Prominent signatories are disentangling themselves from the ECT, but there is lots more work to be done.
When the Energy Charter Treaty (ECT) was first signed in 1994, ambition was high: the end of the Cold War offered a unique opportunity to bridge the long-standing economic divides between the east and the west. The ultimate goal was both to facilitate and protect energy investments in the newly independent ex-Soviet states, and the treaty has remained largely unchanged – despite some signatories’ best efforts – since then.
Its major point of contention is the investor-state dispute settlement (ISDS) mechanism, which allows privatesector investors to sue governments for changes in energy policy that may negatively affect their investments. As national governments – particularly in the EU – pivot towards climate action, cases have surged both in volume and size, with fossil fuel investors reaping the biggest rewards: according to Global ISDS Tracker, $80.1bn has been awarded to investors in these assets since 1998, when the ECT entered into force.
The agreement has come under fire for disproportionately shielding fossil fuel investments and obstructing progressive environmental policies. New Zealand climate minister James Shaw admitted as much in 2022, saying that his government was unable to join a COP26 initiative to shift away from oil and gas because "it would have run afoul of investor-state settlements".
Campaigners also take issue with the way it circumvents public courts – where judges tend to consider national interest in their rulings – in favour of opaque arbitration venues, and compromises governments’ climate diplomacy efforts elsewhere.
Heavily exposed
A 2022 study published in Science Adviser magazine found that countries worldwide could face up to $340bn in legal and financial risks for cancelling fossil fuel projects because of their exposure to treaties with ISDS clauses. As the authors pointed out, that “means that money countries might otherwise spend to build a low-carbon future could instead go to the very industries that have been knowingly fuelling climate change”.
"It's good practice to honour a previous commitment, but at the same time it should not be possible for a company to challenge a government for a regulation that is so clearly in the public interest," says Martin Dietrich Brauch, senior researcher at Columbia Law School in New York. "We would not say an asbestos company is entitled to compensation for a ban on asbestos when it's evidently bad for human health. And I do not see a difference between that type of regulation and climate regulation."
While the UK has not yet been sued under the ECT, it protects more emissions than any other country, with around €140bn of fossil fuel assets covered – most of which is North Sea oil and gas. Civil society focused its efforts accordingly, and following years of campaigning pressure on governments, the UK announced its intention to leave in February 2024.
This was followed by the EU in June, with European Green Deal executive vice-president Frans Timmermans saying that the "outdated" treaty "is not aligned with our EU climate law and our commitments under the Paris Agreement".
The failed reform
Before the UK and EU's exit, there were attempts at reform. The result was a draft text negotiated among ECT members across 15 rounds between 2020 and 2022. While EU countries pushed for reforms that would exclude fossil fuel investments from the treaty's protections, others resisted out of concerns over investor confidence.
It was not entirely harmonious within the bloc either: Cyprus, Greece, Hungary and Slovakia were reportedly hesitant to leave, though commissioners will be applying pressure in favour of a coordinated withdrawal. Either way, EU countries cannot bring ECT-related claims against each other due to a 2021 European Court of Justice (ECJ) ruling which found the treaty to be incompatible with EU law.
While the ECT remains in force with around 20 members including Japan, Azerbaijan and Turkey, the EU's exit has roughly halved its members, with many calling it the treaty’s death knell.
A key motivator in the reform negotiations was the presence of a 20-year sunset clause, meaning governments remain exposed to future claims for that period after exiting. Member countries were concerned that without reform, the treaty's original – and outdated – provisions would continue to apply long into the future.
Next steps: neutralising the sunset clause?
Italy – which exited the ECT independently of the EU in 2016 – learnt just how powerful that sunset clause can be. In 2021 it faced a case from UKheadquartered Rockhopper Exploration over the government's decision to cancel an oil drilling project on the Adriatic coast following protests from tens of thousands of people. Despite having spent just $29m on the project, Rockhopper claimed damages of $275m based on expected future profits – and won.
Given the urgent timeline for addressing climate change, with scientists warning that the window for meaningful action is rapidly closing, campaigners have set their sights on a critical next step: neutralising the sunset clause. The most logical route out would be via an inter-se agreement between a critical mass of exiting or exited countries in which major energy investors are headquartered. Based on historic ECT cases, these would all be European countries.
"The 20-year sunset clause of the ECT is jaw-dropping – one of the longest in all investment treaties," says Eunjung Lee, senior policy advisor at think-tank E3G. "This is a striking testament that this treaty was written to protect the incumbents: the fossil fuel industry."
Lee says the EU's exit is "a job halfdone" unless member states address the sunset clause with the UK. The 2021 ECJ ruling sets a helpful precedent here, Lukas Schaugg, policy advisor at the International Institute for Sustainable Development, said during a panel in June. In August his organisation published a model inter-se agreement proposal for the EU and other exiting members.
Given the UK's high exposure, exiting the ECT and negotiating a way out of the sunset clause has received cross-party support in parliamentary debates. Its presence is thought to be an issue in the UK parliament's wrangling over North Sea oil and gas licences: ending drilling off the coast of Scotland was a key Labour manifesto commitment, but no concrete action has been taken yet.
Other routes available
Even if the sunset clause is successfully neutralised, there are thousands of other bilateral and multilateral investment treaties between countries around the world that leave governments exposed to ISDS risk.
After the UK left the ECT earlier this year, major law firms were directly recommending that investors explore the possibility of routes to ISDS under other investment treaties. Some of these suggested that if investors cannot find a treaty between their home country and the host country of their investment, they should restructure either their business or the investment so they can sue the government from a country it is already party to a treaty with.
This is known as treaty shopping, and while legal, is frowned upon by judges: in one of the more egregious examples, an Australian court threw out a claim from Philip Morris against plain cigarette packaging after the company had been a US investor when the laws were introduced but became a Hong Kong investor as a "flag of convenience" to take advantage of the Australia-Hong Kong bilateral investment treaty.
It is strikingly difficult to find data on how companies are structured, says Kyla Tienhaara, Canada research chair at Queen's University in Toronto. "But our estimate was that if the UK and the European countries all sort of agreed to cancel out the sunset clause, that that would get rid of the vast majority of risk," she says.
Companies' calculus ahead of restructuring is not just around securing access to any treaty, but to "the most favourable treaty possible", she adds. "Treaties like the Pacific Trade Deal are helpful [to companies], but as they're more modern, they have narrower provisions," she says. "Most companies tend to prefer deals signed in the 1980s and 1990s, which have fewer restrictions on the types of claims that can be brought."
The EU itself remains party to 63 trade agreements with investment provisions with the UK, Japan, New Zealand and Mexico, among many others.
Carve outs
The Organisation for Economic Cooperation and Development (OECD) has proposed a model carve-out provision to exclude fossil fuels from ISDS protections. While some have welcomed this – and the timing is arguably right given the ECT momentum established this year – others argue that ISDS is the problem, not the mechanism's treatment of fossil fuels.
"We're talking about over 2,000 bilateral investment treaties that are problematic for many reasons," says Brauch. "How do you even begin to identify a climate-related case? And who makes the call? Can we trust arbitration lawyers to make that determination?"
He also points to the growing number of critical mineral-related ISDS, in which governments in resource-rich but cash-poor countries have faced cases seeking up to $200bn in damages since the Paris Agreement was signed alone.
One argument made by ECT supporters is that it is energy agnostic. As renewables are rolled out around the world, they argue, the treaty can also encourage and protect investment in clean energy against policy shifts.
But for Jean Blaylock, coordinator at the European Trade Justice Movement, that argument does not hold water. "The ability to challenge governments on their policy in secret tribunals is not what renewable investors are crying out for," she says. "Sustainable businesses want clear, committed policy and targeted support. All of that requires the exact type of policies that are being challenged via ISDS."
