally, a report by The Guardian accused ECT tribunals of bias, highlighting instances of “double hatting,” where individuals acted as arbitrators in one case and as counsel in another, raising concerns about impartiality in the arbitration process. Out of 191 arbitrators in Energy ECT hearings, just 37 have handled half of the cases. Notably, 17 of these arbitrators have acted as both arbitrators and lawyers in ECT and other investment cases, with 16 involved in fossil fuel disputes, mostly appointed by investors. Data shows that investors won 58% of cases where these “double hatters” were involved.

For years, the European Commission has argued that the ECT should not apply between EU member states, deeming it incompatible with EU law. This stance was upheld by the Court of Justice of the European Union (CJEU) in the Achmea and Komstroy rulings, which declared intra-EU ECT arbitrations illegal. Despite this, some ICSID tribunals, including in the Vattenfall vs. Germany case in 2018, continued to claim jurisdiction by invoking the ECT’s supremacy clause. In some cases, the ECJ has permitted international agreements establishing binding courts, affirming that such treaties were never intended to override the EU’s judicial protection system.

In response to growing criticism, the Energy Charter Conference initiated discussions in November 2017 to modernize the ECT. Key issues included the definition of investment and investor, the right to regulate, the MFN clause, denial of benefits, damage valuation, third-party funding, sustainable development, and corporate social responsibility. However, unanimity among negotiating partners was required for reform.

In June 2022, the parties agreed to modernize six key elements of the ECT, including shortening the sunset clause from 20 to 10 years, banning ISDS claims between members of the same regional bloc, narrowing the definition of investment, clarifying the Fair and Equitable Treatment (FET) standard, and limiting the umbrella clause. This consensus, called the Agreement in Principle, was leaked to a platform critical of trade agreements. The modernized text was set for a vote at the 33rd Energy Charter Conference in November 2022. However, the European Commission requested its removal from the agenda due to divisions among EU Member States, with critics arguing that the reforms were still insufficient. Countries like France, Germany, Belgium, Luxembourg, Slovenia, and Poland expressed intentions to withdraw from the treaty, viewing the modernized text as still favoring investor protection over necessary reforms.

The second part will cover the question of whether parties should withdraw from the existing treaty by neutralizing the sunset clause first or adopt the modernized Energy Charter Treaty. The part will cover arguments and counterarguments raised with respect to withdrawal. This will be followed by a conclusion that covers how countries can cover an ECT Lacunae if the treaty is terminated.

Please go to second part to read more.

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