1 Introduction

The combustion of fossil fuels is the single most important source of greenhouse gas emissions, contributing to more than 70% of the total (Ritchie et al., 2020). In principle, policies to mitigate emissions could tackle fossil fuels by governing their supply, demand, or both. The overwhelming majority of existing efforts focus on reducing demand through policies such as regulatory standards to decrease fuel consumption in the transportation sector, or carbon taxes levied on the emissions embedded in goods and services (Pellegrini & Arsel, 2022). However, with increasing recognition that these approaches are insufficient to meet global climate targets, interest in supply-side climate policies, such as exploration and extraction moratoria, has grown. The Secretary General of the UN, António Guterres, in a remarkably blunt speech in June 2023, came to the conclusion that fossil fuels are “incompatible with human survival” and that the “problem is not simply fossil fuel emissions, it’s fossil fuels—period.” (Jordans, 2023).

Once it is established that most fossil fuel reserves need to be kept in the ground to achieve climate goals (Welsby et al., 2021), several issues arise concerning how exactly this should be realized. Given concerns that limits on extraction in one jurisdiction will lead to increased extraction elsewhere, it is evident that global cooperation on supply-side climate policy is desirable. The institutional form of an international initiative could be that of a club arrangement or a treaty, or it could begin as a club and then evolve into multilateral agreement (van Asselt & Newell, 2022). Incipient initiatives include the Beyond Oil and Gas Alliance (BOGA)Footnote 1 founded by Denmark and Costa Rica that aims to facilitate the phaseout of oil and gas production and the ‘Fossil Fuel Non-Proliferation Treaty’ a civil society initiative, launched in 2020, aiming at halting fossil fuel exploration and phasing-out production (Newell et al., 2022).

Equity issues also arise regarding responsibilities and rights. Who should bear the financial burden associated with the forgoing of extraction possibilities? Who should be entitled to continue extraction activities? The issue of responsibilities and rights looms large over countries that have historically contributed little to greenhouse gas emissions, have considerable fossil fuel reserves, and have urgent development needs (Bos & Gupta, 2019; Jakob & Hilaire, 2015; Kartha et al., 2018; Muttitt & Kartha, 2020; Pye et al., 2020). The issue of justice is entwined with the issue of feasibility: would it be possible for countries to forgo their right to extract fossil fuels without compensation and how could compensation be funded and allocated (Orta-Martinez et al. 2022)?

One major obstacle to a just and equitable phase-out of fossil fuel extraction is the existence of more than 2500 bilateral and plurilateral investment treaties that protect the interests of foreign corporations. When government policy leads to asset stranding or even simply a decrease in the profitability of an investment, foreign investors that are protected by treaties can seek compensation, beyond what might be required under domestic law, through a process known as investor-state dispute settlement (ISDS). This can generate substantial financial burdens for countries that enact policies to limit the supply of fossil fuels.

Although the potential for ISDS cases to arise over supply-side policies has been discussed in the literature (Tienhaara et al., 2022a, b), there has been limited analysis of concrete cases that have already been launched since most are still pending or have only very recently been concluded. In this article we analyse the awards in Rockhopper v Italy and Lone Pine v Canada. While these cases did not emerge in response to the introduction of straightforward supply-side climate policies, they concern prohibitions on fossil fuel development in ecologically sensitive areas. The question that guides our research is: what insights are provided into how tribunals might deal with future investor claims over supply-side climate policies? In the next section, we introduce the regime of investment protection with a particular focus on how it applies to the licences and contracts held by fossil fuel companies. In Sect. 3, we present the two cases. In Sect. 4, we provide an analysis, based on the tribunal awards in these cases, of how investment treaties can be utilized by the fossil fuel industry to obstruct supply-side initiatives. We highlight how tribunals are creating property rights for investors that do not exist in domestic law, are perverting the law through an anti-democratic process of de-politicization, and are establishing a norm that requires the polluter to be paid. We conclude that investment treaties are incompatible with supply-side climate policy and should be terminated, preferably through a coordinated international effort. Nevertheless, we recognize the challenges associated with prompt abolition of the investment regime and provide some suggestions for interim action to mitigate the damage that it can cause to efforts to address the climate emergency.

2 The protection of foreign investment in fossil fuel production

The production of fossil fuels requires considerable financial resources and technical capacity. While some countries have opted to develop their own resources through state-owned companies (see Prag, Röttgers and Scherrer 2018), a substantial amount of fossil fuel exploration and extraction is carried out by foreign (either private or state-owned) firms. Some of these firms are household names, like Shell and BP, but “junior” companies that focus on exploration are also important players.

Generally speaking, countries in the Global North govern private investment in coal, oil, and gas exploration and extraction through licenses (also sometimes referred to as “concessions”), while many countries in the Global South utilize a contract-based approach (i.e. Production Sharing Agreements and Service Contracts) (Chandler, 2018; Gibbins, 2023; International Senior Lawyers Project et al., 2014; Tordo, 2010). While licensing systems and contract models differ by jurisdiction, they commonly provide an exclusive right to explore for coal, oil, or gas and, if a commercial discovery is made, the right to develop the discovery (Chandler, 2018). Importantly, however, this right to develop is typically subjected to several conditions. First and foremost, it is “all but universal across all kinds of petroleum contracts, including licenses” that a company that makes a commercial discovery must obtain approval for a field development plan before commencing production (Daintith, 2020; see also Chandler, 2018). As such, the existence of a license or contract alone does not typically equate to a right to produce fossil fuels. Daintith (2020: 260) argues that “A company that cannot get approval for a development plan that it considers economically viable will have to walk away from the contract and write off its exploration expenditure.” In addition to the development plan, there may be other requirements, such as for an environmental assessment to be completed and approved. Increasingly, social impact assessments may also be required (Field, 2019). In some jurisdictions, the rules governing the approval of social and environmental assessments may be quite specific, but in others there is broad scope for discretion on the part of decision-makers (Daintith, 2020).

The first logical step in any national or international supply-side initiative would be to halt the issuance of new licenses and contracts for fossil fuel exploration. However, this alone will not be sufficient to keep warming below 1.5 °C (IPCC 2023). In the USA, analysis has demonstrated that “significant amounts of already leased federal fossil fuels” will have to remain in the ground to keep within global carbon budgets (Mulvaney et al., 2016). Globally, thousands of upstream oil and gas projects listed in Rystad Energy’s database, which did not have a “final investment decision” from the company as of 31 December 2021 and are therefore incompatible with the International Energy Agency’s Net-Zero Emissions by 2050 pathway, have already received some form of government “approval” such as an exploration permit (Tienhaara et al., 2022a). Additionally, as the greenhouse gas emissions embedded in existing fossil fuel infrastructure exceed a 1.5 °C carbon budget (Tong et al., 2019), effective supply-side policy will also require governments to “prematurely decommission a significant portion” of producing oil and gas fields (Trout et al. 2022).

The tensions between climate policy and investment law raise important questions. What are the legal consequences for governments if they: (i) revoke exploration permits or refuse to allow firms in the exploration phase to proceed with development; and/or (ii) revoke extraction licenses and require early decommissioning of producing fields and mines? Scholars have begun to address this question in different national contexts. For example, Rafaty et al. (2020) find that the revocation of coal extraction licenses is possible in Germany and suggest that there are “strong indications that permit revocation is legally plausible in a considerable number of coal-producing jurisdictions”. Biber and Diamond (2021) find that coal, oil, and gas licenses in the USA can be revoked by the federal government. The requirement for compensation to be paid by license holders varies by jurisdiction. The application of international investment law to these questions is less explored in the extant literature. Investment treaties provide investors from one-party (the home state) protection when they invest in another party (the host state). Both state-owned and private firms can qualify as protected investors. Shareholders in fossil fuel firms (which are largely private investors in rich countries—see Semeiniuk et al. 2022) may also be able to bring claims under investment treaties for their indirect losses (Gaukrodger, 2014; Suraweera, 2023). Investment is defined very broadly in most treaties to cover “property and property rights of various kinds, non-equity investment, including several types of loans and portfolio transactions, as well as other contractual rights, including sometimes rights created by administrative action of a host State (licenses, permits, etc.)” (UNCTAD, 2011, 21–2, emphasis added).

Investment treaties include a number of substantive protections, but the most relevant in this context concern expropriation and Fair and Equitable Treatment (FET). Expropriation can be direct (when a state nationalizes an industry or takes over a specific company to run it for profit) or indirect (e.g. when a regulatory measure has the equivalent effect of an expropriation) (UNCTAD, 2012). Expropriation is permissible so long as it is for a public purpose and accompanied by prompt, adequate, and effective compensation. There is extensive debate over what the relevant factors are in determining if an indirect expropriation has occurred and whether regulatory measures designed to achieve a public purpose should be considered expropriatory (Sornarajah, 2017). FET is the treaty provision that investors are most likely to draw upon because it has been broadly interpreted as requiring governments to provide a degree of policy stability and to meet the “legitimate expectations” of investors (Sarmiento & Nikièma, 2022).

The protections provided by investment treaties are highly enforceable through ISDS. In this system, investors can request that an arbitral tribunal hear their claims without first having to seek recourse in domestic courts. Tribunals are composed of three arbitrators, one appointed by the state, one by the investor, and the third either mutually agreed upon or appointed by an institution such as the International Centre for the Settlement of Investment Disputes (ICSID). Recent research has documented the role of oil companies, particularly Shell, in the initial stages of development of the ISDS regime (Perrone, 2021; Batselé, 2023; Leiter, 2023). Empirical work has also shown that almost 20% of the total known number of ISDS cases up to the end of 2020 were launched by fossil fuel investors (Di Salvatore 2021).

The ISDS system has been subjected to both substantive critiques (e.g. rules such protecting investors are too broadly formulated, while no rules protect local communities’ rights (Perrone, 2016)) and procedural ones (e.g. the system is asymmetrical as it only allows investors to make claims (Arcuri, 2017; Vastardis, 2020) and lacks transparency). The conflict of interest created by the fact that individuals can act both as counsel and as arbitrators in the system is a focus for ongoing discussions about ISDS reform (Van Harten 2010). Another conflict of interest can arise specifically in climate-related ISDS cases. This stems from the fact that many arbitrators may have prior experience with, are actively employed by, or have other significant relationships with law firms that regularly represent the fossil fuel industry either in arbitration or in other forums. Given the role that fossil fuel companies play in the global economy, it is not surprising to find several examples of potential conflict of interest. For example, Jan Paulsson, who has been involved in dozens of arbitrations, was employed at Freshfields Bruckhaus Deringer for nearly 20 years. This firm, along with King & Spalding, was identified in a recent report as playing “a disproportionate role in ensuring fossil fuel interests prevail in arbitration disputes” (Law Students for Climate Accountability, 2023). Another arbitrator, Guido Santiago Tawil, resigned from the panel in a case brought by US oil company Murphy Oil against Ecuador following an allegation of “an extremely close connection and relationship” with King & Spalding, which was Murphy’s counsel (Eberhardt & Olivet, 2012). Similarly, the Amazon Defense Coalition (2012) accused Chevron’s chosen arbitrator (Horacio Grigera Naon) in its dispute with Ecuador of having a business relationship with the firm’s lead lawyer from King & Spalding.

The main remedy provided through ISDS is monetary compensation. Investment treaties are typically silent on the question of how tribunals should calculate an appropriate amount of compensation when a breach is found to have occurred. Awarding the costs that the investor had incurred prior to the breach is one approach. Another, more controversial method, is to speculate on what the income of a project might have been if it had proceeded as planned and provide compensation for these “lost future profits” (Fisher et al., 2017; Bonnitcha & Brewin, 2020). This latter approach, referred to as Discounted Cash Flow (DCF), has been subject to considerable critique. Next to emphasizing the questionable place of DFC in international law, by for example noting that the Iran-US Claims Tribunal “considered it doubtful whether DCF, given its inherently speculative nature, could ever be validly used in international adjudication”, Marzal (2021) has argued that at a minimum, tribunals should award no more than “reasonable profits”. In a similar vein, Hailes (2022) has argued that an unconstrained application of the DCF method may entail “unjust enrichment” of the investor. Its application would then violate a general principle of international law.

In practice, the adoption of DCF by tribunals has resulted in significant number of very large awards, particularly in cases concerning fossil fuel investments where the average amount awarded to investors is more than US$600 million (Di Salvatore, 2021). Regrettably, tribunals have also “so far ignored decarbonization in their oil damages calculations” by failing to consider that action on climate change is expected to lead to lower oil prices and higher production costs (Boute, 2023: 1). As Hailes (2022: 367) notes, the likely consequences of allowing fossil fuel investors to recoup the (speculated) lost future profits of investments stranded through climate action are the “upward redistribution of wealth from developing to developed countries and further expansion of fossil fuel production.”

Some have argued that investment agreements underpinned by ISDS could still be a means to support investment in the renewable energy sector (Comeaux and Kinsella 1994; Coleman & Innes, 2018; ECT Secretary General, 2022). However, empirical studies have shown that investment agreements play an insignificant role in attracting FDI (Pohl, 2018; Brada, Drabak and Iwaski, 2021). A recent survey further corroborated these studies by showing that legal protection offered by BITs has no discernible impact on investment decisions (Mehranvar & Sasmal, 2022). It has also been noted that many ISDS cases about renewables were brought by upstream financial investors, such as equity funds, whose chief interest is profit (Bárcena & Flues, 2022) and that in many of these cases investors were compensated, while they were making substantial profits (Mehranvar & Sasmal, 2022, p. 11). All in all, these studies show the fragility of the argument that investment treaties are important for the renewable energy transition.

3 Two illustrative cases: Rockhopper and Lone Pine

When investors launch an investor claim in response to a supply-side policy, the arbitral tribunal will have to determine whether the investor held property rights that can be directly or indirectly expropriated and/or whether the issuance of the exploration license created “legitimate expectations” that the investor would eventually receive approval to develop a project. In this section, we discuss two recent cases that shed light on how tribunals might deal with such a scenario. The two cases concern companies holding a license to explore for fossil fuels without having received all government approvals for production. As briefly discussed above, sound supply-side climate police may entail both halting new extractive projects and revoking production licenses. In this sense, the measures contested in these cases are the ‘lightest’ in terms of climate policy. Moreover, in both cases, the respondent state is a developed country, with arguably more capacity to defend environmental policy. From this vantage point, these cases could be considered as “critical case studies”, permitting “logical deductions of the type, ‘If this is (not) valid for this case, then it applies to all (no) cases’.” (Flyvbjerg, 2006, p. 230). More specifically, if tribunals were able to find the environmental policies adopted in these cases as (potentially) violative of investment law, then it is highly plausible that other tribunals will condemn more radical supply-side climate policies.

3.1 Rockhopper v. Italy

3.1.1 Background

The region of Abruzzo, situated in central Italy, is relatively rich in hydrocarbons and has been the target of the petrochemical industry for at least half a century (Lipparini et al., 2018). In 2002, Italian Gas Company Concordia S.p.A. requested a concession for offshore exploration of oil and gas in the field “Ombrina Mare”, situated in the waters prospicient the Abruzzo coast. An exploration permit was granted in 2005 (Legambiente, 2013). The permit changed hands a couple of times before being sold to Mediterranean Oil and Gas Italia S.p.a (Medoil) in 2008. In December of that year, Medoil requested a production concession. The following year, the company submitted an application for an environmental assessment to the Italian Ministry of Environment.

On 20 April 2010, the world witnessed the dramatic Deepwater Horizon oil spill in the Gulf of Mexico, “the largest accidental marine oil spill in U.S. history”, where 11 workers lost their lives, and 4 million barrels of oil were released into the environment (National Commission on the BP Deepwater Horizon Oil Spill and Offshore Drilling 2011). Transocean, the company which operated the ill-fated Deepwater Horizon rig, was also the owner of the Galloway rig used in the Ombrina Mare project.

In addition to the general risks from offshore drilling, which the Deepwater Horizon spill brought to the attention of the broader public, scientists connected to the Abruzzo territory identified several specific risks with the Ombrina Mare project (D’Orsogna, 2010). These range from disruptive impacts on the local economy (which strongly relies on tourism and traditional fishing), caused by the proximity and visibility of the oil platform, to increased risks of accidents related to the seismicity of the zone and to the installation of a Floating Production, Storage, and Offloading (FPSO) vessel (D’Orsogna, 2014, 80–81) (for a more detailed overview, see Arcuri, 2023).

A few months after the Deepwater Horizon oil spill, the Italian government adopted a law decree banning offshore oil extraction within 5 nautical miles from the coast (and 12 miles from protected natural areas) (Law Decree Prestigiacomo 2010). Given the prohibition of the new law and critical observations from the public (including those of several scientists), the technical committee responsible for reviewing the environmental impact assessment for the Ombrina Mare project issued a negative assessment in 2010. Medoil lobbied the government to obtain an exception from the ban (Arcuri, 2023), which was granted in 2012. More specifically, the 2012 Law Decree on Development (Decree Development, 2012) adopted by the Monti government exempted oil operators who had already applied for a production concession from the ban. This was a welcome development for Medoil, which had applied for such a concession in 2008. At this point the environmental assessment proceeding could be re-opened. In addition to the 2012 Decree, another law in 2014 further facilitated the fossil fuel industry by limiting the power of local authorities to intervene in authorization procedures.

Local communities as well as a growing national No Oil movement mobilized against this evolving legal landscape. The protests took many forms, from pickets, festivals, and public debates as well as two major demonstrations in cities in Abruzzo (in Pescara in 2013 and in Lanciano in 2015 attracting up to 100.000 people in total) (Cernison, 2016). Amidst these protests, on 11 August 2014, Rockhopper, “a UK-based oil and gas exploration and production company with key interests in the Falkland Islands”Footnote 2 bought Medoil. In August 2015, the technical committee assessing the environmental compatibility of the Ombrina Mare project released a positive opinion, on which basis the Environmental Ministry released an environmental compatibility decree. At the same time, the Conference of the Presidents of the Regions supported unanimously six referendaFootnote 3 to abolish key rules introduced by the 2012 and 2014 law decrees. The large popular support for these referenda led the government to adopt rules de facto cancelling the 2012 exceptions and confirming the absolute prohibition of the 2010 Law Decree (Stability Law, 2016). This meant a halt to the Ombrina Mare project. On 29 January 2016, the Italian Ministry for Economic Development sent a letter to Rockhopper, notifying “the completion of the proceeding and the rejection of the application for the offshore production concession of liquid and gas hydrocarbons called ‘d 30 B.C.-MD’” (Rockhopper Award, at para 96, pp. 23–4).

3.1.2 The claim and the award

On 14 April 2017, Rockhopper submitted to ICSID a claim against the Italian Republic for breaching the Energy Charter Treaty (ECT), a plurilateral investment treaty. According to Rockhopper, the denial of the production concession amounted “to an unlawful expropriation” (para 294 of the Memorial as quoted in the Rockhopper Award, para 187) and infringed the FET standard. By contrast, Italy argued that “the extractive business of the Claimants never started and had never been authorised. Thus, it could not be expropriated to begin with” (Italy’s Counter-Memorial paras. 269, as quoted in the Award, para 189). In addition, Italy invoked the police powers doctrine (Rockhopper Award, para 189), according to which non-discriminatory legitimate regulatory measures adopted in the public interest do not constitute expropriation, even when investors are negatively impacted (Titi, 2018).

The tribunal, composed of Mr. Klaus Reichert (President), Dr. Charles Poncet (appointed by Rockhopper), and Prof. Pierre-Marie Dupuy (appointed by Italy), was established in September 2017. On 23 August 2022, the final Award was issued. The tribunal found that the denial of the permit amounted to direct expropriation (Rockhopper Award, para 197). The tribunal does not elaborate on why it found a direct expropriation—which typically involves a formal taking of title, outright seizure of property, a nationalization or confiscation—rather than indirect expropriation. Given that it was uncontested that Rockhopper did not own a production concession when it was denied a permit, what was exactly expropriated? The tribunal created “a right to obtain a concession”, a right unheard of under Italian law.

More precisely, the reasoning of the tribunal gravitates around a provision contained in a 1994 Italian law, according to which, once the Ministry of the Environment issues the decree of environmental compatibility, the Ministry of Economic Development issues a permit within 15 working days (Art. 16, Law Decree 1994/484) (Rockhopper Award, paras. 133–50). The Ministry of Environment issued the decree of environmental compatibility for the Ombrina Mare project on 7 August 2015. The tribunal accepted the Claimant’s argument that 15 days later, Rockhopper had acquired “a right to obtain a concession” (Rockhopper Award, para. 191). In contrast to the arbitrators’ conclusion, the respondent argued that this specific provision had been repealed by subsequent laws, which were adopted to strengthen the protection of the environment and to comply with EU law, and that, in any case, such terms were non-peremptory; hence, their expiration could have not given rise to any right (Rockhopper Award, para. 134 and 140).

Moreover, Italy argued that the ban on offshore oil extraction within 5 nautical miles of the coast was based on the precautionary principle and was a legitimate exercise of its regulatory powers. The tribunal dismissed this defence (Rockhopper Award, para 197). According to the tribunal, the precautionary principle could have not applied after 7 August 2015. Beside some generic acknowledgements of the importance of environmental values, the tribunal does not elaborate on the risks of offshore drilling near a coast. The tribunal ascribed the adoption of the 2016 Stability Law to “political and civic engagements” and seems to juxtapose civic engagements to environmental concerns, which in the view of the tribunal, could have been taken into account only before the decree of environmental compatibility was issued (Rockhopper Award, para 197–98).

Having concluded that the regulatory measures adopted by Italy amounted to a direct expropriation and could not be considered as an exercise of police powers, the Tribunal condemned the Italian Republic to pay €190 million plus interest for the damages (ca. €240 million), ca. €6.6 million for decommissioning costs, as well as GBP 3.5 million for the legal costs incurred by Rockhopper. Although there is no appeals process in ISDS, Italy has filed for the annulment of the Award (a decision is expected in 2024). The possible grounds for annulment are very limited (e.g. manifest excess of power, failure to apply the proper law), and only about 5% of proceedings result in a partial or full annulment of an award (Koepp et al., 2021).

3.2 Lone Pine v. Canada

3.2.1 Background

The St. Lawrence River harbours a complex ecosystem, involving a freshwater river, which extends from Lake Ontario to just outside of Québec City, an estuary, which extends from Québec City to Anticosti Island, and the Gulf of St. Lawrence, which leads into the Atlantic Ocean (Great Lakes Commission, n.d.). It is home to a rich diversity of flora and fauna and encompasses four Ramsar Wetlands of International Importance and a World Biosphere Reserve. It has been described by the Canadian government as “a priceless jewel of our natural heritage” (Government of Canada, 2017).

Québec has the largest reserves of shale gas in Eastern Canada, with significant deposits within the St. Lawrence basin (Kelly et al., 2015; Lerner, 2014). Utica shale, a geological formation consisting of a thin layer of rock topped by a mile-thick layer of quasi-impermeable rock, occupies nearly 16,000 square kilometres in the St. Lawrence Lowlands (Lerner, 2014; Natural Resources Canada, 2017). Extracting gas deposits from the Utica shale requires a combination of hydraulic fracturing (fracking) and horizontal drilling (Lerner, 2014). Fracking is a process where water and chemical additives are injected into rock formations, creating fractures that gas is released from (Kelly et al., 2015). Fracking is extremely controversial due to concerns, among others, around the contamination of surface and groundwater aquifers with both chemicals and methane, as well as the potential for significant methane leaks to the atmosphere (methane is a potent greenhouse gas) (Council of Canadian Academies, 2014; Kelly et al., 2015). Horizontal drilling involves multiple well shafts extending in different directions from one wellhead. It increases the productivity of a development and reduces costs but can result in “frac-outs” where drilling fluids return to the surface and potentially damage surrounding ecosystems (Osbak, Bayat and Murray 2013; Dickers, 2016).

Between 2006 and 2010, the Québec Ministry of Natural Resources granted more than 100 licenses to explore for shale gas to more than 20 companies (Chailleux, 2020). The government permitted companies to engage in exploration without having a detailed regulatory framework for the industry in place (Van Praet, 2011). By 2010, communities and NGOs in the province that were opposed to fracking had mobilized. A pro-gas lobby to defend the industry also emerged (Harvey, 2016). The provincial government responded to growing calls for a moratorium on fracking by instructing the Bureau des audiences publiques sur l’environment (BAPE) to review options for the sustainable development of the shale gas industry. BAPE’s report, published in February 2011, stressed that there was a lack of scientific knowledge around the costs and benefits of fracking in the province. BAPE recommended, among other things, that a local consultation mechanism is created, that the precautionary principle is used to guide policy, and that a comprehensive strategic assessment is conducted (Government of Québec, 2011; Harvey, 2016). BAPE also concluded that the environment in the St. Lawrence River is not conducive to hydrocarbon development. The government responded to the report by launching an Évaluation Environnementale Stratégique (EES) and in June 2011 passed An Act to limit oil and gas activities (hereafter “Bill 18”) (Challieux 2020; Potts & Yerger, 2020). Bill 18 stated that “oil and gas activities in the St. Lawrence River upstream of Île d’Anticosti and on the islands situated in that part of the river are prohibited” (National Assembly 2011). Existing exploration licenses located in the St. Lawrence River were revoked and any licenses that covered both a land and river portion were redefined to only include the land area. No compensation was paid to license holders (Van Praet, 2011).

3.2.2 The claim and the award

Forest Oil, an American company later renamed Lone Pine, entered (through a Canadian subsidiary) into a series of Farmout AgreementsFootnote 4 with the Canadian junior oil and gas company Junex in 2006. These Farmout Agreements gave the company access to four contiguous exploration licenses near Trois-Rivières to explore for shale gas. In 2009, an additional exploration license in the St. Lawrence River was acquired by Junex and farmed out to Lone Pine. The exploration license located in the St. Lawrence River was revoked when Bill 18 passed in June 2011. At the time, Lone Pine had yet to undertake any exploration activities within its river permit area.

Lone Pine submitted a Notice of Intent to file an ISDS claim under the investment chapter of the North American Free Trade Agreement (NAFTA) on 8 November 2012. The company followed up with a Notice of Arbitration on 6 September 2013. A Tribunal was constituted on 13 September 2014. The original members of the tribunal were Mr. V.V. Veeder (President), Mr. David R. Haigh (appointed by Lone Pine), and Prof. Brigitte Stern (appointed by Canada). In 2020, following the passing of Mr. Veeder, Prof. Albert Jan van den Berg was appointed President. Mr. Haigh was, until the end of 2022, a Partner with Burnet, Duckworth & Palmer LLP, a Calgary-based law firm that “enjoys close relationships with explorers, developers, producers and infrastructure owners and operators, also acting for lenders and investors on energy transactions” (The Legal 500 2023).

Lone Pine argued that Canada had breached two provisions of NAFTA: Article 1110 on expropriation and Article 1105 on the Minimum Standard of Treatment. Lone Pine characterized the alleged expropriation as both direct and indirect. As part of its argument, the company claimed that Canada had violated its legitimate expectations. Although NAFTA does not contain a stand-alone FET provision, as some treaties do, Article 1105 does refer to “fair and equitable treatment”. However, in 2001 the NAFTA parties issued “Notes of Interpretation” that specified that the Article does not provide investors protection “in addition to or beyond that which is required by the customary international law minimum standard of treatment of aliens” (NAFTA Free Trade Commission, 2001). This was an effort by the parties to reign in arbitrators that were broadly interpreting the article as requiring states to meet a high standard of transparency towards investors, to act “consistently” and to meet the “legitimate expectations” of investors. Nevertheless, the issue was not completely resolved as NAFTA tribunals have been inconsistent in how they have responded to the Notes, with some arguing that customary international law has “evolved” to include recognition of investor expectations (Barrera, 2017). Finally, to ward off a potential ‘police powers’ defence from Canada, Lone Pine attempted to build a case that Bill 18 was passed for political reasons (to appease the public and anti-fracking lobby) rather than a legitimate effort to protect the environment. The company sought lost future profits in the order of US$118.9 million (Lone Pine Memorial, 2015).

Canada reasoned that the Tribunal did not have jurisdiction over the case, because the exploration license in question was held by Junex rather than Lone Pine. Significantly, Canada also argued that an exploration license does not provide a guaranteed right to develop a resource, noting “The contractual rights of [Lone Pine] are not acquired rights to the exploitation of the resource…The exploitation of resources that could eventually be discovered in this territory is subordinated to the eventual and uncertain discovery of commercially exploitable resources and to several regulatory and environmental authorizations” (Lone Pine Counter-Memorial, 2015, para 412, translated from French). As such, the exploration license owned by Junex and farmed out to Lone Pine did not constitute an investment that could be expropriated. However, anticipating that the Tribunal might disagree on this point, Canada further contended that because Bill 18 only revoked one of the five exploration licenses that Lone Pine had an interest in, the legislation could not be said to have caused a “substantial deprivation” of the company’s investment as is required (under some interpretations) for a claim of indirect expropriation. Canada also defended Bill 18 as a legitimate measure that was based on numerous scientific studies and sought to achieve an important public policy objective. Canada moreover suggested that it was legitimate for Québec to consider the social acceptability of an activity, in addition to scientific studies, when making a policy decision. Canada also stressed that the minimum standard of treatment guaranteed in Article 1105 of NAFTA does not protect investors’ legitimate expectations and that, even if it did, no government official provided any specific assurances to the company about the development of hydrocarbon resources in the St. Lawrence River. Finally, the Government submitted that the damages claimed by Lone Pine were highly exaggerated. An amicus brief filed by the NGO Centre Québécois du Droit de l’Environnement (CQDE) and accepted for consideration by the Tribunal argued that the adoption of Bill 18 could have been foreseen by Lone Pine given that several jurisdictions around the world had instituted moratoriums on hydraulic fracturing pursuant to the precautionary principle (Lone Pine Award, 2022, para 156).

The Final Award in this case was issued on 21 November 2022. Although a majority of the tribunal dismissed all the claims, the reasons for doing so are extremely narrow and have potential implications for similar cases to be decided in the future. On expropriation, the tribunal was unanimous that no “substantial deprivation” had occurred because only part of Lone Pine’s investment (the river exploration license) was affected by the ban. If all the licenses that Lone Pine had an interest in had been in the St. Lawrence River, or if Québec had passed a total ban on all oil and gas development (as it did in 2022—see further below), the outcome might have been different. The tribunal did not address other aspects of the arguments of the parties, such as whether Bill 18 was adopted for a legitimate public purpose.

On the minimum standard of treatment, the Tribunal stressed that “the standard to be met for a breach of NAFTA Article 1105 is a very high one”, which suggests that the same conclusions might not have been drawn had the case occurred prior to the Notes of Interpretation or under a treaty with a vague stand-alone FET provision. Even with this high standard, Mr. Haigh concluded in a dissenting opinion that the failure to provide the company with compensation, which he viewed as politically expedient but not justifiable, was enough to create a breach. In this regard, it is worth noting that under domestic law in Canada, even a direct expropriation does not require the provision of compensation (De Mestral & Morgan, 2016).

4 How ISDS undermines climate policy

Although neither of the cases we have discussed is a prima facie example of an investor challenging a supply-side climate policy (the contested measures were adopted primarily in response to other environmental concerns), they are nonetheless relevant when considering the essential conflict between investment law and fossil fuel phase-outs. Both cases reveal at least three distinct ways by which investment treaties can be deployed by the fossil fuel industry to obstruct supply-side initiatives.

4.1 Expansion of property rights

It has been argued that in Rockhopper v Italy, the tribunal has created a “right to obtain a concession”, which did not exist under Italian law (Arcuri, 2023). Under the 2015 Italian legal framework on hydrocarbons, possessing an exploratory permit did not give a company a right to obtain a concession. The procedure to obtain a production concession also did not create such a right, even when an allegedly comprehensive environmental assessment was completed. By virtue of EU law, the authority competent to authorize the extraction of hydrocarbons should evaluate the technical and financial capability of the operators (Article 5 Directive 94/22/EC, (Directive, 1994)). The Ministry of Economic Development is the competent authority in Italy, and at the time when Rockhopper’s permit was denied (January 29, 2016) it was still in the process of evaluating these capacities. Not only has the claimant/tribunal arguably made up the right to obtain a concession; it has also equated this right to an expropriable property right. In expanding investor property rights and the boundaries of expropriation, the tribunal has followed a consolidated, and much-critiqued, practice in investor-state arbitration. Several authors have in fact argued that arbitral tribunals have enhanced investors’ property rights by including in the notion of property a wide variety of intangible assets (Nichols, 2018), treating transnational property rights more deferentially than domestic courts do (Arato, 2015) and by focusing on the wealth maximization function of property rather than on other social functions of property important to maintain a proper social order (Perrone, 2017).

The tribunal in Lone Pine did not directly address whether it believed the company had a right to extract. However, implicit in their argument that there was no expropriation because there was no “substantial deprivation” is the suggestion that if all five of Lone Pine’s exploration licenses had been revoked it would have been a different story. It seems possible that in that scenario, the tribunal would have come to a similar conclusion as the Rockhopper Tribunal that the company had an expropriable property right even though it did not have any extraction permits.

4.2 Perverting environmental law through ‘de-politicization’

In theory, under the international investment law system, environmental regulation can be shielded from attacks through the invocation of the police powers doctrine (Titi, 2018). Following this doctrine, non-discriminatory regulatory measures adopted for a legitimate public purpose should not be considered expropriatory. Likewise, new generation investment treaties often contain clarifying language (as in the NAFTA Notes of Interpretation) and exceptions clauses with the purpose of enabling (environmental) regulation. The two cases discussed, however, show a particular way in which the police powers doctrine and exceptions clauses can be neutralized.

In Rockhopper, the tribunal quickly dismissed the police powers doctrine by stating that this was a case of direct expropriation (Rockhopper Award, para 197). By finding direct expropriation, the tribunal has de facto excluded the applicability of the police power doctrine. What does this mean for future supply-side policies? Tribunals following the reasoning in Rockhopper would likely treat supply-side measures as direct expropriation and refuse to apply the police power doctrine. In other words, this may signify that states will have to compensate fossil fuel for their green transition policies. As briefly discussed in Sect. 2, considering the highly inflated ways of computing damages, this in turn would make supply-side policies unaffordable for many countries.

In Rockhopper, the tribunal also held that the precautionary principle could have been applied only by the technical body conducting the environmental impact assessment (Rockhopper Award, para 197). The adoption of the 2016 law was arguably influenced by the many citizens and scientists highly critical of the environmental impact assessments and by several constituencies who emphasized the need to align current legislation to the goals of the Paris Agreement (Rockhopper Award, para 109, p. 39). Instead of carefully assessing the reasons and concerns of the citizens, the tribunal disqualified the Italian law prohibiting offshore extraction near the coast because it was the result of “political and civic engagements”. In Lone Pine, the dissenting arbitrator’s conclusion that Québec made a “political” decision to not pay compensation to Lone Pine, and that this amounts to grossly unjust behaviour and a breach of the Minimum Standard of Treatment, is equally concerning. Arguments that government action are “political” and therefore unjustified are very common in investor claims, including recent ones made by fossil fuel investors (see the Notice of Arbitration in TC Energy v. United States and Ruby River Capital v. Canada). However, it is disturbing when arbitrators explicitly agree with this contention and embrace a highly problematic technocratic political philosophy.

Public participation and conflict are pillars of democracy (Dryzek, 2002; Hirschman, 1994). Demoting the political implicitly undermines the basic tenets of democratic societies. Furthermore, the viewpoint that civic engagements are extraneous to sound environmental policy is reductivist at best and illiberal and anti-ecological at worst. A wealth of scholarship, ranging from Science and Technology Studies to environmental law, has shown that democratic processes and public participation are key for achieving sound, evidence-based, environmental regulation (Jasanoff, 2005; Heyvaert 2011). It has been amply recognized that risk regulation is well served by civic engagement not only because technical scientific assessments are contingent on values, but also because publics have specific knowledges of how risks depend on social contexts and organizational structures (Winickoff et al., 2005, pp. 96–99). Likewise, the effectiveness of public institutions controlling the implementation of safety norms is an important determinant to appraise certain risks. In this regard, it is worth noting that in Italy the population was particularly aware of the concrete risks of oil pollution, also because in the regions where hydrocarbons are extracted, such as Basilicata and Sicily, public monitoring has been deficient at best (see, e.g. Di Pierri, 2016) and the oil pollution was documented first and foremost thanks to engaged publics and local scientists (Alliegro, 2012; Pellegrini et al., 2021; Santoriello, 2019). The necessity of a paradigm that goes beyond decision-making by technocrats is even more relevant when society is faced with complex problems and uncertainties (Funtowitcz and Ravetz, 1993). The precautionary principle has emerged to tackle these uncertainties and, arguably, to counter the instrumentalization of uncertainty for anti-regulatory purposes. Against this background, it should be clear why the precautionary principle is construed as a “political principle” (Tallacchini, 2005). The political dimension becomes even more salient when considering that the fossil fuel industry has instrumentalized uncertainty and manufactured ‘doubt’ to fetter climate action (Oreskes & Conway, 2011).

The role played by public pressure and activism in the development of supply-side policies will undoubtedly be an issue that arises in future ISDS cases. Social movements globally have long targeted specific fossil fuel projects and infrastructure because of local socio-environmental impacts. Nigerian activist Nnimmo Bassey (Environmental Rights Action) coined the slogan “leave oil in the soil” in 2007 and formulated a concrete policy proposal on unburnable oil in 2009 (Pellegrini & Arsel, 2022; Temper et al., 2013). Policy initiatives to leave fossil fuels in the ground have also often been spearheaded by social movements, as exemplified by the instrumental role played by the movement Acción de Lucha Anti-Petrolera in the establishment of the 2002 moratorium on oil projects in Costa Rica, the earliest example of a country-wide ban (Echeverria, 2016 p. 32). Other existing and proposed moratoria on fossil fuel developments can also be traced back to mobilizations of a broad range of actors including social movements, NGOs, scholar activists, local governments, religious groups, and sympathetic individuals within national governments (Pellegrini et al., 2014; Spalding, 2011).

When supply-side policies are challenged in ISDS, these actors will be marginalized or excluded entirely from the process. In the best-case scenario, demonstrated in Lone Pine, non-parties will have the opportunity to submit an amicus curiae brief (which may or may not be accepted by the tribunal) and view some of the proceedings. In the worst case, demonstrated in Rockhopper, outsiders will not even have access to the arguments of the parties and the entire case will take place behind closed doors.

4.3 Paying the polluter

At a more prosaic level, the implicit demonization of the political also raises the question of whether a non-political option exists with respect to compensation. Paying a company lost future profits following lobbying or a threat of legal action is just as “political” as responding to public sentiment against compensation, although arguably less democratic.

In Rockhopper, the tribunal followed the DCF valuation method to compute damages. The tribunal could have compensated Rockhopper based on the costs that the company incurred (ca. €36 million). By choosing to rely on DCF, the tribunal opted to include possible lost future profits. Such a forward-looking assessment is problematic for its highly speculative dimension and less-than transparent methodology (Hailes, 2022; Marzal, 2021). In times of climate emergency, it is also extremely concerning as it rewards un-sustainable business practices, such as new fossil fuel extractivist projects (Marzal, 2023). It suffices here to reflect on the fact that, from the parliamentary records quoted in the Award, the 2015 Italian law prohibiting offshore drilling was adopted, inter alia, in consideration of “the need to revisit national energy policies in light of the agreement recently reached in Paris during the Conference of the Parties to the UN Framework Convention on Climate Change (COP21)” (Rockhopper Award, para 109).

Although the Lone Pine Tribunal did not award the company compensation, this issue continues to be a pertinent one in Québec. The province is a member of BOGA and in April 2022 completely banned all oil and gas exploration and production. Perhaps partially in response to its experience with the Lone Pine case (which was still pending at the time), the Québec Government provided CAD100 million to cover the costs of exploration by license holders that had occurred since 2015, as well as 75% of well capping and reclamation costs (The Canadian Press 2022). No compensation was provided to cover “lost future profits”. NGOs have, nevertheless, argued that the package is too generous and have suggested that no compensation should be paid (in line with domestic law) (Beer, 2022; Fiset, 2022). Several companies have sued the government in the Superior Court (these cases are ongoing) seeking billions in compensation (Melnitzer, 2022). These cases are unlikely to be successful. However, if the affected companies were foreign and had access to ISDS, there is little doubt that they would have pursued their cases in arbitration instead of (or in addition to) the local courts, with much better chances of success. A domestic case brought by the German energy company RWE against the Dutch government is a case in point. RWE requested a Dutch Court to award almost €1.5 billion in damages allegedly resulting from the 2019 “Prohibition of Coal in Power Generation Act” a Dutch law phasing out the use of coal to generate electricity by 2030. The District Court ruled that, the ban was lawful, as it was a proportionate and foreseeable regulation of property; accordingly, no damages were awarded (District Court Den Haag, 2022). Notably, RWE has an ongoing ISDS case against the country over the same matter.

While on its face a methodology to award compensation may appear a neutral technical issue, it is a fundamentally normative choice. Rewarding fossil fuel investors for lost future profits, through a much-contested methodology, amounts to a “political” choice to fund the fossil industry. Could compensation for lost future profits be considered indirect subsidies of a commercial activity that causes climate change? There have been several estimates of the scale of total subsidies, ranging from an IMF assessment of USD 5.3 trillion in 2017 to the International Renewable Energy Agency (IRENA) assessment of “around USD 447 billion” (IRENA, 2020), but none has considered ISDS awards for lost future profits. Even if lost future profits are not calculated as indirect subsidies, they clearly support the operation of one of the most polluting industries in the world. Once the Award was issued, Rockhopper announced that the collection of its winnings would make “a material contribution” to their extractive activities (Rockhopper 2022). The lost future profits “compensatory” norm is in fact a norm that, perversely, coerces states to pay polluters.

5 Conclusions

Increased interest in supply-side climate policy by governments and global institutions is a welcome development given the clear imperative of rapidly phasing-out fossil fuel extraction to remain within a 1.5 °C carbon budget. However, it is important that these actors, and all those involved in advocating for fossil fuels to remain in the ground, recognize that investment law is a barrier to the achievement of this goal.

With their interpretative work, which de facto relegates civic engagement to some decorative element of environmental policy, arbitral tribunals “eviscerate environmental law of its transformative potential” (Arcuri, 2023) and help to empower the fossil industry in its anti-regulatory crusade. The tribunal in Rockhopper and the dissenting arbitrator in Lone Pine considered public participation in policy making a pejorative. Neither tribunal focused on the potential impacts of oil and gas extraction as a basis for the application of the precautionary principle. Furthermore, the tribunals discounted the tensions between the climate and, more generally, environmental policy and international investment law, eventually giving teleological primacy to investors’ interests and alleged property rights vis-a-vis environmental and human rights.

These types of rulings would be unfortunate, but inconsequential, were it not for the substantial sums of public funds that are at stake in ISDS. The propensity of tribunals to award “lost future profits” is enormously concerning in the context of supply-side policy. A ban on oil and gas extraction in Québec cost CAD100 million and would have been legal without any compensation at all. But if investors had access to ISDS it could have cost the province billions. Québec is a relatively minor player in fossil fuels; the costs for other jurisdictions will be much greater. The Economist was possibly the first mainstream publication to publish estimates of staggering amounts of existing wealth that would turn into stranded assets if public policy would effectively pursue climate goals (Leaton, 2012; The Economist 2013). Recent research has demonstrated that a substantial amount of oil and gas assets that would be stranded in a 1.5 °C pathway are owned by companies from the Global North but are situated in the Global South and are protected by investment treaties (Tienhaara et al., 2022b).

The writing down of fossil fuel investments is both an outcome and a constitutive element of climate policies. It is an outcome since emissions embedded in existing fossil fuel infrastructure exceed the 1.5 °C carbon budget (Tong et al., 2019). It is also constitutive of climate policies because devaluations and asset stranding signals to companies the necessity to align investment decisions with climate objectives and divest from the sector. Providing compensation, especially for lost hypothetical future streams of profits, counters these market-based decision mechanisms and hinders the operation of economic incentives. Furthermore, the threat of having to pay large awards in ISDS can lead to regulatory chill and this may already have occurred with respect to supply-side policies in some countries (Rickard, 2023). The chilling effect is particularly relevant in poorer countries that lack the resources to defend themselves against investor claims (Tienhaara, 2018).

There have been numerous proposals to reform ISDS, to draft tighter language in treaties, introduce exceptions clauses, and carve-out either climate policy or the fossil fuel industry from treaty coverage (Arato et al. 2023; Paine & Sheargold, 2023). However, actual reforms to date are best described as “timid and gradualist” (Van Harten and Yilmaz Vastardis 2023: 371). They are also failing to achieve the expected results, as demonstrated by the fact that even with express treaty language establishing exceptions for environmental policies, arbitrators have awarded compensation to investors (Heath, 2021; Di Salvatore and Mehranvar 2023; Ünüvar, 2023). This, coupled with a lack of proven public benefits emanating from investment treaties, leads us to advocate for abolition instead of reform. As Cotula (2023: 789) argues “designing a system fit for the climate challenge requires thinking anew and taking climate imperatives, rather than existing investment treaty approaches, as the starting point.”

While the abolition of ISDS should be the goal, also to protect socio-environmental rights not related to climate policies and fossil fuel operations (see Boyd, 2023), sunset clauses pose an obstacle to unilateral termination. These clauses protect established investments for many years after countries denounce treaties (e.g. in the case of the ECT, the duration of the “sunset” is 20 years). Efforts to develop a multilateral termination agreement (see further Johnson et al., 2018) should be pursued, but this would no doubt be a slow process. To put an immediate end to treaties protecting fossil fuel investment, states could invoke Article 62 of the Vienna Convention on the Law of Treaties, according to which states can terminate treaties when there is an unforeseen “fundamental change of circumstances”. This would neutralize the operation of sunset clauses. This legal avenue is plausible (Morgandi & Bartels, 2023), particularly considering that the anticipated emissions associated with existing and planned future investments in the fossil fuel sector are at loggerheads with climate policy objectives.

Other interim strategies are also available. Starting from the basic observation that investment law needs to be made compatible with climate objectives, we suggest that investment law should be interpreted in ways compatible with the climate policy regime. One way to do that would be for states to issue a clarification that any general and non-discriminatory policy intervention aimed at limiting fossil fuel extraction is an exercise of states’ police powers. Hence, denial as well as revocation of exploration and extraction permits should give no rights to compensation; they would be stranded assets, even when these measures entail a substantial financial loss. The limitation of this strategy is the fact that arbitrators have demonstrated a willingness to ignore or misconstrue such clarifications, even when they are meant to be binding (e.g. the NAFTA Notes of Interpretation). Rules that limit the amount of compensation that can be awarded to investors are another important option for states to consider (Aisbett & Bonnitcha, 2021; Brewin et al., 2021).

Finally, it is imperative that the Global North assist the Global South in responding to climate-related ISDS cases that cannot be avoided through other means. As noted in the opening of this article, there are serious justice and equity dimensions of any global action on supply-side policy. Equally, there are injustices inherent in the investment treaty regime, which disproportionately impacts poorer countries. The global community cannot ask these countries to give up the right to develop their resources and then turn a blind eye when northern-based corporations demand payment for “their” losses.