On his first day in office, President Joe Biden revoked the permit for the controversial Keystone XL Pipeline, which would have brought exceptionally dirty oil south from Canada across the Plains. The project’s owner, Calgary-based TC Energy, saw billions in future profits go up in smoke. So it turned to an arcane but potentially explosive tool to try to recoup the loss, filing a claim under the now-defunct North American Free Trade Agreement. The company is seeking $15 billion.
The case is known as an investor-state dispute settlement (ISDS), a tactic that may be the fossil fuel industry’s secret weapon as countries begin ramping up their efforts to phase out fossil fuels. Thousands of treaties, bilateral agreements and international contracts offer companies a way to try to get their money back across country borders, sometimes for theoretical profits from projects that have yet to even break ground. Though ISDS cases have been around for decades, only a few have been explicitly tied to climate policy; the urgent need to mitigate climate change and the global trend toward more aggressive action may be about to change that.
A new paper in the journal Science has put a number on the potential liability: $340 billion. If countries enact policies that line up with internationally agreed upon climate goals, that’s the exposure in ISDS claims from oil and gas companies, a staggering amount that, when broken down by country, occasionally will even exceed national GDP.
“That’s a conservative estimate,” said the study’s lead author, Kyla Tienhaara, an assistant professor of environment studies and global development studies at Queens University in Ontario. That $340 billion does not include coal projects, and more aggressive climate policy could up the exposure even further. The risk this potential tsunami of claims poses, experts say, is that many countries may see the coming financial catastrophe as a deterrent to climate action.
“Even just the threat of such a suit is enough to halt or roll back such efforts by host states,” said Stuart Gross, a partner at law firm Gross & Klein who has worked on ISDS cases in the past. “Because of structural flaws in the way these disputes are adjudicated, the ease of enforcing any resulting awards, and the scale of the awards relative to host country financial resources, the threats can be very effective even if they lack legal merit.”
A potent tool for industry
ISDS claims can be brought by investors under treaties like NAFTA and the Energy Charter Treaty (ECT), as well as under thousands of bilateral trade agreements and international contracts. The claims essentially argue that if a country’s shift in policy renders a project unviable, the country should compensate the investor for the money they would have made. The claimant and the host country each get to appoint one arbitrator, and a third is agreed upon mutually; this small panel then decides if the host country is on the hook for huge sums of money.
Though climate policy-specific claims have been rare so far, the energy industry is still the primary user of ISDS claims. According to a December 2021 report from a think tank called the International Institute for Sustainable Development (IISD), the fossil fuel industry accounts for almost 20 percent of the more than 1,200 total ISDS cases; mining and the financial industry are next on the list behind energy cases. The oil and gas industry makes up 92 percent of the fossil fuel-related claims. And they seem pretty good at this: When the case is decided on the “merits” of the claim and a final ruling is made public, the fossil fuel industry has won 72 percent of the time. The average payout in those victories is $600 million.
To date, the ISDS cases related to climate policy have tended to pop up in the richer corners of the world. For example, a U.K. company called Rockhopper Exploration brought an ISDS claim against Italy, which banned offshore oil and gas exploration within 12 miles of its coast in 2015, stranding the company’s investment in the Ombrina Mare oil rig. In the Netherlands, a coal phaseout plan will lead to early closures of several existing power plants, and German companies RWE and Uniper have filed claims over the loss of revenue they would earn if the plants kept burning coal through their planned life spans.
The industry is likely gearing up for more of these. The large international law firm Jones Day, which has represented half the Fortune 500, is even recommending fossil fuel companies “audit their corporate structure and change it, if needed, to ensure they are protected by an investment treaty.”
Looking ahead, Tienhaara and her colleagues found that a few countries are potentially at risk for amounts they likely cannot afford to lose. Considering only projects that have been permitted but are not yet actually under development, the five most at-risk countries are Mozambique, Guyana, Venezuela, Russia and the United Kingdom. Mozambique could potentially be on the hook for $31 billion; its annual GDP is less than half that amount. Guyana’s potential exposure is $21 billion, while its GDP is only $5.5 billion.
Those countries face such dire exposure because of relatively young oil and gas industries drawing in massive foreign investment. In Guyana, ExxonMobil only began offshore oil production there in 2019. In 2021, the company and its partners produced 120,000 barrels of oil and gas per day; they plan to produce 1.2 million barrels per day by 2027. But if the country were to enact stronger limits on fossil fuel extraction? That means huge ISDS claims could be on the way — and according to the IISD report, ExxonMobil is among the most litigious companies out there, having initiated at least seven ISDS claims and brought in $1.8 billion from them. It hasn’t lost one yet.
The open question, then, is whether the threat of ISDS claims will produce a “chilling effect” on potential climate policies.
“I think that’s going to be the biggest thing, especially in the Global South because of the power imbalance,” said Lea Di Salvatore, a Ph.D. researcher at the University of Nottingham in the U.K. and author of the IISD report. “It depends on the state, but the threat of being sued for millions of dollars might just deter them to take any action.”
There are, in fact, a few examples of this already happening, interestingly in the Global North. In 2017, a draft of a new French law proposed ending all fossil fuel extraction by 2040, with most being phased out well before then. A Canadian company, Vermilion, which is responsible for two-thirds of all oil extraction in France, threatened an ISDS claim under the ECT. Soon enough, a revised version of the law surfaced and was passed. Though it kept the 2040 phaseout target, it allowed companies that already have permits to keep producing longer than the original draft would have.
In general, it will be tough to prove that such policy maneuverings are a direct result of ISDS claims or threats, because, as Tienhaara told Grid, most of the relevant discussion will happen behind closed doors.
There are exceptions. Sometimes, the countries involved straightforwardly acknowledge what’s happening. Costa Rica and Denmark announced the formation of the Beyond Oil and Gas Alliance, a coalition aimed at moving the world away from fossil fuels, at last year’s U.N. climate meeting in Glasgow, Scotland. Several other countries signed on, but New Zealand’s climate change minister said his country could not become a “core member” because doing so “would have run afoul of investor-state settlements.”
Ripe for reform
The potential flood of ISDS claims in the face of climate change mitigation policy suggests drastic reforms are needed. In their paper in Science, Tienhaara and her colleagues advocate for an “abolitionist approach” including termination of bilateral trade agreements and exiting from treaties. Other options could include countries agreeing to amend various agreements in ways that would put ISDS off limits to the fossil fuel industry. The industry, of course, will undoubtedly lobby hard to prevent any of these reforms.
So far, there is at least some movement on the issue; for example, Italy has exited from the ECT, though the Rockhopper case can still move ahead thanks to “sunset” clauses that keep the treaty in force for decades beyond a country’s exit. And in spite of the risk that the ISDS situation clearly entails, more than 30 countries ranging from tiny Benin and Burundi through oil powerhouses like Nigeria and multi-trillion-dollar economies like South Korea have started the process to join the ECT.
Tienhaara told Grid that while the trade agreements and treaties were originally sold to the Global South as a way to increase investment, substantial research on the topic has shown that any such effect is negligible. “When I say what we need to do is terminate these treaties, I always get the ‘Oh, we shouldn’t throw out the baby with the bath water,’” she said. “There’s no baby!”
Some countries, such as South Africa, have begun systematically dismantling virtually all their bilateral trade agreements, and the paper in Science notes that they have seen no drop in investments as a result. If the world hopes to stop fossil fuel companies from further gumming up the progress against climate change, more of that is likely needed.
“I think it’s one of the most pressing reforms we have to make,” Di Salvatore said. “This is really something that should be dealt with yesterday.”
Thanks to Lillian Barkley for copy editing this article.