ICSID Annulment Committee Rules on the Relationship between Customary and Treaty Exceptions on Necessity in Situations of Financial Crisis

Introduction

On 25 September 2007, an Annulment Committee of the International Centre for Settlement of Investment Disputes (ICSID) handed down a report heavily critical of the method of reasoning of an arbitral tribunal constituted in the aftermath of the 2001-2 Argentine financial crisis.[1] The 2005 Tribunal in CMS Gas Transmission Company v Argentina had ruled Argentina to be in breach of a 1991 Argentine-U.S. bilateral investment treaty (BIT) and awarded compensation of US$133.2 million to the complainant.[2] The CMS Tribunal rejected Argentina's defence invoking an exception in Article XI of the BIT. That provision authorizes a state party to take measures necessary for, inter alia, "the maintenance of public order" or "the protection of its own essential security interests".

The Annulment Committee found that the CMS Tribunal had made a "manifest error of law" in its interpretation of the exception in Article XI of the BIT.[3] According to the Committee, the Tribunal had mistakenly conflated the stringent customary principles on necessity (taken to be codified in Article 25 of the International Law Commission's Articles on State Responsibility)[4] with the terms of the treaty exception.

These cases relate to regulatory measures implemented by Argentina in response to the escalating human costs of its financial crisis in 2001-2. In January 2002, Argentina passed an "Emergency Law" that abolished the currency peg between the Argentine peso and the U.S. dollar. That law also abrogated the rights of licensees in public utilities to adjust their tariffs and calculate them in U.S. dollars. The financial losses caused by these measures have seen a raft of foreign investors initiate suits before domestic courts[5] as well as arbitration claims for breach of Argentina's BITs. Argentina is currently the most heavily litigated state in the system of investment treaty arbitration.[6]

Argentina's main defence to these various actions has been to invoke the treaty exception for measures necessary for "public order" or "essential security interests". Of the four relevant ICSID cases to date, three have adopted the CMS Tribunal's method of using customary norms to reject Argentina's treaty defence.[7] There are dozens of pending similar cases against Argentina. The Annulment Committee's criticism of this dominant methodology raises important questions of how future tribunals will approach the interpretation of this treaty defence and the use of customary norms in assessing state response to financial crisis.

The CMS Tribunal

The CMS Tribunal interprets the exception in Article XI of the U.S.-Argentine BIT as an elaboration or updating of the customary principles on necessity, which are taken to be represented by Article 25 of the International Law Commission's Articles on State Responsibility. An initial consequence of this method is a singular focus throughout the award on the treaty exception for measures necessary to protect "essential security interests". That exception is taken as reflecting the customary right of a state to "safeguard an essential interest against a grave and imminent peril" under ILC Article 25(1)(a). In contrast, there is little substantive analysis of the alternate treaty ground for exemption of measures necessary to maintain "public order".

The Tribunal then presents what might, on first view, seem to be an expansive reading of the scope of a state's "essential security interests". It rejects the idea that these interests are limited to national security concerns of an international character as "there is nothing in the context of customary international law" that could on its own exclude major economic crises from the scope of Article XI.[8]

On the other hand, the ILC Articles are used in four distinct ways to narrow the operation of the treaty exception. Firstly, the Tribunal draws upon the requirement that a state safeguard an essential interest against a "grave and imminent peril" under ILC Article 25(1)(a) to argue that even a "severe" economic crisis would not suffice to attract the treaty exception. Instead, "a major breakdown, with all its social and political implications" and "total economic and social collapse" are presented as operative standards.[9] Secondly, the test for assessing whether the particular means used by a state are "necessary" to protect essential security interests is drawn from the ILC Articles. The means chosen must be the "only way" for the state to safeguard its interests as required under ILC Article 25(1)(a).[10] According to the Tribunal, Argentina's regulatory response was not the only way to deal with the financial crisis as it possessed "a variety of alternatives, including dollarization of the economy, granting of direct subsidies to the affected population or industries and many others".[11] Thirdly, the preclusion of the customary defence where a state has "contributed to the situation of necessity" under ILC Article 25(2)(b) is introduced as an operative element in the treaty defence (despite finding no reflection in the treaty text). Argentina's contribution to the crisis is characterized as "substantial" and presented as another ground for rejecting its treaty defence.[12] The fourth use of the ILC Articles is on the question of compensation where the defending state otherwise meets the operative components of the treaty exception. Under ILC Article 27(b), the customary defence of necessity does not excuse the obligation on a state to compensate for any material loss incurred. The CMS Tribunal endorses that article as "[establishing] the appropriate rule of international law on this issue".[13]

The Annulment Committee's Report

There is no formal system of appellate review under the ICSID Convention. An unsuccessful party may only apply for annulment of an award on narrow, circumscribed grounds. Those limited grounds reflect the priority accorded to finality over correctness in investment treaty arbitration. Argentina had sought annulment of the CMS award on the basis that the Tribunal had manifestly exceeded its powers and had failed to state the reasons for the award.[14]

Noting its limited jurisdiction, the Annulment Committee rejects Argentina's claim for annulment on the question of the treaty defence. It rules, for example, that there was no manifest excess of powers as the CMS Tribunal had applied Article XI of the BIT albeit "cryptically and defectively".[15] Despite its limited mandate, the Annulment Committee elects to present a range of targeted criticisms of the reasoning in the CMS award.

The Committee begins by noting that the CMS Tribunal had "assimilated the conditions necessary for the implementation of Article XI of the BIT to those concerning the state of necessity under customary international law".[16] It identifies a possible justification for that approach in the fact that there is "some analogy in the language" between the two legal norms (particularly the requirement that the means be "necessary" for a given end).[17] On the other hand, the Committee traces at length the substantive differences between the two legal standards (especially the limitations of the customary standard that find no reflection in the text of the treaty provision). In short, the elements of the customary and treaty exceptions are not the same and by reading them as such, the CMS Tribunal had made a "manifest error of law".[18] This though was not the only defect in method identified by the Annulment Committee. Given these substantive differences, the Tribunal should have "[taken] a position on [the] relationship" between the customary and treaty rules rather than "simply assuming that [they] are on the same footing".[19]

Intriguingly, the Annulment Committee then goes on to present two possible readings as to the relationship between the treaty exception and the customary norm. The first reading takes the customary law on necessity as applicable to the question of whether a state had committed a wrongful act. In other words, both the customary and treaty principles on necessity would have the status of primary rules of international law. As such, they would cover the same field but the CMS Tribunal should have applied the treaty exception as lex specialis.[20] The second reading follows the ILC's preferred position of characterizing the customary rules on necessity as secondary rules of international law. These secondary rules are designed in the work of the ILC as a set of general precepts to regulate the consequences of breach of primary norms that constitute an internationally wrongful act of a state. The stringent customary provisions on necessity could thus only apply if the Tribunal had first decided that Argentina had not made out the particular elements of the treaty defence.[21]

Implications for Future Cases

There are 26 pending cases against Argentina in the ICSID system, most of which relate to measures instituted in the aftermath of the 2001-2 financial crisis.[22] The Annulment Committee's report is not strictly binding on any of the ad hoc tribunals constituted to hear these future cases. There is, however, an increasing demand by stakeholders for greater coherence and consistency in the reasoning employed by investor-state arbitral tribunals. Given the clarity and substance of the Committee's ruling (as well as its particular membership),[23] the report is likely to have persuasive effect on these pending cases.

Future tribunals that elect to follow the Committee's ruling will be required to interpret and give effect to the specialized textual elements of the treaty exception. This is the primary recommendation in the Annulment Committee's report. This in turn will raise an initial question as to the exact scope of the treaty exemption for measures "necessary for the maintenance of public order". The cases to date have focussed on the notion of "essential security interests" as the sole ground for exemption under the treaty provision. The concept of public order may offer a potentially different prism through which to gauge and assess the efforts of a state in dealing with the breakdown of law and order in the aftermath of financial crisis. This concept has rarely been adjudicated. A notable exception is the recent consideration of public order in Article XIV(a) of the WTO General Agreement on Trade in Services in the Internet Gambling case.[24] The approach adopted in that case may offer useful guidance to future investment tribunals in sketching the parameters of this concept.

There remains a significant difference between the two suggested readings presented by the Annulment Committee. This goes to the question of when a given measure will be "necessary" to maintain public order or protect essential security interests. Under the lex specialis reading, the ILC has confirmed that customary principles continue to operate in a residual fashion.[25] Thus, while one aspect of customary law may be modified or displaced by the specific elements in the treaty, residual customary components may still apply. This was indeed the method adopted by the International Court of Justice in its interpretation of a similar treaty exception in the 2003 Oil Platforms case.[26] The requirement that a measure be "necessary" for certain ends unites the customary and treaty norms without direct conflict. It would then seem open for a future tribunal to retain the stringent customary standard (that a given measure is "the only way" to respond to the financial crisis) in its application of the treaty exception.

On the alternative reading put forward by the Annulment Committee, a future tribunal could have greater room to develop its own test of when a given measure will be "necessary". The choice of approach may be driven by the legitimate concern (evident in CMS and other awards) about the potential for abuse of this sort of exception. This may leave the door open for such doctrinal candidates directed to means-end scrutiny as rationality review, the various forms of "less restrictive alternate" analysis and even proportionality assessment.[37] The choice here is by no means a simple one. A succession of domestic and international judicial bodies has struggled with the systemic and normative consequences implicit in these different approaches.

About the Author
Jürgen T. Kurtz, an ASIL member, is Senior Lecturer and Director of the Research Programme for International Economic Law at the Institute for International Law and the Humanities, University of Melbourne Law School, Australia. He will present the inaugural general course on the Law of International Investment at the Academy of International Trade Law in Macau in July 2008.

About the ASIL International Economic Law Interest Group
The ASIL International Economic Law Interest Group promotes academic interest, discussion, research and publication on subjects broadly related to the transnational movement and regulation of goods, services, persons and capital. International law topics include trade law, economic integration law, private law, business regulation, financial law, tax law, intellectual property law and the role of law in development. Click here to learn more about the ASIL International Economic Law Interest Group.

Footnotes