I.        Current Status of Investor Legitimate Expectation

Legitimate expectation is a doctrine that is frequently connected to the phenomenon of change of regulation or law. The origin of the doctrine of legitimate expectation can be traced back to the German doctrine of ‘protection of trust’ (Vertrauensschutz)[1]. This a concept that is used to counter the principle of ‘free revocability’ (Grundsatz der freien),[2] which is the wide-ranging discretionary powers vested in public authorities.[3] The protection of expectation is necessary to create legal predictability and certainty.[4] Weber argues that predictability and certainty are prominent features with respect to economic development in the capitalist economy.[5] Without legal predictability and certainty, entrepreneurs will have difficulty in planning and foreseeing the consequences of their choices.[6] It can be said that this condition is similar to the relationship between the investor and host state within the frame of the international investment regime, once the investor has been accepted to invest in the host state through the admission process.[7]

Under customary international law, no State has an obligation to accept an investor; however, once the investor arrives in that specific State, the investor should subsequently follow the legal procedure, while the host state should simultaneously protect the investor from any harm to their investment.[8] The nature of investment that involves a long-term project and spendable capital also makes the protection of their expectation crucial.[9] However, the protection of legitimate expectation is not absolute; rather it works in a flexible way to achieve a balance between the need of the Government to exercise its regulatory-making power to accomplish public needs with the protection of the individual.[10] In the Federal Constitutional Court of Germany (Bundesverfassungsgericht), the Advocate-General stated that every change of situation in administrative power requires ‘a weighing up of respective of interest’.[11]Any interference with an individual expectation could only be sanctioned if public interest predominates.[12] It can be said the doctrine of legitimate expectation is closely related to the level of development of a State and encompass the action of government to change a law or regulation to benefit public interest.[13]

Fair and Equitable Treatment (FET) standard in international investment law that provides for ‘[Rule] making in independent terms, without refererence to the treatment of others.[14] In international investment regimes, the protection of legitimate expectation becomes the dominant sub-element of the FET standard, as a result of tribunal practices.[15] However, the practices of tribunals when assessing the operation of the doctrine of legitimate expectation are far from the philosophical purpose of the doctrine itself.[16] Henckels argues, instead of weighing up interest between the host state and investor, the tribunal tends to fulfil the expectation of the investor.[17] Moreover, tribunals also set a certain condition that should be provided by the host state. That certain condition is to provide legal stability and regulatory frameworks according to minimum standard in international law.[18] In Tecmed v Mexico, the tribunals vested duty to the host state not to take any action that may affect the basic expectation of the investor at the time the investor made investment. [19] Dupuy argues, the reference made by the tribunal involved in the Tecmed case works as an implicit stabilisation clause,[20] which is a clause that prohibits the host state from changing its regulation.[21]  This condition makes developing countries repeatedly pay excessive compensation to investors when they endeavour to exercise their regulatory making power, even if they need to do it to save a country experiencing a severe crisis.[22]

In CMS v Argentina,[23] the tribunal established that Argentina breached investor expectation to gain a stable conversion tariff regime, although that measure was necessary to save the country from the impact of severe crisis. This approach was later followed by several cases, for instance Enron v Argentina[24] and Sempra v Argentina [25] (hereinafter referred to as ‘Argentina series of case). Moreover, this condition is not only serious for the host state but also for the credibility of the investor-state arbitration regime because[26] several developing countries, such as Bolivia,[27] Ecuador[28] and Venezuela[29] have denounced the ICSID Convention[30] in response to the current interpretation of tribunals that are more in favour of investors.[31]

Arguably, if the protection of legitimate expectation is an essential element concerning the FET standard, then the philosophical purpose and method of review adopted in the origin of this doctrine should also be employed by tribunals.[32] This means tribunals should consider the level of development, inter alia, as well as the potential of the legal and socio-economic dynamics of the host state as a crucial element to establish the liability of the host state to the investor.[33] The attempt to balance the interest of the host state and investor should be employed without reference to a certain standards in international law. Rather, it must be assessed on factual cases and government conduct in questions, and place the level of development of the host state to preclude it from liability.[34]

II. Investor Reasonableness and Level of Development

One of the purposes of legitimate expectation protection is to enable investors to make reasonable business decisions relying on the representations made by the host state. It implies an evaluation of the is measure taken by reference to what could be expected from the host state. However, this expectation cannot be automatically protected. Rather, it must be reasonable and legitimate as the tribunal in Saluka v Czech stated:

Moreover, the scope of the Treaty’s protection of foreign investment against unfair and inequitable treatment cannot exclusively be determined by foreign investors’ subjective motivations and considerations. Their expectations, in order for them to be protected, must rise to the level of legitimacy and reasonableness in light of the circumstances.” [35]

The standard for legitimation derives from what is accepted or considered as a normal expectation in a given social environment.[36] This means the legitimacy of expectation derives from social meaning rather than merely legal standard.[37] In international investment law, the standard shall be articulated as ‘sufficiently universal to be considered as shared by all, or at least by the parties to a specific dispute’.[38] Therefore, an expectation of the investor is only legitimate if it considers not only the facts surrounding the investment industry, but also the political, cultural, and legal backgrounds of the host state.[39] With this regard, the tribunal in Parkering v Lithuania vested a duty to the investor to conduct due diligence before deciding to invest in the host state.[40] This due diligence shall encompass the period when the investor decides to invest in a country and the anticipation of any changes that can be foreseen in ensuing days.[41] As Kriebaum contends,  if the legitimate expectation is indeed a decisive criterion, then the examination to prevailing condition of the host state when investor decide to invest will be highly relevant to determine the protection to investor expectation.[42] In the Bayindir v Pakistan, the tribunal dismissed the investor expectation regarding a  stable legal and business environment because the claimant was aware of the political turbulence in Pakistan when it decided to invest. [43] Moreover, an expectation also cannot be protected if it arises the investor fails to behave as diligent or prudent person when doing its business.^[44] In Glamis Gold v USA, the claim of frustration of legitimate expectation failed, partly because the claimant was operating in the business that becomes more sensitive to environmental consequences of open-pit mining.[45] If the investor knows that based on their due diligence they cannot attain certain result because it contravenes with particular condition or regulation of host state, then an expectation cannot be protected. [46] In Thunderbird v Mexico,[47] the tribunal dismissed legitimate expectation violation claim filed by claimant although the claimant relied on the Legal Opinion given by Mexico Government. The fact that claimant knew that its video games devices contained gambling element that was prohibited in Mexico made its reliance unreasonable.

From those illustrations, it can be seen that the due diligence of the investor permeates the concept of legitimation and reasonableness of  the investor expectation. Ian Browlie argues, if a duty of due diligence exists to investor, then ‘it would allow the variation of wealth and educational standards between the various states of the world’[48] Root shared same idea in 1910 as he argued the treatment to a foreigner is based on the condition of the country where he lives.

‘It is a practical standard and has regard always to possibilities of government under existing conditions. The rights of the foreigner vary as the right of the citizen vary between ordinary and peaceful times and times of disturbance and tumult; between settled and ordinary communities and frontier regions and mining camps. [49]

This notion still possibly remains relevant today where the gap between developed and developing country can be seen clearly. A study conducted by Baek and Qian reveals that developing nations suffer from a lack of capital and ‘have an even greater incentive than governments in developed countries’ to change the terms of existing foreign investment’.[50] Dupuy also recognises that “the behaviour required from a State whose economic resources supply it with the means to increase the extent of its control cannot be the same as that required from a State whose administration is sparse and relatively ineffective for want of material resources.”[51] Therefore, according to Thomas, the international law allows ‘manifold differences in the way in which states organize themselves, their level of development, economic system, culture and so on…’[52]  In Mamidoil Greek v Albania,  it was precisely stated that the investor is entitled to expect that the government in the developing countries will do its best  efforts to protect investment, however, the investor is ‘not entitled to believe that these efforts would generate the same results as stability in Great Britain, USA, or Japan’.[53]

The level of development of host state, therefore, should be considered more than a matter of fact as shown in Argentina series of case; rather it must be put as the legality of self-defense that may frustrate investor expectation and lower the standard of international law to respond the host state’s development goal.[54] However, to reach such balance, the tribunal should employ a method of review that can facilitate the level of development of host state as the legality of self-defense. Bearing this in mind, recourse to proportionality with deference may help.[55]

III.          Reaching Balance with Proportionality and Deference: Is it ideal?

Snodgrass argues when evaluating the regulatory-making dispute, the balance should be tilted to favour investors.[56] The legitimate expectation of the investor must be protected even when the measures taken by the host state outweigh the individual’s interest in fulfilment of the investor expectation.[57] However, this measure arguably is not in line with the concept of domestic restraint of substantive legitimate which includes principle deference to regulatory-making powers of the host state. However, Dolzer argues that if the tribunal is unsure regarding the merit of the case, then it should ‘find in favour of state sovereignty in the case of doubt’.[58]Moreover, Schonberg, on his comparative study of legitimate expectation, ascertained that the conduct of the government in relation to bona fide public interest should not make the government pay compensation to the individual. However, this approach may possibly scare the investor. If all regulatory-measures taken by the host state may exclude the host state from liability, then the host state will always win when a dispute arises. Arguably, what is important, is to employ a method of review that can provide a logical structure and can rationalise the decision-making process of the tribunals. Several scholars argue that reference to proportionality and deference to the host state are the most appropriate mechanisms to overcome the absence of an analytical review of the level development.[59]

According to Kingsbury and Schill, proportionality is ‘a method of legal interpretation and decision-making in situations related to the collisions or conflicts of different principles and legitimate public objectives’[60] From the international context, proportionality has been used in ICJ, WTO law and by the EctHR to determine the legality of self-defence.[61] Using proportionality as a method of review will make the tribunal’s decision-making process more predictable, as it requires the tribunal to apply three sequential tests; specifically: 1. The Legitimacy of the regulatory objectives test, 2. Suitability test; and 3. Necessity test[62]. In evaluating the legitimacy of the regulatory objectives, the tribunal should be able to recognise whether the conduct of the host state is beneficial concerning serving public interest. Arguably, Tecmed and CMS tribunals failed to apply this principle. In Tecmed,[63] when assessing the reason for the revocation of the claimant’s licence, the tribunal placed excessive consideration on the claimant’s argument that such revocation transpired because of political pressures placed on the respondent. Indeed, the local community protested against Mexico. However, the tribunal failed to identify that the protest occurred because of the claimant’s business activity that polluted the environment around the investment project.[64] Moreover, when reviewing the suitability of the host state’s conduct, the tribunals should assess the relationship between the measures and objectives taken by the host state.[65] Finally, when exploring the necessity of the measures, the tribunals should weigh the competing interest between the investor and the host state. Henckels argues the necessity test includes, ‘assessing the social importance of achieving the measure’s objective against the social importance of avoiding harm to the right or interest.[66]

Under those three sequential tests, the tribunal arguably will always ensure that it considers the current development of the host state and the importance of it to the host states future development. However, the proportionality test also has problems. Referring to the domestic restraints of substantive expectation, the second and third test possibly give tribunals too much discretion and enable them to review the law of the host state, which is not their competence and jurisprudence.[67] Therefore, aside from proportionality as a method of review, the tribunal must apply the deference principle as a standard of review.[68] This means the tribunal must have the view that ‘national authorities should be the main determinant of public interest in situations of normative uncertainty.[69] However, deference is not a readily applicable concept as it requires the tribunal to consider whether the sovereignty that is enjoyed by the host state makes the host state qualified to decide the particular issue.[70] This determination is controversial, seeing as there is ‘proximity’ between the tribunal and the host state.[71] An arbitrator that does not embed with the State may not completely understand the host state’s public policy priorities.[72] Consequently, when assessing the deference principle, the subjectivity of the tribunal still involves and trespasses the sovereignty of the host state. It can be said that proportionality principle will not stop the tribunals to use their discretion when adjudicating disputes.[73] However, at least it gives space to the host state to use its level of development as a legality of self-defence and more importantly, it provides a structured test that the investor and the host state can rely on.

[1]  Case 1/73 Westzucker GmbH v. Einfuhr- und Vorratsstelle für Zucker [1973] ECR 723, para. 6.See also Case 81/72 Commission v. Council [1973] ECR 575, Robert Thomas, Legitimate Expectations and Proportionality in Administrative Law’ (Hart Publishing 2014)

[2] Ibid

[3]  Soren Schonberg, Legitimate Expectations in Administrative Law (OUP 2007) 13, see also  D.J. Galligan, Discretionaty Powers: A Legal Study of Official Discretion (OUP 1986) and R.E Goodlin, ‘Welfare, Rights, and Discretion’ (1986) OJLS 231

[4] E Sharpston, ‘Legitimate Expectations and Economic Reality’ (1990) ELR, 102, 106 and section 4.B. See also Schonberg (n3) 12

[5] M Weber, Economie et societe, vol.1 (Paris, 1971), 350; L’ ethique protestant el l’esprit du capitalism (Paris 1981), 23 see also M.E. Streit, ‘Economic Order, Private Law and Public Policy’ (1992) JITE 675, 693 ‘legal provisions…serve to secure the autonomy of economics agents as a precondition of self-co-ordination on the basis of private contracts’.

[6] Schonberg (n3) 13

[7] Rudolf Dolzer and Christopher Schreuerr, Principle of International Investment Law (2nd edn, OUP 2012) 88

[8] Ibid

[9] Christopher Schreuer and Ursula Kriebaum, ‘At What Time Must Legitimate Expectations Exit?’ in Jacquest Werner and Arif Hyder Ali (Eds), A Liber Amicorum: Thomas Walde, – Law Beyond Conventional Thoughts 265 (Cameron May International Law & Policy 2009) at 265

[10] Schonberg (n 3) and Thomas (n1)

[11] Case 1/73 Westzucker GmbH v. Einfuhr- und Vorratsstelle für Zucker [1973] ECR 723, para. 6.See also Case 81/72 Commission v. Council [1973] ECR 575 see in Thomas (n3)

[12] Ibid

[13] Schonberg (n 3) and Thomas (n 1)

[14] Herman Walker, ‘Modern Treaties of Friendship, Commerce and Navigation’ (1958) 42 (5) Minnesota Law Review 805

[15] Tellez Felipe Mutis, ‘Condition and Criteria for the Protection of Legitimate Expectations Under International Investment Law’ (2012) ICSID Review 432;  Potesta Michele, ‘Legitimate Expectations in Investment Treaty Law: Understanding the Roots and The Limits of Controversial Concept’ (2013) 28 ICSID Review 3

[16] Caroline Henckels, Proportionality and Deference in Investor-State Arbitration (Cambridge 2015) at 115-119

[17] Ibid

[18]  CMS Gas Transmission Company v. The Argentine Republic (ICSID Case No. ARB/01/8, Award, 12 May 2005 para 284;  Parkerings-Compagniet AS v Republic of Lithuania, ICSID Case No. ARB/05/8, Award, 11 September 2007 para 233  

[19] Técnicas Medioambientales Tecmed SA v. United Mexican States, ICSID Case No. ARB(AF)/00/2), Award, 29 May 2003 para 154

[20] Florian Dupuy and Pierre Marie Dupuy, ‘What to Expect from Legitimate Expectations? A Critical Appraisal and Look Into the Future of the ‘Legitimate Expectations’  Doctrine in International Investment Law in Nassib G. Ziade (ed),  Festschrift Ahmed Sadek El-Kosheri (Kluwer Law International 2015) at 285.

[21] Abdulkadir Jailani, ‘Indonesia’s Perspective on Review of International Investment Agreements’ (2015) 1 Investment Policy Brief 1

[22]  Nick Gallus, ‘The Influence of the Host State’s Level of Development on International Investment Treaty Standards of Protection’ (2006) 5 Investor-State Disputes – International Investment Law 1

[23] CMS v Argentina para 278-279, citing Tecmed v Mexico  and  Metalclad Corporation v United Mexican States (Case No. ARB(AF)/97/1, Award, 30 August 2007 para. 103

[24] Enron Creditors Recovery Corporation (formerly Enron Corporation) and Ponderosa Assets, L.P. v. Argentine Republic, ICSID Case No. ARB/01/3), Award, 22 May 2007

[25]  Sempra Energy International v. Argentine Republic, ICSID Case No. ARB/02/16, Award, 28 Septermber 2007

[26] Sergey Ripinsky, ‘Venezuela’s Withdrawal From ICSID: What it Does and Does Not Achieve’ (13 April 2012) Investment Treaty News

[27] United Nations Conference on Trade and Development (UNCTAD), ‘Denunciation of the ICSID Convention and BITs: Impact on Investor-State Claims’ (2010)  2 UNCTAD 1

[28] Ibid

[29] Ripinsky (n 26)

[30]  Convention on the Settlement of Investment Disputes between States and Nationals of Other States 1965 (ICSID);  Herbert Smith Freehills (HSF), ‘Venezuela Follows Bolivia and Ecuador with Plans to Denounce ICSID Convention’ (19 January 2012) Arbitration Notes.

[31] Ripinsky (n 26)

[32]  Trevor Zeyl, ‘Charting the Wrong Course: The Doctrine of Legitimate Expectations in Investment Treaty Law’ (2011) 49 Alberta Law Review 2013

[33] Gebhard Bucheler, Proportionality in Investor-State Arbitration (OUP 2015) at 190-192

[34] Ibid at 208

[35]  Saluka Investments BV (The Netherlands) v Czech Republic, UNCITRAL, Partial Award, 17 March 2006;  Enron Creditors Recovery Corporation (formerly Enron Corporation) and Ponderosa Assets, L.P. v. Argentine Republic, ICSID Case No. ARB/01/3), Award, 22 May 2007

[36] Dupuy  and Dupuy (n 20) 274

[37] Ibid

[38]  Ibid

[39]  Ibid

[40] Parkering v Lithuania para 156

[41]  Christopher Schreuer and Ursula Kriebaum, ‘At What Time Must Legitimate Expectations Exit?’ in Jacquest Werner and Arif Hyder Ali (Eds), A Liber Amicorum: Thomas Walde, – Law Beyond Conventional Thoughts 265; see also Parkering v Lithuania 33

[42] Kriebaum (n 41)

[43]  Bayindir Insaat Turizm Ticaret Ve Sanayi A.S. v. Islamic Republic of Pakistan, ICSID Case No. ARB/03/29, Award, 27 August 2009 para 185

[44] R.-E. Papadopoulou, Principes généraux du droit et droit communautaire 223, 236–37 (1996). See Snodgrass Elizabeth, ‘Protecting Investors’ Legitimate Expectations – Recognizing and Delimiting a General Principle’ (2006) 21 ICSID Review 1

[45] Glamis Gold, Ltd. v. USA, NAFTA/UNCITRAL, Award, 8 June 2009, para. 767.

[46] Potesta (n 15)

[47] International Thunderbird Gaming Corporation v United Mexican States, UNCITRAL, Award, 26 January 2006

[48] Ian Brownlie, Principles of Public International Law (Clarendon Press, Oxford, 6th edition , 2003) at page 504.

[49] Elihu Root, “The Basis of Protection to Citizens Residing Abroad,” 4(3) The American Journal of International Law (1910) 517

[50] Kyeonghi Baek and Xingwan Qian, ‘An Analysis on Political Risks and the Flow of  Foreign Direct Investment in Developing and Industrialized Economies’ (2011) 6 (4) Economics, Management and Financial Markets 60

[51] Pierre Dupuy, “Due Diligence in the International Law of Liability,” in OECD, Legal Aspects of Transfrontier Pollution (1977) 369 at 37

[52] J Thomas, “Reflections on Article 1105 of NAFTA: History, State Practice and the Influence of Commentators,” 17(1) ICSID Review – Foreign Investment Law Journal 21(2002) at 28 (emphasis added). See also W. Michael Reisman, “The Regime for Lacunae in the ICSID Choice of Law Provision and the Question of Threshold,” 15 ICSID Review – Foreign Investment Law Journal 362 (2000) at 367

[53] Mamidoil Jetoil Greek Petroleum Products Societe Anonyme S.A. v Republic of Albania, ICSID Case No ARB/11/24, Award, 30 March 2015 para 626

[54]  Kriebaum  98)

[55] Zeyl (n 32); Henckels (n 16); Bucheler (n 33)

[56] Snodgrass Elizabeth, ‘Protecting Investors’ Legitimate Expectations – Recognizing and Delimiting a General Principle’ (2006) 21 ICSID Review 1

[57] Ibid

[58] Rudolf Dolzer, The Impact of International Investment Treaties on Domestic Administrative Law (2005) 37 NYU Journal International Law and Politics 953

[59] Zeyl (n 32); Henckels (n 16) at ; Bucheler (n  33)

[60] Charles N Bower & Stephan W Schill, ‘Is Arbitration a Threat or a Boon to the Legitimacy of International Investment Law?’ (2009) 9 Chi. J. Int’l L. 471

[61]  Henckels (n 37) 23-31; Alex Stone Swet and Giacinto della Cananea, ‘Proportionality, General Principles of Law, and Investor-State Arbitration A Response to Jose Alvarez’ (2014) 46 (3) New York University Journal of International Law and Politics 1

[62] Ibid 23 -31

[63]  Técnicas Medioambientales Tecmed SA v. United Mexican States, ICSID Case No. ARB(AF)/00/2)

[64] Henckels (n 16) 109, Tecmed v Mexico para 97, 99, 123-40

[65] Henckels (n 16) 23-31

[66] Ibid 25

[67] Zeyl (n 32)

[68] Henckles (n 16)

[69] Henckels (n 16) 35-40

[70] Ibid

[71] Ibid

[72] Ibid

[73] Zeyl (n 32)