Sovereign States have inherent power to regulate in the public interest.1 This regulatory power has been recognized as a rule of customary international law.2 Some tribunals have interpreted investment treaties which do not expressly refer to the right to regulate as importing that right from customary international law.3
These powers are often viewed through the lens of the common law police powers doctrine4 that protects the regulatory measures from being subject to compensation under certain conditions.5 Other competing doctrines, however, are used to assess the legitimacy of exercising the State regulatory power. See for example Sole Effect Doctrine. The concept of the sovereign regulatory powers is not tied solely to the expropriation context and often appear in the analysis of the fair and equitable treatment and other international standards of investment protection.6 See further Right To Regulate In The Context Of Expropriation.
Tribunals have clarified that the customary or treaty-based right to regulate does not automatically absolve the respondent State of its responsibility to pay compensation for the direct or indirect taking resulting from a regulatory measure.7 As the Pope & Talbot tribunal has noted, “a blanket exception for regulatory measures would create a gaping loophole in international protections against expropriation.”8 The investment tribunals therefore have recognized that the powers to regulate must be exercised on a fair, just, and non-discriminatory basis.9
II. State's regulatory right
The legitimacy of the State’s regulation is based upon the risk assessment (the legitimate goals of the government) and risk management (the methods by which the regulation deals with the risk).10 States should assess the availability of reasonable and less restrictive alternatives to address these risks.11
Foreign investors may be perceived as encroaching on the host State’s regulatory power when they challenge its regulatory measures.12 States may be perceived as intentionally or unintentionally abusing their regulatory powers when they eclectically chip away the value of the foreign investment.13 Some standards may strike a balance. See further Fair and Equitable Treatment Standard, Most-Favoured Nations Standard, Non-Discrimination Standard, Due Process, Minimum Standard of Treatment.
Most tribunals recognize the right of the State to regulate as “undeniable”, yet limited by any explicit assurances in the form of stabilization clauses or similar promises given to the investors at the time of the investment.14 Such assurances must not be violated in the process of excericising the State’s regulatory power. Investors’ legitimate expectations are likewise protected—contingent on the reasonableness of the circumstances and the investor’s exercise of due diligence—and must be balanced against the State’s legitimate regulatory powers.15 In Chemtura, the tribunal required an analysis of the entire record to evaluate the minimum standard of treatment and determine whether a government acted fairly, in keeping with due-process standards and in good faith when taking regulatory measures.16
III. State's regulatory liability
A. Degree of interference
Regulatory measures that do not reach the threshold of “substantial deprivation” are often perceived as legitimate in the context of expropriation analysis.19 In contrast, a complete deprivation of value of the investment is often considered tantamount to expropriation.20 See Sole Effect Doctrine.
Some tribunals consider proportionality of the measure compared to the harm incurred by the investors as a factor in assessing the legitimacy of the measure. A disproportionally harsh measure, where a least restrictive measure was readily available to the State, could be considered tantamount to indirect expropriation.21
C. Nature, purpose and character of the measure
The “nature, purpose and character” may determine whether a regulatory measure is bona-fide.22 Absent legitimate public purposes, the regulatory measure may not be considered bona-fide and hence would result in state’s liability.23 The tribunal in S.D. Myers found “no legitimate environmental reason for introducing the ban. Insofar as there was an indirect environmental objective … it could have been achieved by other measures.”24 The tribunal noted that in the assessment of the government measure, the tribunal “must look at the real interests involved and the purpose and effect of the [such] measure.”25
The Azurix tribunal has criticized the Myers decision holding that public purpose was insufficient in itself for determining whether compensation was owed.26 Other tribunals have also recognized the investor’s right to get compensation against expropriation even if such expropriation was motivated by public purpose. In that context, the police power doctrine is sometimes contrasted with the doctrine of eminent domain found in common law jurisdictions.27 The Santa Elena tribunal further held that “the purpose of protecting the environment for which the property was taken does not alter the legal character of the taking for which adequate compensation must be paid.”28
D. Duration of the measure
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