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

In the first part, we covered what the Energy Charter Treaty is all about and why it was formulated. We also looked at how the existing treaty is falling short and does not match the demands of today.

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.

Withdrawal or Modernization?

The Energy Charter Treaty (ECT), adopted in 1994 and modeled after 1960s Bilateral Investment Treaties (BITs), is outdated and ill-suited for today’s investment and climate needs. While many countries are terminating BIT like India, Bolivia, and Ecuador, the ECT still exists. Initially, there was hope for modernization, but critics have long favored withdrawal. As of today, 12 European nations, including Spain, France, Germany, Italy, and the UK, have exited, citing the treaty’s failure to align with climate goals. In contrast, Japan, Switzerland, and Norway continue to support the ECT, with Japan advocating for minimal changes. Japan is still stuck with fossil fuels as it still continues to build and rely on coal powered plants. The Author supports withdrawal, believing the modernized ECT still falls short. Despite introducing a “flexibility mechanism” allowing countries to opt out of protecting fossil fuel investments, this is optional, and protections remain for a decade after adoption. This delay hampers urgent climate action, as it continues to shield fossil fuel industries and undermines global climate efforts.

The modernized ECT fails to address critical issues such as the need for long-term capital flow and technology transfer to developing countries. Additionally, no reforms have been made to the ICSID mechanism, which continues to operate unchanged. While the treaty makes a modest commitment to the Paris Agreement and sustainable development, it lacks a cooperation mechanism to support these goals.

Although the treaty extends protection to newer energy materials like hydrogen, biomass, and biogas, applying ICSID protections to these sectors may hinder climate action by reducing regulatory flexibility for countries in transition. For instance, Spain faced claims in its energy transition efforts. Furthermore, the treaty’s outdated review mechanism, which requires unanimous voting for amendments, makes timely changes difficult. Withdrawal from the treaty is complicated by the sunset clause, which continues to protect investments for years after exit. The EU faces uncertainty about achieving a coordinated withdrawal to neutralize this clause effectively.

The most commonly discussed approach is in connection to Article 41 of the VCLT . The Article lays down that.

1. “two or more of the parties to a multilateral treaty may conclude an agreement to modify the treaty as between themselves alone if:

a. the possibility of such a modification is provided for by the treaty; or

b. the modification in question is not prohibited by the treaty and:

i. does not affect the enjoyment by the other parties of their rights under the treaty or the performance of their obligations;

ii. does not relate to a provision, derogation from which is incompatible with the effective execution of the object and purpose of the treaty as a whole.

2. Unless in a case falling under paragraph 1(a), the treaty otherwise provides, the parties in question shall notify the other parties of their intention to conclude the agreement and of the modification to the treaty for which it provides.”

With respect to 41 (1) (a) some tribunals such as Vattenfall and Eskosol have deduced an explicit prohibition from Article 16(2) ECT. It provides any later agreement between some parties about investment protection or investor-state dispute settlement should not reduce the protection standards or the right to dispute resolution provided by the ECT. The ECT does provide for a possibility of modification. It is governed by Article 41 (1) (b)  of the VCLT.

Article 41 (1) (b) provides, that the modification “does not affect the enjoyment by the other parties of their rights under the treaty or the performance of their obligations.” The travaux preparatoris of the ECT provides that the treaty is a bundle of reciprocal bilateral relations. The rights and obligations of non-modifying third states and their investors remain unaffected by the agreement. According to the provisions of the treaty, investors of non-modifying states will continue to have access to investor-state arbitration. Hence the condition laid down under Article 41 (1) (b) is also fulfilled.

Article 41(1)(b)(ii) VCLT imposes a third condition. Modification must not “relate to a provision, derogation from which is incompatible with the effective execution of the object and purpose of the treaty as a whole.” It is argued that states comply with this article by preventing awards of compensation to fossil fuel investors by limiting their access to investor-state arbitration as the object and purpose of the ECT is to promote “sustainable energy development” and to enhance energy security and efficiency “in a manner which would be socially acceptable, economically viable, and environmentally sound“.

Additionally, another approach has been formulated directly in connection to Article 62 of the VCLT which is based on the doctrine of rebus sic stantibus allows a party to leave a treaty if there has been an unanticipated, significant change in a situation that served as the foundation for the agreement and that change has drastically changed the scope of the duties to be fulfilled under the treaty. It is argued that the circumstances under which the ECT was signed in 1994 were significantly different than today. That time it could be argued that fossil fuels would remain a sustainable and viable energy option. There wasn’t much understanding about other alternative energy options. It is argued that no one would have predicted the impact of climate change today and the need to pay compensation for abandoning fossil fuels and moving to renewable resources. It could not have been predicted that the ECT could exploited to such an extent by investors.

Although on the contrary arguments can be raised that Article 16 of the ECT read either by itself or in combination with Article 41 of the VCLT would prevent neutralization of the sunset clause. It is argued that it is highly likely that many arbitral tribunals will continue to assert jurisdiction, given the provisions of Article 16 of the ECT and established case law regarding inter se modifications. The precedent set by previous rulings suggests that tribunals may interpret these provisions in a way that reinforces their authority. This is despite the changes made by the parties about the inter se agreement. However, this argument is not sustained mainly because Article 16 of the ECT addresses treaties that cover the same subject matter and serves as a conflict-resolution mechanism for overlapping legal regimes. Article 16 of the ECT governs the relationship between coexisting investment treaties, as outlined in Article 30 of the VCLT. Under these provisions, the rules on the priority of overlapping treaties are applied without prejudice to the parties’ right to modify their agreements. Arbitral tribunals have just determined that the EU Treaties do not amount to an implicit inter se modification of the ECT among EU Member States, as such a modification would fail to meet the conditions outlined in Article 41 of the VCLT. Lastly, it cannot be inferred from the mere fact that Article 16 of the ECT was to apply in cases of neutralization as well otherwise it would have been expressly mentioned.

Additionally, one might argue that the application of Article 62 is not possible as research and awareness about climate change were adequate at the time the treaty was made. However, as Tibisay Morgandi had explained at the time, it was reasonable for governments to believe that, by adopting certain measures such as enhancing carbon sinks and developing efficient carbon capture and sequestration technologies, both natural and man-made would be enough to rely on fossil fuels. This belief was based on the expectation that these measures would lead to outcomes aligned with more optimistic projections, suggesting that fossil fuel use could be sustained without causing severe environmental harm. It was not foreseeable that one might have to abandon fossil fuels that quickly.

A withdrawal from the Energy Charter Treaty with a neutralization of the survival clause would end treaty-based fossil fuel protection and in the short term, this would significantly reduce ISDS risks, given that 60% of the cases based on the ECT are intra-EU. It would also enable the EU and its member states to comply with the EU’s climate objectives and EU law. A potential EU exit along with an inter se agreement that nullifies the survival clause might significantly lessen the threats that ECT-based arbitration poses to climate action. The agreement’s benefits would increase if non-EU leaving states joined it.

Conclusion

There are a bunch of myths that pro-ECT supporters use. Based on these myths Flues came out with a guide addressing and countering these myths. The author highly encourages readers to read it as it would only further enhance the support for withdrawal from the ECT. Myths such as ECT would significantly hamper foreign investment in countries, the ECT is the only way to protect energy investors abroad, particularly in countries, with weak judicial systems, etc have been countered effectively in the research.

The issue of withdrawing or not has a lot of dilemmas. The best solution is to withdraw neutralizing the sunset clause. However, that will surely be a difficult task despite as arbitral tribunals have not historically been state-friendly. On the other hand, the modernized treaty is not getting adopted by everyone in time. Even if it’s adopted, the author is sure that it will also take considerable time to convince countries like Japan that are against modernization to adopt it. However, that’s moot as what everyone needs to realize is that climate change has become an issue of our very existence. We have to act now. We can’t waste our time with procedures and red tapism. Even if adopted, the 10-year sunset clause is not going to solve it. With the lacunae created after the withdrawal from the ECT, it is argued that international and regional legal frameworks will mitigate the risks from domestic laws, while domestic governance will help investors navigate conflicts between overlapping legal systems.

Withdrawal is the only plausible solution. It’s going to be tough convincing the tribunals to withdraw from the treaty without paying the compensation. In an interesting article by Jan Klabbers, it is rightly said that international law is much like Gary Lineker’s definition of football tournaments a game in which a number of states take part and which will be won by Germany. International law involves 200 states and is invariably won by capital.

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