Investor-State Dispute Settlement, Profit Expectations, and Externalities
8 Pages Posted: 3 Nov 2016 Last revised: 26 Jan 2017
Date Written: October 16, 2016
Investor-state dispute settlement provisions in modern trade agreements allow companies to bring suit against governments for policy changes that reduce the value of their investments, which include by definition expected profits. While these treaties also provide that the mere fact that a legitimate government policy act may be inconsistent with an investor’s expectations does not constitute an actionable breach, even if there is loss or damage to covered investments as a result, profit expectations raise the potential compensation substantially in the case of a successful claim. The heightened risk for regulation in principle disciplines the making of regulations that are arbitrary, capricious, or lacking in public purpose. However, heightened risk also in principle restricts regulatory action where regulation is required (“regulatory chill”). Statements asserting that the agreements do not compromise the “right to regulate” fail to address this expectational cost. This note proposes a concrete response. Profit expectations are based on appropriable private returns to an investment and exclude all externalities, positive and negative. The foundation for public regulation of private affairs is the presence of externalities. This construction allows the formulation of rules for quantification of awards. Where state intervention is motivated by achieving a greater good, the principles governing compensation for expropriated private property at fair market value apply, albeit to a wider definition of property than under domestic law. In the case of regulation that restricts private action due to the presence of negative externalities, compensation – if any – should be based on full internalization of the negative externalities. Further, a distinction needs to be made between negative externalities that generate damage to property, which can be dealt with in monetary terms, and damage to persons, which would be prohibited without compensation in the normal course, and potentially catastrophic damage to society. This note develops these arguments.
Keywords: Investor-State Dispute Settlement, ISDS, Profit Expectations, Externalities
JEL Classification: F13, F21, F23
Suggested Citation: Suggested Citation