Busting myths around the Energy Charter Treaty

This week, members of the Energy Charter Treaty (ECT) will hold their annual conference and assess ongoing attempts to reform the controversial agreement. Amidst growing concerns that the ECT undermines urgent climate action, its corporate profiteers, the ECT Secretariat, and others are spewing propaganda, promoting falsehoods about how the treaty attracts clean investment and how its ‘modernisation’ will fix any flaws. Cut through the rhetoric with our myth-busting guide to the ECT’s world of dirty energy, highway robbery, and corporate abuse.

Governments must take urgent action to tackle the climate crisis. Above all, they need to move away from coal, oil, and gas, and towards a renewable energy future. Much of the world’s fossil fuel reserves need to stay in the ground if we want to prevent runaway climate change.

But governments which phase-out coal, end gas production or stop new oil pipelines to keep fossil fuels in the ground could be held liable for billions in damages under the Energy Charter Treaty (ECT). The ECT allows foreign investors in the energy sector to sue governments for decisions that might negatively impact their profits – including climate policies. UK-based oil and gas company Rockhopper, for example, is suing Italy over a ban on new offshore oil drilling. Finnish/German coal company Fortum/Uniper is threatening to sue the Netherlands for phasing out coal. Claims take place outside of existing courts, in shadowy arbitration tribunals run by three private lawyers.

Governments have already been forced to pay out enormous sums. Pending ECT claims total around US$28 billion. The actual figure could be more than twice that amount since pay-out information is publicly available in only 24 out of 51 cases. But US$28 billion is a staggering sum – equivalent to the estimated annual cost for the African continent to adapt to climate change.

Opposition to the ECT is growing rapidly. In October 2020, the European Parliament voted to end the ECT’s protection for fossil fuels. In November, 280 parliamentarians called on the European Commission and EU members to “explore pathways to jointly withdraw”. In December, over 200 climate leaders and scientists echoed that demand calling the ECT “a major obstacle” to the clean energy transition. Behind the scenes in the Council, EU member states like France, Spain, and Luxembourg, too, have raised the withdrawal option if the ECT cannot conform to the Paris Climate Agreement. Belgium has even asked the European Court of Justice if the ECT is at all in line with EU law.

But powerful interests want to prevent countries from leaving the ECT – and even expand it to new signatory states. And they will say anything to succeed. Let us guide you through some of their key myths and “alternative facts” so you can easily unpack the spin on the ECT.

ECT supporters say the treaty attracts investment. Their claim: by allowing foreign investors to sue states outside of their ‘biased’ domestic courts, the ECT makes a state a safer and more attractive investment destination. According to the Secretary General of the ECT Secretariat – which is not just an administrative body, but a driving force behind increasing support for the treaty – the ECT can “play a key role” when it comes to the “huge investment in sustainable energy sources” that is required by the Paris Agreement and the UN Sustainable Development Goals.

There is no clear evidence that agreements such as the ECT actually attract investment. In 2018, the Organisation for Economic Cooperation and Development (OECD) concluded in a review of available studies on the issue that “little robust evidence has been generated today”. A recent meta-analysis of 74 studies found that investment agreements’ effect on increasing foreign investment “is so small as to be considered zero”.

“There is still a lack of evidence that the ECT has a positive impact on flows of investment in any sector, including the renewable energy sector.”

― Kyla Tienhaara (Queen’s University) & Christian Downie (Australian National University)

The existence of investment treaties like the ECT is also not among the 167 criteria that Bloomberg New Energy Finance uses to assess a country’s attractiveness for clean energy investments. On the contrary, countries like Brazil and India, which never ratified or recently terminated such treaties, are amongst the top destinations for renewable energy investors. Clean energy targets and tax incentives are amongst the factors that really attract renewable energy investors to these markets.

Faced with public opposition to the ECT, its Secretariat, corporate lawyers, and fossil fuel lobbyists have mounted a spirited defence, arguing that the treaty actually helps combat climate change. With 60 per cent of ECT suits filed by renewable investors over reduced support for clean energy, they claim the ECT holds countries accountable to their climate promises. To quote an advisor to Russian oil and gas giant Gazprom and former staffer at the ECT Secretariat: “[The] ECT today first of all protects renewable energy sources… from unilateral worsening of investment climate by host countries.”

While most recent cases under the ECT pertain to renewable energy sources like solar and wind, this does not make the ECT a tool to combat climate change. The opposite is true.

The ECT protects existing energy investments – most of them in fossil fuels. Even during 2013-2018, when financing of renewables was unusually high, they comprised only 20 per cent of investments covered by the ECT. Coal, oil, and gas investment on the other hand made up 56 per cent (see this analysis by a former staffer at the ECT Secretariat). This reflects global trends where, in 2019, only 18 per cent of energy investment was in renewables while fossil fuels comprised 52 per cent, a staggering US$976 billion (the remaining share went into electricity grids, nuclear power and energy efficiency). On top of that governments support fossil fuels with enormous subsidies, estimated at an annual US$5.2 trillion globally and US$289 billion in the EU.

“The ECT is a serious threat to Europe’s climate neutrality target and more broadly to the implementation of the Paris Agreement.”

― Open letter of over 280 Parliamentarians from across the EU

By protecting the status quo, the ECT acts like a “bodyguard for the fossil fuel industry,” according to some media analysts. To implement their climate commitments governments will have to close coal mines and power plants, cease oil and gas operations, decommission new fossil fuel infrastructure and cut subsidies. But once they get serious about this, investments in dirty energy will drastically lose value. Investors can then resort to the ECT and demand steep compensation – as Fortum/Uniper did with its threatened €1 billion claim against the Dutch coal phase-out. Estimates put the potential cost of such claims at a minimum €1.3 trillion by 2050 – a strong financial incentive for governments to slow or weaken urgent action to keep fossil fuels in the ground.

The ECT Secretariat claims that “the majority of all investment disputes under the Treaty are brought by small or medium enterprises (approx. 60%).” According to its statistics 261 SMEs had filed ECT cases by October 2020, while only 7 had been brought by large corporations.

The statistics of the ECT Secretariat are based on a flawed definition of SMEs. It considers as SMEs companies that are neither amongst the world’s 250 largest energy corporations, nor the 100 largest non-financial multinationals. Hence, several large corporations that have sued governments under the ECT have been classified as SMEs, including Swedish energy giant Vattenfall (with 20,000 employees and an annual profit of almost €1.5 billion). The European Commission, on the other hand, defines SMEs as enterprises with fewer than 250 employees and an annual turnover of less than €50 million.

In addition, many companies, which the Secretariat labels as SMEs, likely belong to large corporations and rich individuals. Take the ‘Dutch’ companies Charanne and Isolux Infrastructure: they sued Spain under the ECT, but are mere letterbox companies owned by Spanish businessmen Luis Delso and José Gomis. The two men were once among Spain’s richest people but are currently under investigation for alleged corruption. Letterbox companies (firms with few if any employees set up to shift profits and avoid paying taxes) have filed 10 of the 11 cases where ‘Netherlands-based’ investors sued Spain over the country’s cuts to renewable energy subsidies.

“Whatever one thinks of investor-state dispute settlement – this is not a system that is much used by genuinely small claimants to obtain justice.”

― Journalist Luke Eric Peterson who covers investor lawsuits under treaties like the ECT

There’s another category of ECT users in the statistics: holdings and investment funds. They make up over a quarter of ECT claimants, often manage huge amounts of money and/or are part of giant corporations. Consider RREEF investment fund, for example. It is part of DWS, one of the world’s biggest asset managers. RREEF belongs to German financial giant Deutsche Bank and manages over US$700 billion investments globally. RREEF also sued Spain over the country’s renewable rollback (notably, while investing in coal and gas, too). In 85 per cent of the 47 ECT suits against Spain, the claimant was a financial investor such as RREEF. On the other hand, the 60,000 Spanish families, genuine SMEs and municipalities, which were also badly affected by Spain’s cuts to renewable subsidies, were hung out to dry. They had no right to file ECT suits as only foreign investors have access to this parallel justice system.

According to ECT proponents, foreign investors have little chance to get justice when being treated unfairly by host states – because not all countries ensure “that the rule of law is applied by domestic courts… in an impartial and independent way,” writes EFILA, a lobby group for law firms that collect millions in fees from their clients’ claims under the ECT and similar treaties. Arbitration under the ECT, on the other hand, ensures “investors’ independence from possible pro-state bias in the courts”. (Andrei V. Belyi, former staffer at the ECT Secretariat).

In reality investors can already access legal and financial protections when they go abroad: they can insure themselves against political risks like expropriation via private insurance, guarantees by the World Bank or insurance offered by home governments. They can also negotiate project-specific contracts with the host state, determining how and where to solve potential conflicts. Foreign investors are also entitled to seek compensation for alleged wrongdoings in national or international courts – just like everyone else.

When Swedish energy company Vattenfall was unhappy with Germany’s exit from nuclear power, for example, it sued the German government in the country’s highest court. The court found the nuclear exit to be constitutional but ruled that Vattenfall and others had a right to limited financial compensation for certain government actions relating to the exit. Despite this access to justice, Vattenfall continued its parallel €6 billion ECT suit – gambling it will walk away with a larger windfall.

One reason the ECT is much more lucrative for investors than regular courts is that its tribunals can award damages for anticipated profits companies expect to lose. In most courts, anticipated loses are not subject to compensation. Another reason is a “highway robbery” method used to calculate the “grossly exaggerated” compensation payments in investment arbitrations, as prominent investment lawyer George Kahale has stated.

An instructive example of a large ECT windfall is the case brought by shareholders of the former Yukos oil company against Russia. While an ECT tribunal ordered Russia to pay a staggering US$50 billion in compensation, the European Court of Human Rights, which the investors invoked in the same matter, awarded only €1.9 billion in damages – less than 5 per cent of the ECT award.

Amidst growing opposition to the ECT, a process to ‘modernise’ it was launched in 2018. The treaty’s profiteers and supporters say the negotiations will make investor lawsuits under the ECT “far more difficult” (law firm Winston & Strawn) and “provide states with the necessary scope for measures to implement the energy transition” (State Secretary at the German Ministry for Economic Affairs and Energy, p39). In short: modernisation will fix the ECT’s flaws and transform it into “the Greenest Investment Treaty of them All” (Kluwer Arbitration blog).

There are strong indications that modernisation will not tame the climate-killing ECT:

First, a revised ECT may never see the light of day. Any changes to the agreement require unanimity. But ECT signatories such as Japan have stated on all negotiation topics that they don’t want any amendments. An internal European Commission report from 2017 already deemed it “not realistic” that the ECT will ever be amended. Yet, to bring the ECT in line with the Paris Agreement and thwart the danger of its investment protection provisions, a complete treaty overhaul is needed.

“It is unlikely that Contracting Parties would reach an agreement to align the Treaty with the Paris Climate Agreement.”

― Masami Nakata, former assistant to the ECT Secretary General, on ECT modernisation

Second, what’s on the negotiating table fails to live up to the promise of a climate-friendly ECT. No signatory state has proposed removing its dangerous investment arbitration mechanism. No state has proposed a clear exemption for climate action (“climate carve-out” in legal language). And no ECT member wants to promptly exclude protection of fossil fuels from the modernised treaty. An October 2020 European Commission proposal would protect existing fossil investments for another 10 years and many gas projects until 2040. That gives polluters another 20 years to obstruct the clean energy transition with costly claims.

Third, flowery language on states’ “right to regulate” will not prevent ECT suits against climate action. The key question under the ECT is not whether states have a right to regulate. They do. ECT tribunals have confirmed that. The key question is whether states violate the ECT’s investor privileges when regulating. In other words: they can regulate however they want – but somewhere down the line states can be ordered to pay billions if a tribunal decides a regulation was ‘unfair’ to an investor. Re-affirming the right to regulate in the ECT, as the EU plans, while keeping its investor privileges intact, will not shield public policies from costly and potentially successful lawsuits. This also means that the risk of regulatory chill – governments avoiding claims by appeasing corporations with less regulation – remains, including in the context of the climate emergency.

Since 2012 the ECT Secretariat has been putting great effort into expanding the geographical reach of the agreement to countries in Africa and the Middle East, Asia, and Latin America. Many hope  joining the ECT will attract investment to end energy poverty among their people who often lack access to electricity for basic needs like cooking. This hope is actively nurtured by the Secretariat who has repeatedly asserted “the Treaty’s potential… to attract foreign investments to the energy sector” and to “eradicate energy poverty”. A promotional document on Africa and the ECT even suggests: “Perhaps the key to unlocking Africa’s investment potential in order to guarantee universal access to energy and to overcome energy poverty is the Energy Charter Treaty.”

For countries keen to increase energy investment, joining the ECT is unlikely to produce any benefits (see myth 1 above). Likewise, there is no evidence ECT membership reduces energy poverty. However, its downsides are clear and particularly severe for low-income countries:

Countries joining the ECT risk a flood of costly investor lawsuits. Globally, the ECT is already the most used treaty for investment arbitrations and companies from ECT member states are the heaviest users of the system. 60 per cent of all 1061 known investor-state cases worldwide (633) are from companies whose home state is a member of the ECT – the vast majority of them EU states.

“The ECT privileges… interests of foreign investors over the societal and economic interests of the host state and national stakeholders who have no rights under the system.”

― Yamina Saheb, energy expert and former employee at the ECT Secretariat

With corporations seeking compensation not just for actual cash invested but for future anticipated losses, states can be forced to pay huge amounts in damages unless they prevail in an ECT suit. Governments have already been ordered or have agreed to pay more than US$52 billion in damages from public coffers – more than the annual investment needed to provide access to energy for anyone globally who currently lacks it.

The ECT can also restrict governments’ ability to fight energy poverty and regulate investments so they contribute to national development. Several Eastern European countries have already been sued under the ECT because they tried to curb energy companies’ profits and lower electricity prices for consumers. Under the ECT, large energy companies can also sue governments if they decide to tax windfall profits, force companies to hire local workers, transfer technology, process raw materials before export, or even protect natural resources, among other things. Hence it becomes harder for states to minimise the social and environmental costs of foreign energy investments while maximising their benefits to the local community.

Notably, once a country joins the treaty it is vulnerable to ECT lawsuits for at least 26 years – even if subsequent governments decide to leave. While any state can withdraw five years after ECT accession and withdrawal takes effect a year later, it can still be sued for 20 more years for investments made before the withdrawal (see the next section).

ECT defenders claim that for signatory states to leave the treaty is “nonsensical in terms of avoiding compensations” (Andrei V. Belyi, former staffer at the ECT Secretariat). Due to the ECT’s sunset clause, which allows investors to sue a country for 20 years after its withdrawal, they argue that reforming the ECT is the only way to tame it. As Carlo Pettinato, one of the European Commission’s negotiators in the ECT modernisation talks put it in a debate (minute 23’00): “Even if today we walk out because we don’t like [the ECT], we’re stuck for 20 years with investors under the current rules… We don’t want that. We want to change it, we want to reform it.”

Notwithstanding the ECT’s sunset clause, leaving the treaty does significantly reduce a country’s risk of being sued: because the provision only applies to investments made before withdrawal, while those made after are no longer protected by the ECT. At a time when the majority of new energy investment is still in fossil fuels, not renewables, this is important. The sooner countries withdraw, the fewer new dirty investments will fall under – and be locked-in by – the ECT.

“If governments want to be seen as leaders on climate change then they need to step away from investment agreements that tie their hands and continue to protect fossil fuels at the taxpayers’ expense. Withdrawal from the Energy Charter Treaty is an essential first step.”

― Open letter from over 200 climate leaders and scientists

Withdrawing from the ECT is not difficult. As soon as a country has been a member for five years, it can leave the ECT at any time by simply giving written notification. This is true for nearly all of the treaty’s 50-plus members, including the EU and its member states. They could withdraw from the ECT immediately and be part of a global trend: according to UN data, 2019 was the second year where more harmful and outdated investment treaties were cancelled than newly concluded. Italy has already taken that step with regards to the ECT and withdrew in 2016.

If multiple countries withdraw together, they can further weaken the sunset clause. The withdrawing countries could adopt an agreement that excludes claims in their group – before they jointly leave the ECT. Such a declaration would make it difficult for investors from those countries to sue others from the group. This is not unreasonable. EU member states already reached such an agreement in May 2020 on some 130 bilateral investment treaties they had signed amongst each other. If EU member states took a similar step with regards to the ECT, the majority of the cases under the treaty – currently, 66 per cent of all cases are from EU investors against EU member states – would no longer be possible in the future.

Two political groups in the European Parliament have already demanded that the EU withdraw from the ECT (see here and here). In November 2020, more than 250 Parliamentarians from across the EU and different political parties called on EU member states to “explore pathways to jointly withdraw from the ECT” if provisions that protect fossil fuels and the ECT’s investor-state dispute settlement mechanism are not deleted in the modernisation negotiations.

As these negotiations are likely to fail because of widespread disagreement between member states and are unlikely to produce any results that will change the ECT’s deep-seated problems, countries should consider promptly withdrawing from the ECT. Given the urgency of tackling climate change and accelerating the energy transition, there is no time to lose.