The Impact of Foreign Investors' Challenges of Domestic Regulations

Abstract

We examine the impact of foreign investors' ability to challenge allegedly harmful host-country regulations before an international arbitral tribunal under the investor-state dispute settlement (ISDS) provisions included in many international investment agreements. Consistent with widespread deterrent effects on costly domestic regulation, following an ISDS challenge, the equity values of firms in the industry affected by the challenged regulation increase significantly (by approximately 85 basis points in our baseline specification), particularly when large corporations challenge industry-level regulations for the first time. Domestic firms without ready access to ISDS also experience higher equity values, suggesting that our results are not driven by expectations of future awards of damages. In addition, we find that capital expenditures in the respondent country fall in the years before a case filing and then increase significantly afterward for firms in the case-affected industry. Taken together, our evidence suggests that ISDS enables foreign firms to deter domestic government regulatory interventions that decrease the profitability of investment.

Keywords: Investor-State Dispute Settlement, Stock Returns,Regulatory Environment, Spillover Effect, Foreign Investment