Regulatory Expropriation

Expropriation, Direct expropriation, Indirect expropriation and Creeping expropriation.

Right to regulate in expropriation on the State’s ability to regulate under expropriation claims.

Police powers for specific analysis on the conditions required for non-compensable expropriations.

State regulatory power on the relationship between the State’s right to regulate and different standards of protection going beyond expropriation, including fair and equitable treatment, full protection and security, etc.

Regulatory expropriation is a subcategory of indirect expropriation, not defined as such in investment treaties. It occurs “when host States invoke their legislative and regulatory powers to enact measures that reduce the benefits investors derive from their investments but without actually changing or cancelling investors’ legal title to their assets or diminishing their control over them.”¹ 

Virtually all investment treaties include a distinction between direct and indirect expropriation, with expressions such as “or equivalent measures”, “or measures with similar/equivalent effects”, “or measures tantamount to”.² However, these references were insufficient to ascertain whether a regulatory (indirect) expropriation had in fact taken place. 

In early 2000s, investment treaties introduced definitions of indirect expropriation, as well as carve-outs and explanatory notes, exempting certain regulatory measures from its scope.³ The definition cover measures having an effect equivalent to direct expropriation, which substantially deprive the investor of the fundamental attributes of property in its investment, including the right to use, enjoy and dispose of its investment, without formal transfer of title or outright seizure. In order ensure greater certainty of the legal content of the expropriation provisions, the carve-outs and explanatory notes address various elements that arbitral tribunals should consider to ascertain regulatory measures that are potentially expropriatory.⁴ Some treaties cover rather specific sectors, for example the Australia – Hong Kong Investment Agreement 2019 provides specific guidance regarding regulatory measures aimed to protect public health.⁵

In the case of indirect expropriation, States do not expressly remove or shift investor’s legal title over the investment. However, like direct expropriation, regulatory (indirect) expropriation is prohibited in virtually all investment agreements, unless adopted for public purpose, in a non-discriminatory manner, following due process, and against payment of compensation for the value of the property. See further Expropriation, Direct expropriation and Indirect expropriation.

Regulatory measures fall within the scope of regulation of expropriation provisions. As such, their effects and characteristics ought to be assessed by tribunals.⁶ Measures potentially expropriatory range from the ban or handling of certain hazardous materials,⁷ cancellation of or the failure to issue licences and permits,⁸ interference with contractual rights (in the exercise of governmental capacity),⁹ re-zoning of areas originally granted to develop the investment project,¹⁰ taxation measures;¹¹ etc. See also Right to regulate in expropriation, Section III.C.

Often States implement such regulations to protect or promote public welfare objectives. This situation begs the question where the line between non-compensable legitimate regulation and compensable indirect expropriation lies.¹² In finding these contours, investment tribunals have adopted a case-by-case factual approach.¹³ See further Police powers.

The central question in considering whether the measure constitutes a regulatory expropriation concerns the level of economic deprivation as a preliminary step.¹⁴ Additional elements of analysis relate to whether the deprivation is permanent;¹⁵ and whether other rights of ownership e.g. control were affected.¹⁶

Tribunals have also questioned whether the regulatory measure is “disproportionate to the need being addressed”.¹⁷ Or whether the State undertook specific commitments.¹⁸ See further Section VI below.

An effects-only approach to ascertain regulatory expropriation has been used by tribunals¹⁹ but recent trends seem to suggest that substantial deprivation is not the only requirement to consider.²⁰ Indeed, newer investment treaties contemplate three factors to determine if a regulatory measure equates an expropriation:²¹ 

1. Economic impact: Considers the level of economic deprivation over the investment.²² Importantly, this aspect standing alone may not establish that an expropriation has occurred.²³ In this connection, tribunals consider also whether the investor remains in control of the investment,²⁴ and the duration of the measure,²⁵ i.e. if the measure is permanent.²⁶ Appropriation of the investment by the State is a criterion that may also be taken into consideration.²⁷
2. Legitimate expectations: Considers the extent to which the government interferes with previous commitments, undertakings or representations offered to the investor.²⁸
3. Character: Considers the purpose of the measure, and whether it is proportional to its objectives.²⁹

Consideration of these factors can still lead tribunals to conclude that a regulation has crossed the line and constitutes compensable expropriation.³⁰

States’ rights to regulate over specific public welfare objectives such as the environmentt, public health³¹ and safety is expressly carved-out from the provisions on expropriation. In other words, except in particular circumstances (e.g. lack of proportionality or due process), non-discriminatory bona fide regulatory measures applied to protect legitimate objectives, such as public health, safety, and the environment,³² do not constitute indirect expropriations.³³ This doctrine has been identified as a rule of customary international law, relevant in the interpretation of expropriation provisions included in older generations of investment agreements.³⁴ See further State regulatory power and Police powers.