Pending Challenges for National and International Arbitration: The Ecuadorian Case

Pending Challenges for National and International Arbitration: The Ecuadorian Case

Valeria Arroyo

I. Introduction

The world is advancing by leaps and bounds, and with it, more complex disputes between parties are arising. Currently, disputes involving technology, intellectual property, competition and new contractual forms are gaining momentum.  Parties with disputes about these subjects, as well as other disputes that by their nature are arbitrable, have chosen to opt for international arbitration because of its flexibility and efficiency.

In this sense, the necessity arises to simplify arbitration processes, eliminate unnecessary ritualism, and optimize time and resources. Pretending to remain static in the face of change leads to the obsolescence of those who practice it. Being able to embrace modernity while maintaining the principles of the arbitration process without denaturalizing it means becoming a jurisdiction that supports the arbitration process and, therefore, a successful jurisdiction.

The Ecuadorian case is no exception. Despite a period of absence from the international arbitration sphere, Ecuador has made its best efforts to keep up to date in this field. Its 2021decision to rejoin the ICSID Convention has been nothing more than an impetus to further develop arbitration in the country. Consequently, this article will briefly analyze the current status of arbitration in Ecuador and the pending challenges that still face both national and international arbitration today.

II. Ecuador and Arbitration

In Ecuador, arbitration is primarily governed by the Arbitration and Mediation Law and the Regulations to the Arbitration and Mediation Law. Arbitration is also constitutionally recognized as an alternative dispute resolution method in Article 190 of the Constitution of Ecuador.

Several contemporary arbitration institutions operate under this legal framework. They include:

  • Private-to-private arbitration;
  • Private-to-State arbitration;
  • Emergency arbitration;
  • Fast-track arbitration; and,
  • Arbitration without privity

These institutions have been incorporated in the Law of Arbitration and Mediation, its Regulation, and the rules established by the arbitration centers over the years, respectively. Therefore, nationwide, arbitration is at the forefront with procedural tools or institutions available for parties in domestic procedures. Nevertheless, no system or arbitration center is perfect, and continuous improvements are always necessary.

III. What is still missing in domestic arbitrations?

In accordance with the previous section and the rules of international centers, two concepts have not been implemented into the Ecuadorian Arbitration Law, and therefore, are absent from both its rules and in local arbitration centers. The first concept is the “Early Dismissal of Claims and Defenses.” The second is the implementation of Artificial Intelligence (“ A.I.”), for the management of arbitrations.

Professor Esplugues Mota defines Early Dismissal of Claims and Defenses as an attribution to the arbitrator of the capacity to dismiss the claim raised at an early stage of the procedure. This concept was incorporated in the Arbitration Rules of the International Centre for Settlement of Investment Disputes (ICSID) for the first time in 2006.  Subsequently, other arbitration centers have also incorporated early dismissal into their rules.

Taking the Singapore International Arbitration Centre (SIAC) rules as an example, early dismissal allows the parties to request the arbitral tribunal to dismiss a claim or, failing that, a defense when: i) the documents submitted manifestly lack legal merit; or, ii) they are outside the manifest jurisdiction of the arbitrators. Hence, this procedural tool represents an alternative that saves significant time and costs in arbitration.

The second concept, A.I., compromises the use of new technologies in arbitration and has emerged as a means of adapting to the new status quo. With the intention of promoting speed and transparency in arbitration, A.I. has emerged as: i) a support for the automation of procedural actions; ii) a mechanism for consultation or contractual interpretation; and iii) an independent entity with the capacity to administer justice.  Similarly, a recent International Chamber of Commerce report on technology in arbitration, titledLeveraging Technology for Fair, Effective and Efficient International Arbitration Proceedings, considers the application of A.I. in the arbitration process by means of predictive coding. Through such coding, an algorithm can identify relevant documents or annexes related to a request for documents, thereby saving considerable time and costs during the arbitration process.

On that account, both Early Dismissal and A.I. represent tools that will allow parties to adopt more efficient arbitration procedures. Article 190 of the Constitution of Ecuador recognizes arbitration as autonomous and independent. Therefore, a pathway to include both procedural tools to improve arbitration is evident, and their inclusion in the Ecuadorian Arbitration Law is imminent.

IV. The elephant in the room in international arbitration for Ecuador: The lack of Bilateral Investment Treaties

Ecuador is a unique country divided into four regions: the coast, highlands, amazon, and insular regions (Galapagos Islands). Each region is characterized by a great diversity of natural, cultural, and human resources. This diversity offers investment opportunities in various economic sectors. In addition, because Ecuador is recognized for having the world’s highest biodiversity per square kilometer and being a dollarized country, it maintains one of the most stable economies in Latin America.

Despite persistent challenges over time, such as political instability, a weak institutional framework, and constant changes in the legal framework, Ecuador is still considered an attractive destination for foreign investors. Therefore, public-private partnerships and other contractual forms that allow the exploitation or development of strategic sectors with foreign direct investment (“FDI”) are common in the country. Consequently, implementing arbitration as the preferred alternative dispute resolution method is unavoidable.

Throughout its history, Ecuador has always promoted and advocated for arbitration, except during the “correísmo” period when Ecuador withdrew from ICSID, among other socialist measures taken by former President Rafael Correa related to arbitration. One of the many consequences of this period that persists today is Ecuador’s lack of Bilateral Investment Treaties (“BITs”), which were denounced by former President Correa. Ecuador currently maintains only a few treaties which persist due to ongoing arbitral cases. This situation creates an unattractive climate for foreign investors, who logically prioritize countries with BITs that provide legal certainty.

However, since the end of President Correa’s term, subsequent presidents have made constant efforts to bring Ecuador back into the field of international arbitration, seeking to attract FDI in Ecuador. For that reason—as mentioned above—the country returned to ICSID. Since Ecuador’s re-ratification of the ICSID convention, arbitration has been promoted as a method of dispute resolution in public procurement matters. However, additional challenges still remain. The Constitutional Court recently issued a controversial ruling declaring the unconstitutionality of Article 15.20 of the Trade Association Agreement with Costa Rica, stating that Ecuador cannot submit to international jurisdiction because such submission would be  incompatible with Article 422 of the Constitution. This results in a prohibition of arbitration without privity.

To overcome this issue, the new government of President Daniel Noboa is currently making its best efforts to include arbitration as the preferred method to resolve disputes between parties. To achieve this, recent laws such as the “Organic Law for Economic Efficiency and Employment Generation” have sought to establish arbitration as the mandatory method of conflict resolution. In addition, it is also worth mentioning that one of the questions in Ecuador’s April referendum asks whether Ecuador should recognize international arbitration as a method to resolve investment disputes in order to offer foreign investors an appropriate environment of legal assurance.

Despite the substantial challenges in Ecuador’s international arbitration landscape, significant decisions are being made progressively in favor of international arbitration and its enforcement.

V. Conclusions

Ecuador is a small country with a vast amount of natural, cultural and human resources. In the legal field, constant efforts have been made to evolve and improve over time, incorporating new provisions related to both domestic and international arbitration.

Concerning local arbitration, it is evident that challenges persist in the efforts to introduce early dismissal of claims and defenses and integrate A.I. for process management. However, the environment for their eventual incorporation is favorable. In other words, the solid foundation, underpinned by the constitutional recognition of the autonomy and individuality of arbitration, makes both concepts likely candidates for future inclusion.

Turning to international arbitration, the current pro-arbitri trend has grown in recent Ecuadorian governments. Consequently, it is necessary to reinforce the achievements to date, resolve pending issues, and include pieces that are still missing in the legal framework. A successful jurisdiction is a jurisdiction that promotes the arbitral process.

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AI-Powered Ocean Protection and Sustainable Trade: The Galapagos Islands as a Case Study

AI-Powered Ocean Protection and Sustainable Trade: The Galapagos Islands as a Case Study

*Editor’s Note: This article is part of HILJ’s collaboration with the Georgetown Journal of International Law (“GJIL”) and the Georgetown Center on Inclusive Trade and Development on Innovating Trade: The Intersection of Emerging Technologies, Climate Initiatives, and International Law. HILJ and GJIL each edited and published different articles in the collaboration. Articles published by GJIL are available on the GJIL website

*María Isabel Ortiz Nuques

I. Introduction

The sea and nearby areas have served as a vital supply of resources and a trading hub for hundreds of years. Food security and the impact of ocean activities on the right to a clean, healthy, and sustainable environment are complex issues that interact with trade. In times where change is urgently needed, trade must adapt to environmental protection in a world shaken by the climate crisis.  In this context, fishing activities would benefit from artificial intelligence (“AI”)-powered tools to manage resources and understand fish populations amidst the transformations expected due to climate change.

This piece will focus on the Galapagos Islands as a case study. First, it will briefly illustrate how protecting marine environments has implications for human right protections. Second, it will provide an overview of the challenges the Galapagos Islands’ marine ecosystem faces regarding overfishing and unsustainable fishing practices. Third, this piece will exemplify how AI can create complex models that better reflect the state of fisheries under the pressures of climate change, which can be a helpful tool to prevent overfishing and protect fish stocks. Fourth, it will explore how AI-powered models may become a key tool for the application of international trade instruments in the future.

II. Climate change, the right to a clean, healthy, and sustainable environment and the Galápagos Fisheries

The rapid deterioration of ecosystems due to climate change and biodiversity loss creates serious consequences for areas such as human rights and trade. These crises affect the rights to life, health, food, water, and adequate standard of living of human beings around the world, including those belonging to vulnerable groups, which may be disproportionally affected. The consequences of environmental degradation are alarming and deeply connected to the universal need for a clean, healthy, and sustainable environment, which has been recognized as a human right by the United Nations Human Rights Council.

One of the world’s most sensitive ecosystems is the Galapagos Islands, around 900 kilometers (560 miles) west of the Ecuadorian coast. Its population mainly relies on tourism, fishing, and agriculture as economic activities, all of which would be deeply affected by the climate emergency. Climate change thus directly threatens Galapagos Islanders’ livelihoods. The waters surrounding the Galapagos Islands are rich and ecologically diverse. This diversity made them a target for illegal, unreported, and unregulated (IUU) fishing, which has put iconic species such as the scalloped hammerhead shark at great risk.

The Galapagos area’s biological richness has also been affected by overfishing, as exemplified by the brown sea cucumber populations in the area. The sea cucumber serve an important ecological function by consuming debris and sediment. However, sea cucumber have been intensely fished for consumption to the point where fishing bans have had to be implemented for several years in the islands. In 2021, the sea cucumber fishery in the Galapagos Islands was reopened, only for it to be closed again two weeks later. While sea cucumber, by law, can only be fished inside the Galapagos exclusive economic zone (“EEZ”) using artisanal methods, the fact that 90 percent of the total catch goes to Asian countries shows how important trade is to sea cucumber preservation.

At the same time, marine resources outside of EEZs are available for fishing by international ships under the United Nations Convention on the Law of the Sea. This has resulted in several instances where fishing fleets – mostly comprised of Chinese vessels – line up just outside the Ecuadorian EEZ around the Galapagos Islands. Some of these ships have resorted to turning off tracking devices to avoid recognition. In FAO Fishing Area 87, where the Galapagos Islands are located, Chinese distant water fleet (“DWF”) vessels reported losses even after ample subsidies from the Chinese government. These losses suggest that some vessels could be participating in IUU fishing to remain profitable. Fisheries’ subsidies allow unprecedented and usually unsustainable fishing operations and remain one of the main causes of overfishing. Specifically, around the Galapagos Islands, fishing for large-scale Chinese DWF fleets is unprofitable without such aid.

III. Climate change and AI as a tool to anticipate the unknown

The practices conducted by fishing fleets around the Galapagos Islands are not an isolated phenomenon. Around the world, similar dynamics arise between countries with rich fish stocks and countries with ample fishing demand and considerable subsidies to the fishing industry. The rapid pace at which fish stocks are depleting globally is concerning. These pressures are only worsened by climate change, which is expected to shift the dynamics of marine ecosystems and affect the abundance, migratory patterns, and locations of fish stocks. Plenty of uncertainty remains about the impact of climate change on fisheries. However, AI can be a helpful tool in reducing this uncertainty, as powerful models of physical processes can be created to reflect the complex dynamics related to climate change.

AI can process enormous volumes of data. This allows humanity to better understand what the future behavior of fisheries may look like, and provides forecasts of fish stock abundance and distribution that can change and improve in accuracy as more data is introduced. Moreover, AI models can identify patterns and relationships that may be missed by human analysts. This competence is useful because some processes related to climate change are not yet completely understood. More accurate projections of fish stocks could be attained despite changing circumstances. If the results obtained from these AI models were to be taken into consideration for marine resource governance, they could contribute to the preservation of a clean, healthy, and sustainable environment, and the protection of food security for future generations.

IV. An environmental shift for international trade law and its impact on human rights

Placing an emphasis on what the future may look like for fish populations in the context of climate change is an important tool to create policy that prioritizes responsible fishing and the sustainable trade of existing fish stocks. AI-generated models can comply with international law as it shifts towards environmental considerations. In 2022, the World Trade Organization (“WTO”) members adopted the Agreement on Fisheries Subsidies to end certain fisheries subsidies. The deal is the first WTO agreement to focus on the environment. Its provisions prohibit subsidies to fishing on overfished stocks like the brown sea cucumber population around the Galapagos Islands.

The Agreement on Fisheries Subsidies considers a stock to be overfished if it is recognized as such by the coastal member under whose jurisdiction the fishing is taking place or by a relevant regional fishery management organization or arrangement in areas and species under its competence. These entities must base their decisions on the best scientific evidence available according to Article 4 of the Agreement. As AI models become increasingly sophisticated and accurate, their forecasts and calculations may become some of the best scientific evidence available to detect and predict overfishing in light of climate change conditions, to the point where they could become necessary for making overfishing designations under the Agreement.

Taking emerging technologies into consideration when developing international policy is necessary to secure the human right to a clean, healthy and sustainable environment, which is intertwined with many other rights. The right to a clean, healthy, and sustainable environment holds a profound connection with food security, for example, which is increasingly threatened because of climate change. These interconnections mean that protecting our seas using the best scientific methods available is a key commitment to be adopted by states around the world. Since marine resource governance is inextricably linked with trade, international trade law must adapt to further advance environmental and sustainability goals for the future of humanity. It can do so with the help of rapidly advancing technologies.

IV. Conclusions

The links that connect humans, the sea, and trade have existed for hundreds of years. Recently, marine resource governance has become more complex as the world population grows and develops more powerful fishing systems to satisfy global needs for food. An important challenge marine ecosystems face alongside the pressures of unsustainable fishing are the transformations expected to take place because of climate change, which puts the environment and global food security at risk.

The impact of fishing activities is deeply intertwined with international trade and decisions that make fishing profitable, such as subsidies for DWF vessels. Fishing activities inside the Galapagos EEZ and around it show how some fish populations that serve an important ecological function but are highly regarded as commodities in international trade, such as the brown sea cucumber, can struggle with current fishing demands and policies.

While climate change is imminent, uncertainty remains regarding marine ecosystems. This uncertainty continues to be a major obstacle for decision-making towards better fisheries management worldwide. In this sense, AI can help better predict fish stock abundance, behavior, and location as the effects of climate change regrettably continue. AI continues to play a central role in technological developments regarding marine ecosystem management. At the same time, international trade law is moving toward an increasingly environmental approach, as shown by the WTO Agreement on Fisheries Subsidies, which in part seeks to control subsidies for overfished stocks. Determinations of overfished stocks must rely on the best scientific evidence available. Soon, ever-progressing AI models may play a crucial part in trade and environment negotiations.

*María Isabel Ortiz Nuques received her law degree with honors from the Catholic University of Santiago de Guayaquil, has a special interest in arbitration and international law, and currently works as a tribunal secretary in arbitration cases. She would like to thank the HILJ editorial team for their comments and feedback.

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Transportation Tech & Trade: Using Trade and Policy Tools to Encourage Clean Transportation Technology

Transportation Tech & Trade: Using Trade and Policy Tools to Encourage Clean Transportation Technology

*Editor’s Note: This article is part of HILJ’s collaboration with the Georgetown Journal of International Law (“GJIL”) and the Georgetown Center on Inclusive Trade and Development on Innovating Trade: The Intersection of Emerging Technologies, Climate Initiatives, and International Law. HILJ and GJIL each edited and published different articles in the collaboration. Articles published by GJIL are available on the GJIL website

Samantha Cristol*

Whether trade is occurring across oceans or continents, the climate costs of transportation are high. In 2019, transport accounted for roughly 15% of global greenhouse gas (“GHG”) emissions. As of 2023, that number was closer to 20%. Of that 20%, around 60% came from vehicles, and 11% from shipping. Reducing the climate footprint of transportation will help to support and sustain international trade. Not only will mitigating climate change decrease the probability of severe adverse climate change impacts, but the implementation of new, sustainable technologies can both benefit trade itself and increase the resiliency of trading communities in the face of climate disasters.

The current state of climate change suggests that there is a dire need to develop and implement technology that will reduce the climate impacts of transportation. This paper will briefly review the challenges transportation sub-sectors are facing and suggest climate technology, and climate technology adjacent, solutions. Then, it will examine how countries can use a combination of policy and trade tools to implement and encourage the proposed solutions.

I. Air Transportation

Air transit is the most carbon-intensive form of transportation: in 2017, it accounted for about 1% of carbon emissions globally. Aviation also poses climate concerns beyond carbon, as the condensation trails left behind airplanes also worsen climate change.

In terms of technology to reduce aviation emissions, a 2022 World Trade Organization (“WTO”) Report recommends lowering trade barriers for electric and hybrid airline engines, and the European Union has adopted a deal that includes an estimated €1.6 billion plan to support the use of sustainable aviation fuels. Although electrification of aircraft is progressing, most electrification initiatives are still confined to the realm of small, short-haul planes. Similarly, while Sustainable Aircraft Fuel (“SAF”) is in production, it is costly and currently not approved for use on it its own without being blended with traditional jet fuel.

While enforcing limits on international air transit that does not meet electrification or renewable fuel guidelines sounds like a simple solution to enforce cleaner transit, both technological and economic factors are holding the industry back. Continued funding for research, combined with subsidies to cheapen the cost of SAF, may help to quicken the transition.

II. Land Transportation

Land transportation is primarily composed of passenger vehicles like cars and buses, trucks, and rail transport. It is, across the world, the most substantial contributor to transportation climate emissions. While the popularity of electric vehicles has increased significantly, electric truck technology is still lagging. Moreover, although short-haul electric trucks are starting to arrive in the United States, battery capacity is a major barrier for longer-haul routes.

While rail transit offers significant advantages in regard to per-passenger-per-kilometer emissions, the “last mile” involved in the delivery of goods is often reliant on vehicle transport. In the United States, “last mile” transportation is described as the final journey from warehouse to doorstep, which is often made by mail Mail delivery trucks are carbon-intensive, adding an additional layer to the challenge of decreasing transportation-related emissions.

Subsidization of electric vehicles, alongside the installation of charging stations and related infrastructure, can continue to encourage consumers to switch away from traditional vehicles. In the case of trucks, however, more research is needed. Publicly funded research and development programs, combined with progressive vehicle requirements and standards imposed on sellers, may help to drive the research needed to reduce emissions. Initiatives aimed at eliminating “last mile” transportation emissions may help as well. Consumer behavior changes may be possible, by providing incentives to consumers that opt to pick-up from a central location, or choose to wait longer for transportation, allowing for a computer program to better optimize a driver route for drop-off. Electrification of last-mile truck fleets may also be a big help in decreasing delivery-related emissions.

III. Maritime Transportation

Sea transportation makes up roughly 3% of global GHG emissions, and 11% of transportation GHG emissions. Ninety percent of all traded goods are involved in ocean shipping. The shipping industry has already seen changes from climate change, like the opening of new year-round shipping routes through the Arctic due to reduced severity of winter weather. While these shorter routes could reduce the emissions per trip, the environmental degradation that could result from the increased use of these new passages is also worrisome. Oil or toxic substance spills could threaten the lives and sustenance of Arctic coastline communities.

While electrification of ferries has been successful, the transition for large ships faces the same problem discussed in both sections above: battery power. Battery power is not the only issue, however. To operate, batteries would need access to power infrastructure at ports. While upgrades are being made at many U.S. ports to electrify loading, docking, and tugging operations, these efforts have not yet expanded to electrification of long-haul ships themselves.

Transitioning shipping off of oil, or at least making shipping more energy efficient in its use of oil and gas, could make a significant dent in sea transportation emissions. To drive needed research and development, a model that combines public research funding with policy-based pressure may be effective. A policy that might effectively drive research and development could  look like imposing fees on ships entering or exiting port. Fees could be based on factors like travel distance since last port of call or to the next port of call, engine efficiency, fuel mix being used onboard, or others. As distance between ports of call can be hard to calculate or predict, it may make more sense to instead base fees on the energy efficiency of the engine or use an equation that equalizes engine metrics with weight or amount of cargo on board.

IV. The Role of Trade

Public policy will be a large driver in implementing many of the above solutions, especially in terms of funding research and development and offering subsidy programs to incentivize the technology discussed above. These solutions, and others, like requiring carbon labels or introducing bans on products to reduce shipping amounts, become complicated when they interact with international trade law. Beyond the logistics questions, like how to calculate carbon footprints of a product prior to shipping (given reroutes, ships that stop at multiple ports, the transport that goes into component of the manufacturing process, differing last miles, etc.), and how to determine which products to ban (who makes the call on what products to ban), there is a question as to whether these actions are allowable under international trade agreements. Import bans may violate the General Agreement on Tariffs and Trade, subsidies may contravene the Agreement on Subsidies and Countervailing Measures, limiting air travel may violate the Open Skies Agreements, and parties may have a case regarding national treatment or the Technical Barriers to Trade Agreement when it comes to carbon labels.

Beyond legality, many of the current proposed solutions focus on changing consumer attitudes to try and drive corporate innovation. This is certainly helpful—especially in the case of electric vehicles. However, the major problem that arises in every sector is a lack of battery power for the big-ticket carriers like jets, trucks, and long-haul ships, which is a huge obstacle to electrification. If total electrification is out of the question for the near future, then a multi-faceted approach that drives research and development while also pushing partial electrification and low-carbon transit options is the best bet.

That is where trade tools come in. While the WTO may not be at its most effective right now, nations can take action into their own hands when negotiating regional trade agreements (RTAs). Specifically, nations should be looking to technology transfer and capacity building provisions to promote cooperative programs that drive transportation efficiency across borders. RTAs are extremely flexible, and nations can include funding mechanisms to promote joint research, development, and deployment projects in the transportation space. Technology transfer provisions may also help to encourage the faster spread of energy efficient technology.

International cooperation will also be critical in the next few years as the world grapples with energy transitions and greenhouse gas emissions. Even though the Paris Agreement does not directly mention cars or trucks, reducing transportation emissions will be key to meeting, or at least trying to meet, its goals. Similarly, the International Civil Aviation Organization’s Carbon Offsetting and Reduction Scheme for International Aviation provides a framework for participants to move toward lowering aviation emissions, as do the U.N.’s Sustainable Development Goals.

By participating in international climate and sustainable development agreements, using RTAs to their advantage, and thoughtfully implementing local policies, nations can encourage the invention and adoption of clean transportation technology.

*Samantha Leah Cristol is a third-year J.D. student at the Georgetown University Law Center, expected graduation Spring 2024. She holds a Bachelor of Science in civil engineering from the University of California, Berkeley, and is a LEED Green Associate.

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Margins of Wrongfulness in Arbitration: Measuring the Tinker in Eiser v. Spain

Margins of Wrongfulness in Arbitration: Measuring the Tinker in Eiser v. Spain

Galo Márquez*

The saga of Spanish investment arbitrations born out of Spain’s decision to disapply incentives in the renewable sector in the face of a financial crisis continues to generate awards on quantum and liability. The recent decision in Eiser v. Spain is one of many that has contributed to a pool of inconsistent arbitral awards. Given the increasing number of decisions, it is not surprising that arbitral tribunals have reached divergent decisions as to the wrongfulness of Spain’s measures. In his Dissent on Liability and Quantum, Prof. Philippe Sands affirms that “[n]o doubt, reasonable folk will question the wisdom of creating a system that allowed so many competing and contradictory awards to flower, and introduce the changes that seem so necessary” (¶ 1). This article addresses some of the inconsistencies arising from how arbitral tribunals have recognized that a state may make regulatory changes. Still, this recognition has not meaningfully impacted the damages awarded to investors.

Nor have the competing views of arbitral tribunals resulted in a uniform application of the law of damages in international arbitration. Typically, when tribunals determine that a state’s measure violates an investment treaty, they award damages for injury attributable to any part of the measure. By reviewing the decision in Eiser v. Spain, this article suggests a different approach. It argues that states should only be liable for the portion of damages attributable to the difference between the injury caused by the measure actually imposed, and the hypothetical injury that would have been caused by a lawful alternative measure. I will refer to this concept as the “Margin of Wrongfulness.”

It must be mentioned that this article builds upon the work of the Academic Forum on Investor-State Dispute Settlement (“ISDS”) before the United Nations Commission on International Trade Law Working Group III (“UNCITRAL”) on matters related to damages. The author is an appointed Member of the Academic Forum on ISDS and a representative observer before Working Group II on Arbitration and Dispute Resolution. However, the views expressed here are mine alone. The benefit of this article is twofold. First, it demonstrates an inconsistency in the way that arbitral tribunals have awarded damages, which the ISDS community has sparingly addressed. Second, by reviewing over a few dozen awards, the article identifies that the concept of ‘legitimate expectations’ in international investment law cannot continue developing as it has in the last few decades without a shift in how damages are awarded.

I. Introduction to the Spanish financial crisis

The Eiser v. Spain case is an old tale with a new twist. Like many other countries, Spain introduced at the end of the 90s a package of regulatory amendments and financial incentives to promote renewable energy in the country. Spain sought to promote a specific type of solar power through state subsidies. The new regulatory regime was an attempt to realize the spirit of the 1992 Framework Convention on Climate Change, the 1994 Energy Charter Treaty, and the 1997 Kyoto Protocol, as well as the 2001 European Union policy for reducing greenhouse gasses by means of developing renewable energy in the region.

Starting in 1998, Spain issued a series of decrees to promote renewable energy by means of a guarantee for long-term supply of energy (Eiser, ¶¶ 105-107). In the long term, however, these incentives were not sustainable. Spain was not left alone in the crusade to advance renewable energy throughout the 90s. In the first weeks of 1991, the Committee on Science and Technology of the European Parliament made an aggressive call to move towards renewable energy on the basis of the results of the Brundtland report—document recounting the world’s critical environmental problems. In the Committee’s view, “[e]very effort should be made to develop the potential for renewable energy which could form the foundation of the global energy structure during the 21st century” (p. 2, ¶ 5).

Answering this call, Spain issued Royal Decree 661/2007. The International Energy Agency viewed the Decree as seeking “[t]o contribute to Spain’s efforts to achieve its 2010 national target for the promotion of electricity from renewable energy under EC Directive 2001/77/CE.” More than an effort, several investors—including Eiser (¶¶ 357-35)—argued that Decree 661/2007 was a public policy creating an attractive environment for investment (Charanne v. Spain, ¶ 515).

This Decree was later retracted by Spain, causing significant harm to energy projects. The rationale behind a state’s incapacity to unreasonably and unfairly backtrack from a commitment is quite logical. In the same way that a person would not purchase a car for a price other than the one advertised, investors expect to receive the benefit of protective guarantees or commitments that the government has made to them. UNCTAD estimates that the Spanish Decree has been at the heart of over 40 investment arbitrations. This  number keeps growing as investors submit new ISDS cases arising from Spain’s retreat from its regulatory commitments to the energy sector (See, WOC v. Spain).

A few years into the application of Decree 661/2007, the Tribunal in Eiser recounts that Spain became concerned due to a “tariff deficit.” The tariff deficit is generally understood as “[t]he financial gap between the costs of subsidies paid to renewable energy producers and revenues derived from energy sales to consumers” (¶ 124). To combat this deficit, in December 2012, the Spanish Parliament imposed a 7% tax on the total value of the energy fed into the national grid. This tax eliminated the subsidies for renewable energy. This mechanism was followed by several other decrees that blunted the financial incentives and subsidies for foreign investors. In June 2014, the government dealt the final blow to Decree RD 661/2007 through a ‘ministerial order’ setting up a whole new regime for existing power plants (the “Disputed Measure”).

The Eiser case arose from a so-called ‘failed’ investment in the solar power sector in Spain (¶¶ 94-95). During the arbitration, Eiser valued its investment through the Discounted Cash Flow (“DCF”) method at €124.3 million (¶ 136). The relevance of damages in investment arbitration is a growing concern in the field. Certain circles claim that arbitral tribunals are awarding increasingly larger claims in favor of the investor. On this, the International Institute for Sustainable Development mentions that its “[r]esearch has found over 50 known cases in which an investor–state tribunal has awarded a foreign investor over USD 100 million in compensation. In at least eight claims, the award reached over USD 1 billion” (¶ 14).

The energy generation mechanism promoted under Decree 661/2007 was allegedly categorized as a renewable source. The new policies materialized in Decree RD 661/2007. The Arbitral Tribunal considered that the Decree contained a myriad of key elements, including: (i) a guaranteed “priority of dispatch” into Spain’s grid subject to certain conditions; and (ii) it allowed energy producers to adopt different tariffs for production in accordance with the specific characteristics of each project (¶ 112).

Eiser brought an investment arbitration under the Energy Charter Treaty as the general partner of a limited partnership, claiming that it invested in reliance on Royal Decree 661/2007 and its stabilization clause¾which restricted Spain from amending its regulatory framework (¶¶ 357-358). Eiser’s business model depends on identifying low-risk investments in public infrastructure.

The State’s decision to retract Decree 661/2007 had a devastating effect on several companies. Although many foreign investors had access to bilateral investment treaties or the Energy Charter Treaty, locals recount that Spain’s decision to retroactively backtrack from the Decree 661/2007 (the Disputed Measures) “[l]ed to […] the total ruin of 62 000 families […] and that their opportunities to file claims before the Spanish Government have been restricted, given that they did not have access to more impartial, international courts.” This was not the case for Eiser, which enjoyed its position as a United Kingdom incorporated company with the capacity to bring an investment arbitration against Spain.

II. The Tribunal’s Award

Against this backdrop, the Eiser Tribunal was tasked with reviewing if the Disputed Measures breached the fair and equitable treatment (“FET”) standard. Embarking on this task, the Arbitral Tribunal had to address the State’s capacity to regulate¾a heavily disputed point in international investment law (Isolux v. Spain, ¶¶ 409-426; Novenergia II v. Spain, ¶ 542-697). Although the nuances to identify a breach of legitimate expectations may be contested, arbitral tribunals have generally considered the following points (¶¶ 369-372):

  • Whether the investor’s expectations were legitimate, reasonable or fair, and not based on subjective considerations.
  • The reliance of the investor on such expectations when making its an investment.
  • The State’s unilateral conduct to the detriment of the legitimate expectation.
  • The existence of a damage to the investor.

Following the steps of Parkerings v. Lithuania, the Tribunal in Eiser departed from the premise that “[a]bsent explicit undertakings directly extended to investors and guaranteeing that States will not change their laws or regulations, investment treaties do not eliminate States’ right to modify their regulatory regimes to meet evolving circumstances and public needs” (¶ 369). Accordingly, FET itself does not paralyze the regulatory powers of the governments.

III. Overlapping principles for determining the margin of wrongfulness

An award on quantum must flow from a prior determination of liability, granted through the same award or in a prior stage. Arbitrators sometimes split their decisions on liability and quantum into different awards, but these components may very well be included in the same award. Several breaches have been claimed in the Spanish arbitrations, but a notable one is the myriad of claims concerning the FET provision. Tribunals have considered that FET may spin off in several protections, including a violation of legitimate expectations, lack of transparency, lack of due process, and arbitrariness (Electrabel v. Hungary I, ¶ 7.74.; PV Investors v. Spain II, ¶ 565; RREEF v. Spain II, ¶ 260; Operafund v. Spain, ¶ 524).

EDF v. Romania, an important case on the analysis of a claimant’s legitimate expectations, explained that a mere regulatory instability does not amount to a breach of a FET provision (¶ 217):

The idea that legitimate expectations, and therefore FET, imply the stability of the legal and business framework, may not be correct if stated in an overly-broad and unqualified formulation. The FET might then mean the virtual freezing of the legal regulation of economic activities, in contrast with the State’s normal regulatory power and the evolutionary character of economic life.

The Eiser Tribunal considered that Spain’s withdrawal of Decree 661/2007 amounted to a breach of the FET standard and the investor’s legitimate expectations. The Tribunal notably awarded full compensation for all losses to the project attributable to Spain’s retraction of Decree 661/2007. By applying a Margin of Wrongfulness, the Tribunal should have discounted from the award losses attributable to the portion of Spain’s measure that would not have amounted to an arbitrary abrogation of Decree 661/2007. In other words, if not all amendments to the regulatory framework are abusive, then the financial gap between the measure that Spain could have taken without breaching FET and the measure that, if applied, would be illegal constitutes the Margin of Wrongfulness.

Reduction of damages in findings where a government disregards an investor’s legitimate expectations is not uncommon. In MTD v. Chile, the Arbitral Tribunal found a breach to the FET standard by considering that Chile had induced a legitimate expectation that a real estate project would be feasible, even when the acquired land could not be developed for commercial purposes (¶ 217). In what has been called a Solomonic decision (Potestà, pp. 38-39), the Tribunal reduced by 50% the damages awarded to the investor due to its failure to conduct an independent assessment of the land.

As such, not all damages need to be compensated. The Margin of Wrongfulness would imply the existence of an ‘unjustified damage’ standard (Muhammad, p. 108) and not a mere reduction in the value of the investor’s investment (Wöss, ¶ 9-10). The Eiser Tribunal unfortunately missed this aspect. Incoherently, it considered that states are not confined to a straitjacket when amending prior legislation, without analyzing the resulting effect on damage quantum. The Eiser Tribunal is not alone in this omission. In the Renergy case, the Tribunal, by majority, invoked “[w]ell-established arbitral case-law” holding “that even in the absence of any specific commitment, Article 10(1) ECT does protect investors against legislative changes that exceed a (wide) acceptable margin” (¶ 642). The recognition of an exceeding acceptable margin might justify the existence of a Margin of Wrongfulness.

The Eiser case is also enlightening as to the impact that a fact witness might have on damages. In most awards, the decision on quantum is driven by the technical viewpoints of experts. In Eiser, the Tribunal reflected that during the arbitration hearing, representatives of the investor opined on the weight that the Disputed Measure had on the investment:

In response to the Tribunal’s question at the Hearing, Mr. Meissner, a founding partner of Eiser, drew a distinction between the changes in Spain’s regulatory regime and other regulatory situations where regulators might “tinker a little bit with the returns.” In contrast, he deposed that “here we had a complete value destruction. We lost all value in this particular project.”

The factual witness’ statement suggests that “tinker[ing] a little bit with the returns”—i.e., the Margin of Wrongfulness—would be acceptable. This implies an additional layer of analysis that exceeds the scope of this article, where the Margin of Wrongfulness might also be justified since an investor is expected to value its investment considering the risks of the project. This is relevant, because under several methods to quantify damages in arbitration a discount rate needs to be applied to the future cash flows that an investor might expect. The ICCA Task Force on Damages considers than an investor’s “[u]nbiased cash flows are expected (average) cash flows—not the cash flows that investors may hope for if everything goes well”.

The Margin of Wrongfulness does put into question some of the premises on which the law of state reparation has been built. Through state responsibility doctrine, investors expect to receive compensation after a violation of international law, which “[s]hould reflect all financially assessable damages” (Marboe, ¶ 3.289). This principle is derived from the acclaimed Factory at Chorzów case, where the Permanent Court of International Justice settled that “[r]eparation must, as far as possible, wipe out all the consequences of the illegal act and reestablish the situation which would, in all probability, have existed if that act had not been committed” (Chorzów, PCIJ 1927, p. 47). The decision in Chorzów has become a cornerstone of the law on damages and is widely cited by tribunals, including in the Eiser case (Eiser, ¶ 421). The Margin of Wrongfulness brings to light some potential deficiencies in the development of damages in ISDS since the Chorzów case.

While the Margin of Wrongfulness questions the legality of the Disputed Measure, it could also be applied by questioning the legitimate expectation of the investor to receive damages. Reparation as understood in Chorzów is built on two premises: (i) the existence of an illegal act, and (ii) the reestablishment of the situation had the act never been committed (Amoco v. Iran, ¶ 191-195). The first premise is compatible with the Margin of Wrongfulness since it implicitly recognizes that damages cannot be awarded for a lawful act, subject to certain nuances on the type of breach committed (e.g., lawful expropriation still requires compensation). The second premise, however, is more questionable. Compensation should restore the injured party not to their pre-breach position, but to the position they would have arrived at had a ‘lawful’ measure been enacted. Restoring the injured party to the pre-breach position presumes that the State’s measure is unlawful in its entirety—but this may not necessarily be true. Arguably, the Tribunal’s recognition of the Margin of Wrongfulness and the Chorzów case invites discussion on how the premises of international damages should be reconsidered or disregarded by future arbitrators in cases such as Eiser v. Spain.

If the Margin of Wrongfulness is accepted as a legal premise then the arbitrators would need to identify the lawful-scenario of the State’s measure. This would require tribunals to heavily engage in hypothetical factual and financial situations, which ISDS tribunals are familiar with. Most investment arbitrations necessitate that arbitrators identify a “but-for” scenario, derived from the principle of causation in international damages. According to the Brattle Group, one of the most active quantum experts in ISDS cases, “[c]ausation requires the careful construction of a counterfactual or ‘but-for’ world that eliminates only the conduct at issue but retains all relevant features of the actual world. The construction of the but-for world is necessarily hypothetical and must remain internally consistent”.

Assessing the Margin of Wrongfulness by considering a potential hypothetical scenario is then inherent to the ordinary course of damages identification conducted by tribunals. This alternative factual situations are also grounded as a matter of law. In the 1987 Amoco decision before the Iran-US Claims Tribunal, Judge Bower separately opined that once liability is found with a degree of certainty, then quantification may be performed with “[t]he best available evidence, even though this process be inherently speculative” (n. 142, ¶ 26). An alternative evaluation of the Margin of Wrongfulness would then be compatible with the perspective taken by some stakeholders.

IV. Conclusion

Eiser v. Spain underscores the intricate nature of investment disputes and the importance of balancing a state’s regulatory authority with investor protections. Recognizing the Margin of Wrongfulness and considering how this concept impacts damages may contribute to a more nuanced approach in future arbitration cases, fostering a fair and equitable resolution for all parties involved. It would also incentivize uniformity in cases where a state, such as Spain, is faced with a wave of investment claims. Moreover, achieving certainty as to the standard on which an investment tribunal should award damages might also function as a prevent mechanism of control for States when enacting amendments to their international commitments.

*Galo Márquez is an Associate in the International Arbitration practice at Creel, García-Cuellar, Aiza y Enríquez, and a Member of the Academic Forum on ISDS before UNCITRAL. He is also a Business Law Professor at Tec de Monterrey.

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The Civil Liability of Arbitrators: A Transition from Absolute to Qualified Immunity in the United States

The Civil Liability of Arbitrators: A Transition from Absolute to Qualified Immunity in the United States

José Ramón Villarreal Martínez*

I. Introduction

Several jurisdictions have recorded a rise in lawsuits against international arbitrators and arbitral institutions in national courts (p.13).[1] These cases are occasionally unfounded and may be initiated by disgruntled parties who are dissatisfied with the outcome of an award. They may attempt to file their claims as breaches of public policy or acts of bad faith. This trend has caused a reputational crisis for international arbitration.

The issue is significant because the UNCITRAL Model Law does not specifically cover the matter of arbitrator liability. As a result, each jurisdiction has taken a different approach addressing this issue. In common law countries,[2] arbitrators are granted the same immunity as judges.

In contrast, in jurisdictions that follow a civil law tradition, the role of the arbitrator is considered sui generis. This is because the arbitrator is seen as both a professional service provider and as someone who performs a jurisdictional function akin to a judge. As a result, the arbitrator has certain contractual rights and obligations towards the parties involved. Additionally, the arbitrators are protected by a system of qualified immunity, meaning that they can only be held liable in serious cases, such as when there is gross negligence, fraud, or bad faith.

Nevertheless, even within common law jurisdictions, there is a lack of consistency in the degree of immunity granted. For instance, in the U.S., the arbitrator enjoys absolute immunity, thereby shielding them from civil responsibility claims, even in instances involving fraud, carelessness, or bad faith. In contrast, in England, the arbitrator’s immunity is not absolute: it does not apply if the arbitrator acts in bad faith.

The problem gained significance after a recent news event where the Paris Court of Appeals annulled an award after it was discovered that an arbitrator had publicly acknowledged a personal acquaintance with one of the lawyers involved in the arbitration process, in a eulogy he published in the prestigious French publication Dalloz. The annulment occurred because of a breach of disclosure, which led to concerns about the arbitrator’s impartiality and independence. In qualified immunity jurisdictions,[3] the violation of contractual obligations (failure to deliver a timely award, breaches of the duty of disclosure, and excluding an arbitrator from the deliberations) has been ground to impose liability on the arbitrator.[4]

In contrast, in Grupo Unidos por el Canal S.A. et al. v. Autoridad del Canal de Panama, the U.S. Court of Appeals for the Eleventh Circuit, while analyzing the possibility to vacate an award due to an alleged breach of the duty of disclosure by the arbitrators, stated that “[it] is little wonder, and of little concern, that elite members of the small international arbitration community cross paths in their work . . .  [w]e refuse to grant vacatur simply because these people worked together elsewhere.”

An argument can be made that absolute immunity is a potential solution to avoid frivolous claims from being brought against arbitrators. However, this legal doctrine fails to provide arbitrators with the motivation to perform their duties diligently and cautiously. This has resulted in arbitrators avoiding liability, even in cases where they have acted negligently, to the detriment of the parties and the reputation of arbitration.

From my perspective, the United States must shift from absolute to qualified immunity. This move is crucial because it safeguards the arbitrator’s position in making decisions and offers a recourse for parties involved in situations when the arbitrator acts dishonestly, engages in fraudulent behavior, or displays gross negligence. This transition would establish a liability framework that protects the arbitrator’s judicial function and, at the same time, protects parties against arbitrators’ wrongdoing.

The experience in jurisdictions that have implemented qualified immunity shows that only a few successful cases where arbitrators have been held accountable have been reported. For this reason, an acknowledgment of some level of liability of arbitrators contributes to the high standards of quality that are expected from an arbitration procedure.

II. Arbitrator Liability Regimes

The doctrine of judicial immunity, which originated in England in the 17th century in the cases of Floyd v. Barker and The Marshalsea, has been adopted by common law jurisdictions. However, the degree of immunity adopted by each of them is different.

The doctrine of judicial immunity states that judges are not legally liable for any potential harm resulting from their judgments. The purpose of this doctrine is to uphold the reliability of the judicial system by allowing judges to render decisions without undue pressure by the parties. In the U.S., arbitrators are granted absolute immunity; in England, this immunity allows an exception in cases of bad faith.

In contrast, civil law countries acknowledge that arbitrators carry out their role through a contract, functioning as professional service providers. To safeguard the arbitrator, these jurisdictions have established a sui generis approach[5] that acknowledges both the judicial role of the arbitrator and his contractual duties.

The sui generis approach has established a form of qualified immunity, whereby the arbitrator is protected from liability for his jurisdictional role, while also safeguarding the parties involved from any unjustified infringements that arbitrators may commit, which could be considered as contractual violations.

III. The Liability of Arbitrators in the U.S.

Within legal systems based on common law, the principle of judicial immunity extends to arbitrators and other individuals who carry out adjudicatory duties. In the U.S., the doctrine of absolute immunity for arbitrators was initially acknowledged in Jones v Brown and further affirmed by the Supreme Court in Butz v Economou. This doctrine provides arbitrators with absolute immunity from legal claims, even in situations of extreme carelessness, and intentional dishonesty.

While the rationale for granting absolute immunity to arbitrators is based on their adjudicatory role, it is indisputable that there are more disparities than similarities between judges and arbitrators, as Pierre Lalive suggests:

One should hesitate to assimilate the position of the arbitrator to that of a judge. In any case, the reasons seem obvious to exclude an assimilation, and even an analogy, between a judge and arbitrator. First a judge is in no way chosen by the agreement of the parties (…) Secondly, when exercising their judicial function, State judges exercise power authority conferred by the State and in its own name.

To sum up, the differences between the function, activity, position and status of a judge on the one hand, and those of an arbitrator on the other, are so great that no sufficient analogy can be drawn between the two which can possibly justify the immunity of the arbitrator.

Consequently, arbitrators bear a closer resemblance to professional service providers rather than judges. For this reason, an absolute degree of immunity fails to motivate arbitrators to adhere to the utmost standards of care and thoroughness.

The absolute immunity approach is problematic for its failure to acknowledge the contractual nature of the arbitrator’s role. Also, it disregards that professionals from analogous fields may be held accountable for civil liability if they incur in a breach of contract.

As Lorena Malintoppi declares:

There is no question that arbitrators and arbitral institutions should be held liable if they commit gross negligence, or act in bad faith. Needless to say, arbitrators are bound to act fairly, to respect due process and the integrity of the proceedings, to ensure the efficiency of the process, and avoid delays. It is also universally accepted that arbitrators have the duty to be impartial and independent and to disclose for the duration of the arbitral proceedings any facts or circumstances that may put into question their capacity to decide a dispute independently and impartially.

Furthermore, “[n]ot only does absolute immunity yield bad results as a matter of policy, but the doctrine also rests on shaky legal foundations . . . [d]espite its dubiousness, the doctrine or arbitral immunity has gone largely unquestioned.” Notwithstanding these concerns, most courts in the U.S. have blindly adhered to it.

From my perspective, it is necessary for the U.S. to transition from the absolute immunity doctrine to qualified immunity. Under this approach, the arbitrator would be allowed absolute immunity for his adjudicatory role but would also be considered a professional service provider who may be held accountable for negligence, bad faith, or misconduct.

IV. The Transition to Qualified Immunity

Although the idea of absolute immunity of arbitrators has been widely accepted in the U.S., the California Court of Appeal in Baar v Tigerman deviated from this doctrine and refused to apply it to an arbitrator, who had failed to deliver a timely award.

While the absolute immunity doctrine is unquestioningly implemented in the U.S., this was the first instance where a court specifically highlighted that arbitrators are immune from liability in their jurisdictional role, and that the refusal to issue an award is separate from the decision-making process. While American case law has firmly established the application of the absolute immunity doctrine for arbitrators, this precedent has sparked research and debate over the possibility to transition from absolute to qualified immunity, a discussion that has been abandoned in recent years.

In addition, debate over arbitrators’ civil liability is crucial for effective arbitration, since absolute immunity may hinder diligence and good faith. It is also a bad policy to shield people who willfully engage in bad faith or gross negligence, such as not delivering a timely award or disclosing conflicts of interest. As Susan Frank suggests, “[o]verly broad immunity fails to create an incentive for arbitrators to be responsible for their actions, to the parties who are paying fees, or to the integrity of the international arbitration system.”

For that reason, other common law countries such as England have transitioned from the absolute immunity doctrine towards a qualified approach, by recognizing in Section 29 (1) of the Arbitration Act of 1996 that “[a]n arbitrator is not liable for anything done or omitted in the discharge or purported discharge of his functions as arbitrator unless the act or omission is shown to have been in bad faith.” Also, in England, an arbitrator is immune in all the activities that involve a judicial function; however, “this immunity . . . [does not] have anything like the same force when applied to professional men when they are not fulfilling a judicial function.

Although absolute immunity is conceded to arbitrators as a public policy measure, absolute immunity should not protect arbitrators when they voluntarily engage in bad faith or other misconduct. The reason for concern lies not only in its impact on the arbitration’s outcome, but also in its detrimental effect on the reputation of arbitration as a viable alternative to court litigation.

V. Reasons to Advocate for Qualified Immunity

Even though other common law jurisdictions have transitioned to qualified immunity, I view Baar v Tigerman as a precedent that has the potential to ignite the discussion on qualified immunity. This is because qualified immunity acknowledges the contractual nature of an arbitrator’s appointment, wherein the arbitrator assumes rights and responsibilities by consenting to deliver a fair and enforceable award. Additionally, qualified immunity also safeguards arbitrators when they carry out judicial duties, while ensuring that they are held responsible for their lack of care in fulfilling their contractual obligations.

There is a concern that if qualified immunity is adopted as a matter of public policy, because arbitrators, unlike judges, are vulnerable to “(1) unhappy parties [that] might threaten arbitrators, or (2) arbitrators might not make principled decisions if they are concerned about being sued,” nevertheless, these policy justifications are insufficient to support absolute immunity; however, there is evidence in that qualified immunity will not threat the impartiality or independence of arbitrators, since “the number of successful cases brought against arbitrators and institutions is limited. A French study (…) identified five cases since 1804 where arbitrators were found liable by the French courts: one for untimely resignation, twice for lack of independence and impartiality, and twice for excessive delays.

In England, since the Arbitration Act of 1996 “there have been no reported English cases which have interpreted the bad faith requirement in Section 29 . . . Bad faith is a deliberately high threshold, and this carve-out seeks to strike the balance between immunity and permissible recourse for parties in respect of egregious arbitrator behaviour.”

Thus, based on the experience of France and England, it can be inferred that qualified immunity does not pose a risk to the impartiality and independence of arbitrators; rather, it supports these qualities because it imposes a “balance that addresses the courts’ dual concerns: protecting the public from possible arbitrator abuse and providing arbitrators with immunity to ensure independent decision making . . . [q]ualified immunity would hold arbitrators accountable when arbitrator.”

VI. Conclusion

The advantage of transitioning from absolute to qualified immunity is that the latter recognizes the sui generis legal relationship that exists between the arbitrator and the parties, where the arbitrator is chosen by a contract to perform an adjudicatory function. In addition, qualified immunity safeguards arbitrators when they carry out judicial duties, while also ensuring that they are held responsible for any wrongdoing committed in bad faith or negligence.

A flaw of the absolute immunity approach is that it ignores that the parties, when they chose an arbitrator, have a reasonable expectation that the arbitrator will remain impartial, independent and that he will fulfil his duties (contractual and adjudicatory) in good faith. Moreover, “their acceptance of the arbitral risk did not cover the case of fraud, of corruption, nor (it would seem), cases of gross and inexcusable negligence. But it did cover, or include the possibility of mistakes in law and legal procedure . . . there is no justification for the immunity of the arbitrators, especially when it is based on the misconceived assimilation to the status of judges.”

Another critique of absolute immunity is that it grants protection to arbitrators based on a misunderstood policy argument to protect them from undue pressure from the parties, and to provide them legal certainty that they will be immune from civil liability claims. Even when the reason behind this argument is true, and that it is undeniable that without some degree of immunity fewer professionals would accept to be appointed as an arbitrator, there is no justification to shield arbitrators in cases of bad faith or gross negligence.

As Dario Alessi suggests:

No law of contract would allow the gross unfairness of exempting a party to a contract from liability because of some policy argument. In particular, the independence of arbitrators may not be obtained at the expense of fairness, producing impunity for breach of obligations that the arbitrators have freely assumed. (…) The unpleasant effects of liability of arbitrators which may occur, such as a risk of vexatious litigation, collateral disputes or harassing lawsuits, cannot as such justify the denial of the right to enforce the promises of arbitrators.

In addition, it is also a good policy to provide the parties of an arbitration a remedy in case that the arbitrator acts in bad faith (such as deliberatively not disclosing conflicts of interest) or in cases of fraud or gross negligence. At the international stage the trend is to improve the current standards about impartiality and independence applicable to arbitrators, evidence of this tendency is the recent publication of the IBA Guidelines of Conflicts of Interest in International Arbitration 2024, that was updated to incorporate “the best current international practice . . . [t]he General Standards and the Application Lists are based upon statutes, practices, and case law and other decisions in a cross-section of jurisdictions, and upon the judgment and experience of the main participants in international arbitration.”

While international arbitration is imposing stricter standards to arbitrators, the U.S. lags behind the international trend by granting explicitly immunity to arbitrators that fail to disclose conflicts of interests, as it is recognized in Section 14 of the Uniform Arbitration Act. There current approach in the U.S. towards the liability of the arbitrator fails to  “balance the various interests of parties, counsel, arbitrators, and arbitration institutions, all of whom have a responsibility for ensuring the integrity, reputation, and efficiency of international arbitration.

To promote the adoption of qualified immunity in the U.S., I consider it necessary to adopt qualified immunity through legislation at state level, and to implement it in the Uniform Arbitration Act, since it does not seem likely[6] that the U.S. Supreme Court will hear a case that modifies the existing status quo.[7] As M. Rasmussen says, “because large sophisticated parties would not forego their access to national courts without carefully exploring the advantages and disadvantages of the process, they must perceive that the advantages of arbitration outweigh the disadvantages.”

In addition, the transition to “contractual liability, would increase transparency, accountability, independence, impartiality, and integrity in the arbitral process. Henceforth, international arbitration would enjoy greater recognition and public confidence,” a transition to qualified immunity will help arbitration to overcome its actual reputational crisis.

*Facultad Libre de Derecho de Monterrey (LLB), Escuela Libre de Derecho (LLM), University of Southern California, Gould School of Law (LLM), Harvard Extension School (ALM Government candidate). The author specializes in civil, commercial litigation, and commercial arbitration in Mexico. I’m grateful to Roberto Cuchí Olabuenaga for his comments in early drafts, and to the members of the editorial board of the HILJ-HIALSA for their work in preparing this piece for publication. All errors are my own.

[1] The report found that “…The multiplication of parallel or subsequent litigation in arbitration proceedings, some of which is directed against arbitrators, is a recent trend that reflects a break from consensus. It therefore appeared necessary for the authors of this report to draw up the current state of arbitrators disciplinary, civil and criminal liability…”

[2] Such as England and the United States. As one pair of authors have commented, “…The immunity of arbitrators is predicted upon the generally accepted proposition that they enjoy quasi-judicial status. It has its basis in the fact that the functions performed by arbitrators, who are chosen by the parties, can be compared to the acts performed by judges…”(p.951).

[3] E.g. France and Spain. Article 21.1. of the Spanish Act 60/2003 of 23 December on Arbitration, declares that “[a]cceptance requires arbitrators and, as appropriate, the tribunal institution, to comply with their commission in good faith. If they fail to do so, they will be liable for any damages resulting from bad faith, recklessness or mens rea. In arbitration commissioned from an institution, the damaged party may file suit directly against it, irrespective of any action for indemnity lodged against arbitrators.”

[4] Thomas Clay, El Árbitro [The Arbitrator] 123 (Grupo Ed. Ibañez, Claudia Patricia Cáceres Cáceres Trans. 2012).

[5] Gary B. Born, Rights and Duties of International Arbitrators, in International Commercial Arbitration (3rd ed. 2021) (updated online only 2024). For this author, “…The proper analysis is to treat the arbitrator´s contract as a sui generis agreement. That is in part because this characterization accords with the specialized and distinct nature of the arbitrator´s mandate . . . differs in fundamental ways from the provision of many other services and consists in the performance of a relatively sui generis adjudicatory function…”

[6] Due to the actual composition of the Supreme Court.

[7] On March 25th 2024, the United States Supreme Court denied certiorari in Grupo Unidos, et al. v. Autoridad del Canal de Panama.

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Petersen v. Argentina and the Drawbacks of U.S. Litigation Against Foreign Sovereigns

Petersen v. Argentina and the Drawbacks of U.S. Litigation Against Foreign Sovereigns

Matei Alexianu*

In September 2023, a U.S. district court issued its judgment in Petersen v. Argentina. The court ordered Argentina to pay $16 billion—the largest ever judgment against a country in U.S. court—to two former private investors in YPF, a state-controlled oil company. The award was the result of a breach of contract related to Argentina’s 2012 nationalization of a controlling stake in the firm. The case has already drawn comparisons with investment-treaty arbitration and calls for investors to consider bringing suits against foreign states in U.S. courts.

The YPF judgment is not the first large contract-based lawsuit against a foreign state, of course. Argentina itself has faced many such cases, such as the seminal Weltover v. Republic of Argentina case decided by the U.S. Supreme Court. But this case, decided three decades after Weltover, illustrates how sovereign protections in U.S. courts have eroded over time, leaving states exposed to more U.S. civil litigation in commercial disputes. And while the main alternative, investor-state dispute settlement (ISDS), has been heavily criticized along multiple dimensions in recent years (see, e.g., Behn, Fauchald, & Langford, eds.; UNCTAD), litigation is likely to perform as badly or worse along many of those dimensions. In particular, U.S. federal court litigation is arguably less competent, legitimate, and adaptable to the evolving needs of states and investors—thus threatening the principles of international comity and sovereign equality that motivate immunities.

Sovereign immunity and the commercial exception

When a government breaches its contractual obligations, an affected investor may, depending on the contract, seek recovery in two ways. First, the investor might sue the sovereign for breach of contract, either in a local court or another jurisdiction. This, of course, is what happened in the YPF case. Second, the investor might initiate an ISDS proceeding under a bilateral or multilateral investment treaty. (Although not all contract violations by a sovereign state amount to treaty breaches, many will give rise to plausible treaty claims, especially under the fair and equitable treatment standard.) Indeed, following the YPF nationalization, the company’s majority shareholder Repsol launched an ISDS proceeding against Argentina, which settled for $5 billion in 2014.

Historically, one of the main barriers to bringing contract-based suits in national courts has been sovereign immunity. Under customary international law, sovereign states are entitled to immunity from jurisdiction and enforcement in other countries’ courts. The United Nations Convention on Jurisdictional Immunities of States and Their Property—which is not in force but which observers consider to codify customary law in this area (see, e.g., Jones v. Saudi Arabia ¶ 47)—describes the exceptions, including waiver, commercial activity claims, tort claims, and arbitral agreements. In the United States, these sovereign protections have been codified in the Foreign Sovereign Immunities Act (FSIA). As a result, the success of investor claims in U.S. courts often hinges on whether the investor can prove that one of the exceptions to sovereign immunity, usually either the commercial activity or waiver exception, applies to the government defendant.

Given the broad protections that sovereign immunity provides, investors have often opted for ISDS instead. States do not have immunity—from jurisdiction, at least—in ISDS because they waive those protections when they sign an investment agreement. (An alternative view is that sovereign immunity does not apply to international arbitration to begin with since the process is not a public court proceeding.) The idea that an investment treaty waives immunity makes sense not only as a matter of treaty interpretation, but also when considering the function of the treaty. At its core, an investment treaty is an agreement between two or more states exercising their sovereign treaty-making powers to grant rights to each other and commit to a certain method of dispute resolution. This stands in contrast to investment contracts, which involve one state acting on the domestic plane to create certain rights, and which typically do not address the state’s international rights and obligations. Some contracts waive sovereign immunity, explicitly or implicitly, but many do not. Notably, the YPF by-laws were silent as to immunity.

The eroding protections of the Foreign Sovereign Immunities Act

However, the immunity-based distinction between litigation and ISDS is eroding as U.S. courts expand the scope of the FSIA commercial exception over time. This narrowing of sovereign immunity is not new: it dates back at least to the U.S. State Department’s 1952 Tate Letter, which adopted a restrictive view of immunity recognizing key exceptions to sovereign protections. In terms of the FSIA’s commercial exception, the most important development came in the U.S. Supreme Court’s 1992 Weltover decision. In that case (p. 614), the Court held that only the nature, not the purpose, of state activities determines whether they are commercial. And, according to the Court, commercial activities are those that a private party could perform. As one scholar recently put it, this definition was “as expansive as the statute would allow.” Weltover paved the way for the lower courts: since the decision, U.S. courts have applied its test to find commercial activities in conduct ranging from the Vatican’s religious and pastoral services to Taiwan’s not-for-profit cultural tours. But Weltover did not address how to classify otherwise commercial conduct that is shaped by, and that flows directly from, a sovereign act, such as expropriation. The case focused on whether the sovereign acted in the “manner of a private player” but left open the status of an act that a private player could perform but that was nevertheless accomplished in a manner exclusive to the sovereign. Confronted with this issue, the district and appellate court opinions in the YPF case illustrate how U.S. courts continue to expand the scope of the commercial exception.

Much of the YPF litigation, in both the district court and the court of appeals, focused on the applicability of the commercial exception. The key question was whether the case was based on (a) the sovereign act of expropriation of YPF’s shareholders (as Argentina argued), or (b) the commercial act of a breach of the YPF by-laws (as Petersen claimed). Argentina and YPF argued that any contractual breach was “inextricably intertwined” with the Expropriation Law and Argentina’s sovereign decision to expropriate 51% of YPF’s shares (i.e., those of Repsol). But both the district court and the Second Circuit held that the crux of the suit was Argentina’s failure to issue a tender offer to the minority shareholders—not the earlier expropriation, which was probably a sovereign act. Even if Argentina’s claimed purpose for reneging on its contractual duties was to facilitate a sovereign act of expropriation, the “nature” of a breach of contract as a commercial activity was determinative. The Second Circuit noted that nothing in the Expropriation Law prohibited Argentina from complying with its contractual obligations.

This conclusion appears to further expand the scope of the commercial exception to cover commercial conduct that is closely related to a sovereign act. The Second Circuit’s opinion—which comports with the Ninth Circuit’s approach but may conflict with the D.C. Circuits—compels courts to construe the government’s conduct as narrowly as possible when determining its nature. The Second Circuit’s approach, then, opens the doors of U.S. federal courts to contractual claims that are intimately connected with, but factually distinguishable from, sovereign conduct by foreign states. The opinion also elevates the importance of certain policy choices made by foreign states. For example, the Second Circuit’s opinion suggests that sovereign immunity would have applied if Argentina’s expropriation law explicitly prohibited its government from compensating the plaintiffs for their shares. This kind of legislative choice, which Argentina’s lawmakers likely did not know would open the country to litigation overseas, is now subject to scrutiny by U.S. courts.

It is debatable whether the Second Circuit’s application of the commercial exception is compatible with the FSIA or Supreme Court precedent. In any event, the Second Circuit’s ruling—which the Supreme Court declined to disturb—is now the law within its jurisdiction, including in the global financial center of New York. Weltover’s commercial “nature” test seems to have reached new heights.

The limited power of the act of state doctrine

Historically, the “act of state” doctrine has also shielded states from liability in U.S. courts. That doctrine, which dates back to the 1890s, holds that U.S. courts will not question the validity of public acts performed by other states within their borders. The doctrine is a creature of U.S. federal common law, not international law, and it stems from comity and separation of powers principles.

Argentina invoked the doctrine in this case, claiming that the plaintiffs’ argument would require a U.S. court to “sit in judgment” of the validity of Argentina’s sovereign act of expropriation. The district court disagreed, holding that the case turned instead on the operation of YPF’s bylaws in light of Argentina’s decision to expropriate. And Argentina’s official act of expropriation neither compelled it to renege on its obligation to issue a tender offer nor absolved it from its contractual obligations under the bylaws. The district court therefore declined to apply the doctrine, applying much the same logic as for the commercial exception: the expropriation and breach of contract were factually and legally distinct acts. (The Second Circuit declined to consider this issue on appeal.) The district court’s decision suggests that the act of the state doctrine may rise and fall along with the FSIA analysis in cases involving both sovereign and commercial activities.

U.S. civil litigation: less predictable and adaptable

As the legal landscape leaves sovereign states increasingly susceptible to being hauled into U.S. courts, investors may be emboldened to choose civil litigation over ISDS. This is a concerning prospect. Notwithstanding the critiques of ISDS—many of which have substantial force—the mechanism arguably has at least three benefits over U.S. civil litigation in the sovereign context.

The first is institutional competence. U.S. federal judges are generalists who are typically unfamiliar with foreign law and the sector-specific subject matter of sovereign contract cases.  While many cases involving foreign states so far have centered on a few major issues such as bond repayments, other cases have run the gamut from energy infrastructure to defense contracts.  In ISDS, parties can choose (at least one of) the arbitrators, allowing them to consider the technical and legal expertise of their adjudicators. Perhaps more importantly, ISDS cases usually turn on the interpretation of relatively standardized international treaties, while contract disputes are much more heterogeneous, often incorporating an array of foreign law. Where this is the case, judges will need to rely on the parties’ submissions. But the Supreme Court’s holding in Animal Science Products that U.S. courts need only afford “respectful consideration” to foreign states’ interpretations of their own laws—but are not bound by them—will give little comfort to sovereign defendants that their laws will be applied correctly in such suits. In contrast, when interpreting domestic laws, investor-state tribunals have historically looked to foreign domestic courts for assistance, acknowledging (¶ 176) that they are “likely to be of great help.” And, recently, investment treaties such as the EU-Canada Comprehensive Economic and Trade Agreement (Article 8.31(2)) have provided for mandatory arbitral tribunal deference to domestic court interpretations of foreign law.

Second, ISDS will often have more perceived legitimacy as a dispute resolution mechanism than U.S. litigation. This statement might seem surprising given recent pronouncements about the “legitimacy crisis” of investment arbitration. But investment arbitration is almost always explicitly authorized by treaty, contract, or national legislation, which grounds the procedure in state consent, a central principle of international law. In contrast, many contracts are silent on the issue of dispute resolution. The YPF by-laws, for example, contained no forum selection clause. If anything, the evidence suggested that Argentina had ruled out litigation in foreign courts: in the district court, Argentina’s lawyers pointed out that the 1993 prospectus promoting investment in YPF provided for exclusive jurisdiction in Argentinian courts. The fact that foreign sovereigns may face litigation abroad even where they have seemingly withheld consent undermines the legitimacy of the litigation process. Moreover, party appointment of arbitrators can shore up trust in the arbitration process and ensure that the state’s perspective is heard (Brekoulakis & Howard; Carter). Litigation before a U.S. federal judge, while arguably more impartial, lacks this guarantee of representation.

Third, ISDS agreements are more adaptable to states’ needs than investment contracts, especially when the latter are enforced through foreign litigation. Again, this might seem counterintuitive given the criticism of ISDS as an inflexible regime that unfairly advantages investors. But investment agreements help centralize both investor rights and carve-outs for sovereign regulatory authority, thus focusing drafters’ attention on these provisions and enabling recent reform efforts (see, e.g., Baltag, Joshi & Duggal; Broude, Haftel & Thompson). Investment contracts, on the other hand, tend to be much more fragmented and operate within a complex patchwork of local law. Of course, states can standardize those contracts, adding regulatory exceptions and forum selection clauses, and explicitly incorporating protective local laws. Indeed, an effort to reform investment contracts is currently underway. But this will be a slow process given the number and heterogeneity of contracts and the need to negotiate with individual investors, many with outsized bargaining power. And, as discussed above, there is no guarantee that U.S. courts will understand and apply these updated contracts and local laws as intended.

None of this is meant to deny important critical perspectives on ISDS. These include analyses showing that the regime lacks transparency, suffers from arbitrator bias and conflicts of interest, lacks consistency absent appellate review, impedes climate change reform, curtails state sovereignty, favors rich countries, and overwhelmingly benefits large investors—just to list a few. But as the discussion above shows, U.S. litigation is likely to fare worse along many of these dimensions. And reform of the U.S. judiciary is largely out of foreign states’ hands, in contrast to ISDS where states can, and do, push for reform.

These drawbacks to U.S. civil litigation risk generating tension between the U.S. and other states and encourage retaliation through reciprocal jurisdiction over U.S. firms in other countries. This is precisely the risk that the modern doctrines of sovereign immunity and act of state were designed to avoid. As recently as 2021 in Federal Republic of Germany v. Philipp (p.12), the U.S. Supreme Court emphasized that:

“We have recognized that United States law governs domestically but does not rule the world. We interpret the FSIA as we do other statutes affecting international relations: to avoid, where possible, producing friction in our relations with [other] nations and leading some to reciprocate by granting their courts permission to embroil the United States in expensive and difficult litigation.”

Until recently, these principles have meant that it was, in one commentator’s words, “almost impossible to sue a foreign government in U.S. courts.” That is no longer the case, at least for many contract-based disputes.


One scholar has aptly described ISDS as a system that “grafts public international law (as a matter of substance) onto international commercial arbitration (as a matter of procedure).”  Weltover and its progeny, including Petersen v. Argentina, encourage investors to pursue a system that grafts foreign commercial law onto U.S. civil litigation. This essay has sought to demonstrate why these developments are likely to be problematic for foreign states and, in turn, the U.S. government. If the impending tide of U.S. cases against foreign states materializes, Congress and the U.S. Supreme Court might decide to tighten the scope of the FSIA’s commercial exception. In the meantime, states and investors should pay close attention to how they draft their agreements.

*Matei Alexianu earned a J.D. from Yale Law School in 2023. He thanks Ali Hakim for his thoughtful feedback on this essay. All errors are his own.

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