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OPENING PANDORA'S BOX: SOVEREIGN BONDS IN INTERNATIONAL ARBITRATION（1） |
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OPENING PANDORA'S BOX: SOVEREIGN BONDS IN INTERNATIONAL ARBITRATION（1）
Michael Waibel [FNa1]
American Journal of International Law, October, 2007
Copyright © 2007 by The American Society of International Law; Michael Waibel
In recent years, sovereign debt crises have received much attention from the perspective of international public policy, but an effective legal solution to sovereign defaults has yet to coalesce within international law. Over the last two decades, private creditors have increasingly resorted to litigation in national courts, though without great success, in an effort to obtain payment on defaulted sovereign debt. Another, emerging option is arbitration --in particular, before the International Centre for Settlement of Investment Disputes (ICSID). Will ICSID be the new venue of choice for recovering on sovereign bonds? [FN1] The conclusion reached here is that attempts to take defaulting countries to ICSID arbitration are unlikely to succeed. [FN2]
Government bonds are at the heart of public finance and play a central role in the development of capital markets. [FN3] To developed and developing countries alike, bonds have long been the instrument of choice for raising long-term funds, domestically and internationally. In 2005, the international debt market amounted to almost U.S.$30 trillion. [FN4] Its magnitude *712 is more than double the United States' gross domestic product (GDP), or roughly half of world economic output. [FN5]
Countries' access to capital markets in the twentieth and twenty-first centuries has raised new questions for litigation against sovereigns. In the sovereign debt market, countries act much like private borrowers. Countries issue under municipal law and routinely waive immunity from jurisdiction in favor of foreign municipal courts. Sovereign bonds hence depart from traditional investment contracts, to which ICSID arbitration was tailored.
Periodic sovereign debt crises not only decrease welfare for countries and their populations; [FN6] they threaten regional and, at times, global political and financial stability. Latin America experienced a decade-long debt crisis in the 1980s. In 1995, Mexico was unable to meet its external debt obligations. Three years later, a severe financial crisis hit East Asia. Russia defaulted in 1998. Argentina's 2001 default on more than U.S.$100 billion in private debt was the largest in history. [FN7] Meanwhile, the Heavily Indebted Poor Countries (HIPC) Initiative tackles chronic debt overhang in the world's poorest countries--especially in Africa. [FN8]
Countries with unsustainable debt burdens routinely restructure their public debt. Sovereign debt restructuring refers to the various techniques used by countries in financial distress to change the debt's original payment terms. [FN9] The aim is a more manageable liability profile over time or a reduction in the debt's net present value. Bond exchanges are often used to restructure sovereign bonds. [FN10] For sovereign issuers--unlike companies, which are able to reorganize in the shadow of corporate insolvency law--such exchanges are presently among the few viable methods for reorganizing sovereign debt. [FN11]
*713 The feasibility of arbitrating sovereign debt instruments is of major policy significance, and the need for effective mechanisms to resolve sovereign debt crises is evident. Sovereign defaults invariably imperil repayment owed to sovereign bondholders. Yet legal remedies for the protection of sovereign creditors are generally ineffective, largely because sovereign debt litigation in national courts runs into the constraint of sovereign immunity from enforcement, coupled with a limited pool of attachable assets abroad. The move to arbitration would have the effect of bringing investment treaty arbitration and international financial law much closer together.
"Holdout litigation"--where a majority of creditors accepts the debt restructuring but a minority chooses to sue for full repayment--is a particular concern in sovereign debt restructurings. [FN12] Successful holdout litigation undermines participation by otherwise cooperative creditors; the country's inability to bind all creditors threatens to unravel the debt restructuring as a whole. If recent financial crises are any guide, such litigation is on the rise. One reason is the move toward restricted sovereign immunity in London and New York, with the issuance and restructuring of sovereign bonds being classified as commercial transactions. [FN13]
To facilitate future sovereign debt restructurings, the international community advocated the inclusion of contractual restructuring clauses in sovereign bonds. [FN14] The purpose of these collective action clauses (CACs) is to alleviate the collective action problem that arises when a country has numerous dispersed creditors with divergent interests--as happens with sovereign bonds, which are regularly traded on financial markets. The shift from bank lending to sovereign bonds over the last two decades has, in this context, exacerbated the collective action problem. [FN15] When syndicates of commercial banks dominated sovereign lending, collective restructuring negotiations took place whenever a sovereign faced payment difficulties. In that setting, holdout litigation was not a major concern.
*714 At the beginning of 2005, Argentina restructured its external debt following its 2001-02 debt crisis. [FN16] The country used a variety of incentives to encourage participation in the bond exchange. [FN17] In February 2005, the Argentine Congress passed Ley 26017, which prohibited a reopening of the exchange and any settlement with nonparticipating bondholders. [FN18] After approval by the U.S. Securities and Exchange Commission and unsuccessful challenges to the exchange, only 76 percent of bondholders accepted the bond exchange. [FN19] Participating bondholders received about 25-29 percent of their bonds' face value. [FN20] Holders of roughly U.S.$20 billion in bonds did not tender in the exchange. Some nonparticipating bondholders brought suit in national courts [FN21] but have not succeeded in enforcing the resulting judgments.
In past sovereign debt crises, holdout litigation was limited to national courts [FN22]--a situation that could soon change. ICSID could become the new venue of choice for nonparticipating sovereign creditors. [FN23] In September 2006, 170,000 Italian bondholders initiated the first ICSID arbitration on sovereign bonds, requesting close to U.S.$5.5 billion in compensation from Argentina. [FN24] This arbitration is coordinated by the Global Committee of Argentina *715 Bondholders (GCAB), one of the main bondholder organizations formed after Argentina's default. [FN25]
Why is ICSID arbitration attractive to bondholders? GCAB has suggested that ICSID represents "a more efficient litigation path" [FN26] since ICSID awards possess a number of potential advantages over national court judgments. First, ICSID awards increase the chance of recovery since countries can be expected to pay ICSID awards. [FN27] Second, their recognition, unlike national court judgments, is not subject to substantive review. They are equivalent to final judgments in all ICSID member states. [FN28] Third, even if neither of these two advantages actually obtains, a favorable award could be a valuable bargaining chip for bondholders. It must be mentioned, however, that the enforcement of ICSID awards might still run into the barrier of immunity from execution. [FN29]
Would arbitration on public debt open a Pandora's box? In 1898, a Mexican-U.S. mixed commission alluded to the implications that arbitrating sovereign bonds would have for borrowing governments and capital markets. That commission found that the "disturbance which would ensue in the administration, credit, and relation of modern nations, if the claims on account of the public debt, such as those involved in this case, were made the matter of international claims, has long been understood." [FN30]
ICSID arbitration on sovereign debt instruments [FN31] could fundamentally alter the dynamics of future sovereign debt restructurings. Bondholders might be able to obtain compensation, even though the contractually prescribed majority accepted the restructuring. ICSID arbitration could blow a hole in the international community's collective action policy. Consolidation of bondholder claims to include those of different nationalities, while facilitating bondholder coordination, could magnify this effect. [FN32] Such bundling is also likely to shift bargaining power to nonparticipating creditors as a group, and away from participating bondholders and the country in default. [FN33]
*716 The multilateral Convention on the Settlement of Investment Disputes Between States and Nationals of Other States [FN34] (ICSID Convention) created ICSID as an autonomous international organization with close links to the World Bank Group. [FN35] ICSID's founding aim was to contribute to a stable and positive investment climate. [FN36] Although ICSID awards do not possess the force of precedent, ICSID arbitral tribunals frequently rely on past awards. Three arbitrators typically sit on ICSID tribunals. [FN37] Grounds for contesting awards are extremely limited. [FN38] It may fairly be said that the awards contribute to the corpus of international investment law. ICSID arbitral awards will therefore be a central part of this article.
Bilateral investment treaties (BITs) grant foreign investors certain treaty protections as to the behavior of the host country. [FN39] For example, the host country commits not to expropriate "investments." [FN40] In the early days of investment treaty arbitration, individually negotiated arbitration clauses in investment agreements between investors and host countries [FN41] explicitly expressed consent to arbitration. By contrast, BITs provide blanket consent, avoiding the need for consent in each contract. [FN42] Under many BITs, investors enjoy direct access to ICSID arbitration for alleged breaches of treatment obligations. [FN43] Other BITs provide for arbitration under the rules promulgated by the UN Commission on International Trade Law (UNCITRAL) *717 or International Chamber of Commerce. [FN44] Dispute settlement is thus removed from the exclusive jurisdiction of host countries. In this article, the focus will be on the Argentina's BITs with Germany, Italy, and the United States. [FN45]
Due to the private interests at the heart of the investment disputes that ICSID tribunals address, they apply a hybrid of international and municipal law. [FN46] Treaty and contractual claims operate on separate planes. Municipal, not international, law governs whether, where, and how sovereign bondholders may bring contractual causes of action. BITs bring contractual claims under the protective umbrella of international law, which could give rise to causes of action under treaties. Such breaches of treatment obligations are qualitatively different from contractual breaches, which are neither necessary nor sufficient for treaty violations. [FN47] Default on sovereign bonds alone does not trigger state responsibility.
Part I explores whether sovereign bonds are "investments" within the jurisdictional scope of the ICSID Convention. Article 25 limits ICSID jurisdiction to "legal dispute[s] arising directly out of an investment." ICSID subject matter jurisdiction requires a double review. Sovereign bonds need to fall into Article 25's objective core of "investment" and be covered by the relevant BIT. I contend that sovereign bonds are commercial transactions and thus outside this objective core. ICSID holdout arbitration might therefore fail at the initial, jurisdictional stage.
Part II evaluates jurisdictional conflicts arising from ICSID arbitration on sovereign bonds. Current international investment law has few rules to resolve such conflicts. The focus is on whether the host state has consented to ICSID jurisdiction based on the combined terms of the BIT and the sovereign bond. I argue that exclusive domestic jurisdiction and CACs in sovereign bonds governed by municipal law could bar recourse to ICSID. Arbitration through ICSID, not contemplated when the contract was concluded as a whole, threatens to unravel the unity of the bond's contractual bargain.
Part III turns to state responsibility on sovereign bonds. I examine four treatment standards that are especially attractive to holders of sovereign debt: (1) expropriation, (2) fair and equitable treatment, (3) national treatment, and (4) most-favored-nation (MFN) treatment. [FN48] I argue that failure to pay a sovereign bond does not engage the state's international responsibility, even if it constitutes a contractual default under the bond. Coercive sovereign debt restructurings, by contrast, could give rise to international liability.
Part IV considers how peculiar characteristics of sovereign bonds traded on secondary markets affect the fair market value of sovereign bonds. I explain why compensation to bondholders for frustrating their legally protected expectations might lie substantially below the bond's *718 face value. My conclusions highlight how ICSID arbitration would increase incentives for all creditors to hold out for full repayment. This development could dramatically reshape future sovereign debt restructurings.
I. ICSID JURISDICTION OVER DEBT INSTRUMENTS
Article 25 of the ICSID Convention sets up jurisdiction ratione materiae for "any legal dispute arising directly out of an investment." ICSID does not enjoy jurisdiction over ordinary commercial transactions. Since the ICSID Convention does not define "investment," jurisdiction has always been fertile territory for argument. In the early days of ICSID, the view was widespread, however, that by including an ICSID arbitration clause in the contract, the parties implicitly concurred that the object of the dispute was indeed an "investment" under Article 25. [FN49]
The rise of BITs placed consent at one remove from the alleged investment. A double review for ICSID subject matter jurisdiction became the norm. [FN50] Even if a cross-border transaction falls under the BIT's investment definition, it may nonetheless be outside ICSID jurisdiction because the transaction fails to satisfy Article 25. Conceptually, ICSID subject matter jurisdiction is thus evaluated in a two-step test: first, whether the dispute arises out of an investment according to Article 25 of the Convention, rather than being an ordinary commercial transaction, and second, whether the dispute relates to an investment as defined in the BIT.
Subject matter jurisdiction under Article 25 is distinct from consent in the BIT. Parties to a BIT cannot define the multilateral meaning of "investment" in the Convention. Access to ICSID dispute settlement cases is thus conditioned on Article 25's "outer limits." [FN51] In all cases, the transaction needs to fall within Article 25's "objective core." Conversely, BIT consent could be narrower than Article 25, which covers a broad set of transactions.
There is strong authority for a two-step evaluation of jurisdiction. Aaron Broches, former general counsel of the World Bank and spiritus rector of the Convention, recognized that the absence of a definition of "investment" does not translate into unlimited jurisdiction: "The fundamental condition is consent .... But consent is not enough. The Centre is an institution *719 of limited jurisdiction, limited ... by the nature of the dispute." [FN52] In the words of Antonio Parra, ICSID jurisdiction requires a "double review of the criteria for coverage of the parties and the dispute, first from the viewpoints of the ICSID Convention and then from the viewpoint of the investment treaty." [FN53] The requirement of an investment in Article 25 may thus not automatically be merged into consent to jurisdiction. [FN54]
As the next section shows, case law fails to reveal a strong basis for ICSID jurisdiction over bonds.
Sovereign Bonds as "Investment" Under Article 25 of the ICSID Convention
What exactly are sovereign bonds? Defining their nature and characteristics is the natural first step in determining ICSID jurisdiction. Sovereign bonds are country debt instruments acknowledging indebtedness and promising repayment of principal and interest on an earlier advance of money. [FN55]
Are sovereign bonds "investments" under Article 25 of the Convention? During negotiations, various attempts at defining that term failed; this lack of consensus was the primary reason for the Convention's silence on the definition of "investment." George Delaume had also counseled against including a definition in the Convention, as it would inevitably lead to "jurisdictional wrangles." [FN56]
Since in ordinary usage, "investment" has various meanings, [FN57] a textual interpretation of the ICSID Convention alone fails to reveal whether debt instruments and sovereign bonds fall under Article 25's scope. [FN58] In finance, investments include all purchases of financial assets. In economics, investment is a component of GDP and stands for gross capital formation. This definition excludes purchases of financial instruments by households. The meaning of investment in international law is also blurry. [FN59] Divergent BIT definitions of investment further *720 illustrate the absence of a generally accepted meaning. [FN60] During the ICSID Convention negotiations, delegates offered varying views on the inclusion of bonds and loans; [FN61] a historical interpretation of the ICSID Convention thus also yields no clear result.
Given this textual and historical ambiguity, it is useful to look at how ICSID tribunals have dealt with debt instruments so far. In particular, the two main cases dealing with such instruments have both held that they amount to investments. Pre-ICSID Convention cases, while rich in instructive examples, [FN62] shed only limited light on the theoretical foundations of bondholder claims under ICSID.
In Fedax v. Venezuela the tribunal regarded promissory notes issued by Venezuela and assigned by another company to Fedax as an "investment": "Since promissory notes are evidence of a loan and a rather typical financial and credit instrument, there is nothing to prevent their purchase from qualifying as an investment under the [ICSID] Convention in the circumstances of a particular case such as this." [FN63] The tribunal explained that promissory notes are not like "volatile capital"; they satisfy the basic features of an investment--that is, "a certain duration, a certain regularity for profit and return, assumption of risk, a substantial commitment, and a significance for the host State's development." [FN64]
A crucial point at the jurisdictional stage was that the promissory notes contributed substantially to Venezuela's treasury. The Fedax tribunal reasoned that the
promissory notes were issued by the Republic of Venezuela under the terms of the Law on Public Credit ..., which specifically governs public credit operations aimed at raising funds and resources "to undertake productive works, attend to the needs of national interest and cover transitory needs of the treasury." It is quite apparent that the transactions involved in this case are not ordinary commercial transactions and indeed involve a fundamental public interest. [FN65]
The Fedax tribunal's analysis stopped at this critical juncture. The tribunal overlooked the distinction that economic transactions may well "involve a fundamental public interest" yet fail to satisfy Article 25's requirements for an "investment." The mere presence of a "fundamental public interest" does not transform a commercial transaction into an "investment." Importing such a public interest criterion of overarching scope into the qualification of "investment" lacks *721 a sound basis in the ICSID Convention. Almost every legitimate governmental transaction satisfies Fedax's erroneous public interest test. By the same token, the set of ordinary commercial transactions under Fedax is virtually empty.
In CSOB v. Slovak Republic, the second important ICSID case on debt instruments, a consolidation agreement between the bank CSOB and the Czech and Slovak Ministries of Finance provided for the assignment of certain nonreceivables to a specially constituted Slovak collection company that was to be financed by a loan. [FN66] Slovakia undertook to make good the collection company's losses, enabling repayment of the loan to CSOB. The tribunal noted that the term "directly" in Article 25(1) should not be interpreted narrowly. The loan was held to constitute an "investment" even though the claim was based on an obligation that, standing alone, did not qualify as an investment.
Which generalizations are possible from this case law? So far, ICSID tribunals have liberally accepted jurisdiction over debt instruments despite Article 25's ambiguity. [FN67] Only a few ICSID tribunals have declined jurisdiction for failure of the "investment" requirement; [FN68] "no jurisdiction" is a rare occurrence in ICSID arbitration. It would be wrong to infer from Fedax and CSOB, however, that ICSID has jurisdiction over debt instruments. Both cases mistakenly ascribe primary importance to the purpose of the transaction (which, under Article 25, ICSID tribunals are bound to take into account but which should not therefore be taken as determinative).
Fedax cannot serve as a precedent for ICSID arbitration on sovereign bonds governed by private foreign law. [FN69] Sovereign bonds are commercial transactions that are usually governed by the municipal law of a major financial center; immunity from jurisdiction is waived. [FN70] Countries issuing such debt on international capital markets place themselves in the position of arm's-length contract parties. The promissory notes in Fedax are fundamentally distinct from modern sovereign bonds, however; they were issued under Venezuela's own law and subject *722 to the exclusive jurisdiction of Venezuelan courts. Since Venezuela retained important public powers over such debt instruments, they were not commercial transactions.
Even if Fedax and CSOB--with their characterization of promissory notes and loans as "investments"--are considered to be correct, care should be taken not to extrapolate erroneously beyond the particular circumstances of those cases. Other distinguishing features of sovereign bonds relative to loans are that they are easily tradable on the secondary market and that trustees and fiscal agents act as intermediaries. Bondholders are atomized and anonymous. Bonds are bought on the secondary market without formal or other specific relationship with the debtor government. [FN71] Bondholders' nationalities might change with every transaction. [FN72] For these reasons, ICSID tribunals might treat sovereign bonds differently than loans.
There is some support among commentators for ICSID jurisdiction over debt instruments. Delaume posited that "the characterization of transnational loans as 'investments' has not raised difficulty .... [F]rom the origin of the Convention [it has been assumed] that longer term loans were included in the concept of 'investment"' (though this problematic proposition relies on the (rejected) first draft of the Convention). [FN73] Prior to Fedax, Schreuer argued that "[i]t would depend on the particular circumstances of the case whether the extension of loans or the purchase of bonds will qualify as investments." [FN74] This passage no longer appears in his commentary. [FN75]
Whereas both Fedax and CSOB depend on special considerations, I argue below that both cases were wrongly decided for a more fundamental reason. By brushing over the elements of investment mentioned above, the two tribunals subsumed all portfolio investments [FN76] under "investments." Article 25's definition of investment is not infinitively elastic. Sovereign bonds do not display the typical features of an investment. They are ordinary commercial transactions outside ICSID's objective jurisdictional core.
The Objective Core of ICSID Jurisdiction
"Investment" has a multilateral meaning. [FN77] Consent to ICSID arbitration through a BIT does not in itself control. Article 25 of the ICSID Convention purposefully set up a substantive investment *723 requirement in the jurisdictional stage. Only genuine investments are protected. The Convention's silence is content neutral. It would be a mistake to regard the "investment" requirement as merely a pro forma jurisdictional requirement. Legitimacy of ICSID arbitral awards depends on respecting this adjudicatory mission, especially since investor-state arbitration often implicates fundamental public interests and substantial claims for compensation.
Maintaining an objective core meaning of "investment" is also crucial for legal certainty. For that reason, ICSID tribunals have refined the notion of investment by elaborating typical characteristics of investments. [FN78] "Typical" in this context means that a large majority of "investments" display these characteristics. [FN79] Schreuer originally introduced five such elements of "investment" under Article 25: (1) significance for the host state's development (2) sufficient duration, (3) risk sharing, (4) regularity of profit and return, and (5) substantial commitment. [FN80] His original intent was purely descriptive, yet many ICSID tribunals subsequently gave these elements normative content.
Absence of one typical element is prima facie, but by no means conclusive, evidence against qualification as an investment. The absence of one element or another is not fatal, and it must also be remembered that the elements themselves are often intertwined in any particular investment and need to be analyzed together. It is beyond the scope of this article to trace out these elements in detail. I focus here on the three (of Schreuer's five) typical elements that are particularly relevant for debt instruments and sovereign bonds: significance for the host state's development; duration; and risk sharing. [FN81] Beyond Schreuer's original elements, I introduce two more: a territorial link and an association with a commercial undertaking.
Positive impact on development. Schreuer's first typical element is that an investment has some positive impact on development. [FN82] The Convention's preamble contains a reference to "the need for international co-operation for economic development and the role of private international investment therein." The traditional canon of interpretation supports construing an undefined term like "investment" in the light of the preamble, the treaty's objective, and purpose. [FN83]
CSOB illustrates the prevailing purpose-oriented approach to the positive-impact criterion:
*724 [T]he basic and ultimate goal of the Consolidation Agreement was to ensure a continuing and expanding activity of CSOB in both Republics. This undertaking involved a significant contribution by CSOB to the economic development of the Slovak Republic; ... [its qualification as an investment within Article 25] is evident from that fact that CSOB's undertakings include the spending or outlays of resources in the Slovak Republic in response to the need for the development of the Republic's banking infrastructure. [FN84]
The tribunal did not go beyond registering the transaction's abstract purpose: the spending of resources. Fedax similarly relied heavily on the substantial, albeit abstract, contribution of promissory notes to Venezuela's treasury. [FN85]
The approach of CSOB and Fedax to the positive-impact criterion is too broad to be either reliable or useful. Under Article 25, potential development and abstract financial flows are not enough. [FN86] Mirroring the effect doctrine in expropriation, the actual impact of "investments" in the host countries warrants closer attention; [FN87] for practical reasons, evaluating the positive impact on development indirectly is the preferred approach. In particular, if a transaction displays duration, risk sharing, and a territorial link (see below), then it is likely to benefit the host country's development. Both Fedax and CSOB, however, brush over these typical features.
LESI v. Algeria, by dispensing with a separate positive-impact criterion, points the way forward. The tribunal reasoned that the impact on development was difficult to establish and was already implicit in the elements of substantial contribution, duration, and risk sharing. [FN88] This line of analysis incidentally raises the issue whether claims by individual bondholders could fall short of the "substantial commitment" deemed typical of an investment. Such a requirement could place retail bondholders at a disadvantage compared to institutional investors.
Long-term transfer of financial resources (duration). A second typical element of an investment is the long-term transfer of financial resources. While the ICSID Convention leaves open the question of duration, [FN89] it is widely recognized that ICSID lacks jurisdiction over short-term financial flows. Fedax takes an overly restrictive of such "volatile capital," however, and leaves that term undefined. [FN90] Establishing a minimum duration for the investment would enable transactions to be differentiated according to the length of the investor's commitment.
*725 Speculative purchases of debt instruments might fail the long-term transfer test. Capital might not be committed long enough to fall under Article 25. [FN91] "Speculative" in this context refers not to the riskiness of the bond, but to short-term financial commitments by individual bondholders. [FN92] This factor could be applicable, in particular, to purchases on the secondary market. The draftspersons of the ICSID Convention did not conceive of modern secondary markets for sovereign bonds and other debt instruments.
A preliminary question is whether it is sufficient for sovereign bonds to qualify as an investment on issuance. [FN93] The answer is no. Article 25 is sometimes taken to indicate that the substantive requirement of an "investment" is separable from the person requesting arbitration. [FN94] That is, if the original bond issue qualified as an investment, then a bondholder could bring a claim even if her secondary-market purchase did not itself amount to investment. [FN95] As will become clear, however, the correct view is that the transaction conferring ownership interest to the particular individual bondholder must be an "investment."
Case law provides limited support for declining jurisdiction on the basis of short duration. In Olguin v. Paraguay, Paraguay argued without success that "speculative financial investments" were not covered investments. [FN96] In Fedax the tribunal rejected Venezuela's argument that subsequent endorsement of promissory notes took away the character of an "investment." [FN97] In Saluka, the Czech Republic argued, without success, that Nomura was not a bona fide investor, as short-term acquisitions of shares served the sole purpose of disposing of the Czech bank Investicni a Postovni Banka's assets for profit. [FN98] In dismissing the argument that a speculative motive could affect its jurisdiction, the Saluka tribunal stated that it
would [not] be correct to interpret Article 1 as excluding from the definition of "investor" those who purchase shares as part of what might be termed bare profit-making or profit-taking transactions. Most purchases of shares are made with the hope that, in one way or another, the result will in due course be a degree of profit on the transaction .... Even if it were possible to know an investor's true motivation in making its investment, nothing in Article 1 makes the investor's motivation part of the definition of an "investment." [FN99]
Even Saluka, however, refers to profit expectations "in due course."
Tribunals need not analyze investors' specific motivations. First, as the Saluka tribunal correctly pointed out, such attempts to discover motivations would often be futile. Given that the *726 case was an arbitration under UNCITRAL Rules, however, it is of limited relevance for ICSID arbitration; whereas the sole determinant of jurisdiction under UNCITRAL is the parties' agreement to arbitrate, Article 25 of the Convention deems the long-term transfer of financial resources to be a typical element of investment and consequently an element in determining of jurisdiction.
Short commitment periods are a reliable means of identifying volatile capital. When sovereign bonds are held only for a short time, they fail to meet the jurisdictional requirement of a long-term transfer of financial resources. [FN100] Claimants would simply be required to produce documentary proof of continuous bond ownership for a certain period before default. ICSID tribunals ought to establish clear criteria for the required duration. Short commitments could also be taken into account at the merit stage through the quantification of appropriate compensation. [FN101]
Sharing of commercial risk. A third typical element of an investment is the sharing of commercial risk. This feature is linked to the association with a commercial undertaking, examined below. "Investments" succeed or fail on the merits of the commercial undertaking--the specific commercial purpose to which capital was committed. Host country and investor share the risk of success and failure. Sovereign bonds, by contrast, are mainly tied to the general macroeconomic condition of the issuing country. They finance the general treasury. No commercial risk is shared among the issuing country and the bondholder. The repayment obligation is fixed, unconditional, and not tied to the success of a commercial undertaking or capital project. The bondholder is to be repaid, independent of the ultimate uses to which the host country puts the resources. Repayment is thus isolated from commercial risk.
Despite this independence from commercial risk, sovereign bondholders--like the holders of virtually all other financial instruments--are exposed to the risk of default. In particular, they face the same default risk as any contractor doing business with the government; repayment depends solely on the uncertain macroeconomic trajectory of the country involved. For instance, supplying office materials to a government, despite the risk of nonpayment, would no doubt qualify as an ordinary commercial transaction, not an "investment." Analogously, although the default risk inherent in bonds has a special quality because of the sovereign nature of the issuer, that does not in itself indicate the presence of the risk sharing typical of investments.
Fedax's interpretation of risk is unduly broad. The tribunal held that "the very existence of a dispute as to the payment of the principal and interest evidences the risk that the holder of the notes has taken." [FN102] Every unsecured transaction involves the risk of nonperformance. For this reason, mere default risk cannot be a meaningful standard for qualifying transactions as investments. Some sovereign bonds display high default risk. Yet the mere presence of such risk is not enough. Article 25 contemplates an element of risk sharing. In the words of Joy Mining, "Risk there might be indeed, but it is not different from that involved in any commercial contract." [FN103]
*727 Territorial link ("in the territory of the host country"). Is it necessary for the "investment" to be located in the host country? In contrast to typical foreign investments, sovereign bonds are intangible capital flows. Their situs is thus more difficult to determine. The crucial issue is whether transactions have a positive impact on the host country's development without physical presence in that country's territory. Such a territorial link represents another typical element of investment under Article 25, [FN104] which requires that some workers or physical assets be physically present in the host country's territory. Flows of financial capital alone are insufficient. Until recently, case law on Article 25's territorial link was limited. While a historical interpretation of the Convention provides support for a territorial link, [FN105] only CSOB mentioned this element, with the tribunal characterizing CSOB "as an investor and the entire process as an investment in the Slovak Republic within the meaning of the Convention." [FN106]
LESI v. Algeria buttresses this position. In reducing Schreuer's five typical elements of an investment to three, the tribunal adopted a territorial interpretation of substantial contribution. Implicit in this notion of contribution is that the contracting party made a contribution in the country concerned. [FN107] As the tribunal explained, this element is not absolute, but at least part of the contribution needs to occur in the territory of the host country: "It is often the case that these investments are made in the country concerned, but that again is not an absolute condition. Nothing prevents investments from being committed, at least in part, from the contractor's home country, as long as they are allocated to the project to be carried out abroad." [FN108]
For debt instruments traded on secondary markets, the territorial link is especially tenuous. Suppose Ruritania's sovereign bonds being traded on the secondary market in Zurich changed hands. With secondary-market purchases, there is typically no flow of even financial resources into the issuing country. [FN109] The debtor state receives funds only on issuance of the bonds, at a single time. In general, secondary-market purchases by bondholders lack a territorial link with the host country. For that reason, they are highly unlikely to contribute to the host country's development.
[FNa1]. Dr. iur. candidate, Universität Wien (Austria), and LL.M. candidate, Harvard Law School. I gratefully acknowledge generous financial support by the Austrian Academy of Sciences under its DOC scholarship program. Thomas Laryea sparked my interest in this topic and provided invaluable advice from start to finish. Damien Eastman and August Reinisch, my thesis adviser, gave extensive comments on earlier drafts. I owe thanks to David Berry, Charles Blitzer, Juan Pablo Bohoslavsky, William Burke-White, Marcos Chamon, Mark Cymrot, Anna Gelpern, Christopher Greenwood, Darshini Manraj, Alexis Martinez, Michael McMahon, Paul Oberhammer, Christoph Paulus, Maurizio Ragazzi, Stephan Schill, Brad Setser, David Skeel, Edwin Truman, Guglielmo Verdirame, Gottfried Waibel, Yeon-Jue Yoo, and Jeromin Zettelmeyer. I further thank Eric Robert for assistance in locating sources. Earlier versions of this article were presented at Cambridge University, the International Monetary Fund, and the Universität Zürich. The London School of Economics and the Lauterpacht Centre for International Law were stimulating environments to complete this article.
[FN1]. The discussion is relevant not only for sovereign bonds, but also, more generally, for debt instruments and financial transactions. The recently registered "Italian Bondholder" arbitration, Beccara v. Argentine Republic, ICSID Case No. ARB/07/5 (registered Feb. 7, 2007), motivates the focus on ICSID. However, one should not discount that future bondholders could request arbitration under UNCITRAL rules if bonds incorporated such arbitration clauses.
Many of the ICSID decisions and awards discussed in this article are available at .
[FN2]. Earlier writers reached the contrary conclusion. See Peter Griffin & Ania Farren, How ICSID Can Protect Sovereign Bondholders, 24 INT'L FIN. L. REV. 21 (2005); Alexander Szodruch, State Insolvency--Consequences and Obligations Under Investment Treaties, in THE INTERNATIONAL CONVENTION FOR THE SETTLEMENT OF INVESTMENT DISPUTES (ICSID): TAKING STOCK AFTER 40 YEARS 141 (Rainer Hofmann & Christian Tams eds., 2007); Thomas W. Wälde, The Serbian Loans Case: A Precedent for Investment Treaty Protection of Foreign Debt? in INTERNATIONAL INVESTMENT LAW AND ARBITRATION: LEADING CASES FROM THE ICSID, NAFTA, BILATERAL TREATIES AND CUSTOMARY INTERNATIONAL LAW 383 (Todd Weiler ed., 2005) [hereinafter LEADING CASES].
[FN3]. The term "sovereign bond" is abbreviated as "bond" in this article when there is no risk of confusion. For a fascinating account of the long history of sovereign bonds, see NIALL FERGUSON, THE CASH NEXUS: MONEY AND POWER IN THE MODERN WORLD, 1700-2000 (2001).
[FN4]. This figure excludes domestic debt (owed to nationals). In 2005, the stock of international debt securities amounted to more than U.S.$15.3 trillion, International Monetary Fund, Coordinated Portfolio Investment Survey 2005, tbl. 12.2, at . Added to this amount is at least U.S.$14.19 trillion owed to commercial banks, BIS Q. REV., June 2006, statistical annex, tbl. 9A. Derivatives are not included in these figures.
[FN5]. In 2006, U.S. GDP was $U.S.13.19 trillion. U.S. Bureau of Economic Analysis, National Economic Accounts, at . The U.S. share of world GDP is about 28 percent (in current U.S. dollars). The implied average external-debt/GDP ratio across countries is about 50 percent.
[FN6]. Estimates of the numbers of sovereign defaults vary, but without doubt their incidence is high. ANDREW G. HALDANE, FIXING FINANCIAL CRISES IN THE TWENTY-FIRST CENTURY (2004), documents about 200 defaults since 1830. Carmen M. Reinhart & Kenneth S. Rogoff, Serial Default and the "Paradox" of Rich-to-Poor Capital Flows, AM. ECON. REV. (PAPERS & PROC.), May 2004, at 53, finds 125 defaults for a sample of twenty-three countries over the last five centuries.
[FN7]. ANDREAS F. LOWENFELD, INTERNATIONAL ECONOMIC LAW 566-616 (2002), surveys sovereign debt crises in the 1980s and 1990s. FEDERICO STURZENEGGER & JEROMIN ZETTELMEYER, DEBT DEFAULTS AND LESSONS FROM A DECADE OF CRISES (2006), provides insight into the crises during 1998-2005.
[FN8]. Initiated in 1996, the HIPC Initiative, modified as the Enhanced HIPC Initiative in 1999, has so far provided U.S.$19 billion in debt relief. WORLD BANK AND INDEPENDENT EVALUATION GROUP, DEBT RELIEF FOR THE POOREST: AN EVALUATION UPDATE OF THE HIPC INITIATIVE (2006), at , provides an excellent overview. Private creditors do not consistently provide debt relief on par with the official sector. Id. at 14. A recent example is an English judgment against Zambia. Donegal Int'l Ltd. v. Republic of Zambia, [2007] EWHC (Comm) 197.
[FN9]. STURZENEGGER & ZETTELMEYER, supra note 7, at 3, defines debt restructurings as "changes in the originally envisaged debt service payments, either after a default or under the threat of default."
[FN10]. A country experiencing payment difficulties offers new bonds in exchange for old debt instruments. Bank loans are typically rescheduled through the Bank Advisory Committee, or London Club, process--which unites a number of syndicate banks to conduct collective restructuring negotiations with the borrowing country. The Paris Club, an informal organization of major creditor governments, restructures official debt. LEX RIEFFEL, RESTRUCTURING SOVEREIGN DEBT: THE CASE FOR AD HOC MACHINERY (2003), has a detailed overview.
[FN11]. In 2001, the International Monetary Fund proposed a new sovereign debt restructurings mechanism (SDRM), ANNE O. KRUEGER, A NEW APPROACH TO SOVEREIGN DEBT RESTRUCTURING (2002), but the proposal failed to garner sufficient support. Sovereign bankruptcy proposals have had currency in the academic literature for over two hundred years. GIULIO DIENA, IL FALLIMENTO DEGLI STATI E IL DIRITTO INTERNAZIONALE (1898), is an early noteworthy contribution; Kenneth Rogoff & Jeromin Zettelmeyer, Bankruptcy Procedures for Sovereigns: A History of Ideas, 1976-2001, 49 IMF STAFF PAPERS 470 (2002), surveys a wide range of proposals.
[FN12]. Creditors who take part in the restructuring are referred to as participating creditors, and the others as non-participating, or holdout, creditors.
[FN13]. In Republic of Argentina v. Weltover, Inc., 504 U.S. 607 (1992), the U.S. Supreme Court held that the issuance of sovereign bonds was "commercial activity" under the Foreign Sovereign Immunities Act of 1976. Even a suspension of payments for the purposes of stabilizing Argentina's economy was "commercial activity," as this governmental measure was connected to the issuance of the bonds. In Borri v. Argentina, the Italian Supreme Court recently reached the opposite conclusion. The Court found that a default amounted to a sovereign act and was thus covered by immunity. Cass., sez. un., 27 May 2005, n.11225, 88 RIVISTA DI DIRITTO INTERNAZIONALE 856 (2005); see Annamaria Viterbo, Sull'immunità dalla giurisdizione della Repubblica Argentina nel caso dei cd. Tangobond--Nota a Cass. Sezioni Unite n. 11225/2005, in 2005 RESPONSABILITA CIVILE E PREVIDENZA 1025 (2005).
[FN14]. The International Monetary Fund originally favored the treaty-based SDRM to deal with unsustainable debt burdens, KRUEGER, supra note 11. For a good overview and examples of collective action clauses, see International Monetary Fund, The Design and Effectiveness of Collective Action Clauses (2002), at . The original impetus came from an influential Group of Ten report, The Resolution of Sovereign Liquidity Crises: A Report to the Ministers and Governors Prepared Under the Auspices of the Deputies (1996), at , followed by the group's recommendation for implementation in the Report of the G10 Working Group on Contractual Clauses (2002), at .
[FN15]. On the collective action problem arising in sovereign debt crises, see Sean Hagan, Designing a Legal Framework to Restructure Sovereign Debt, 36 GEO. J. INT'L L. 299 (2005).
[FN16]. The 2005 bond exchange was preceded by a voluntary "megaswap" in 2001, a domestic restructuring in November 2001, and the March 2002 conversion of all dollar liabilities into pesos. STURZENEGGER & ZETTELMEYER, supra note 7, at 165-201, provides a detailed overview of Argentina's default and its aftermath. For details, see Prospectus Supplement (of Jan. 10, 2005, to Prospectus [of the Republic of Argentina] dated Dec. 27, 2004), Reg. No. 333- 117111, at .
[FN17]. Incentives for participation included a GDP warrant that promised additional payment if Argentina's GDP grew above 3%; a buyback plan for performing debt (that is, debt instruments held by nonparticipating creditors); and a most-favored-creditor clause to protect those creditors who tendered against subsequent better treatment of holdout creditors. STURZENEGGER & ZETTELMEYER, supra note 7, at 188-96.
[FN18]. Law No. 26017, Feb. 10, 2005, at . The law was designed to reduce the incentives for holding out. Article 2 provides that the Argentine executive cannot reopen its exchange offer. Article 3 prohibits judicial or out-of-court settlement on the bonds. Article 4 calls upon the executive to delist the bonds in Argentina and abroad.
[FN19]. In Argentina's restructuring, participation was unusually low. Participation usually exceeds 90 percent.
[FN20]. Federico Sturzenegger & Jeromin Zettelmeyer, Haircuts: Estimating Investor Losses in Sovereign Debt Restructurings, 1998-2005 (IMF Working Paper No. 05/137, 2005) (presenting detailed estimates of haircuts of different bonds).
[FN21]. Nonparticipating bondholders initiated dozens of lawsuits in New York, and in excess of a hundred in Germany and Italian courts. STURZENEGGER & ZETTELMEYER, supra note 7, at 201.
[FN22]. Allied Bank Int'l v. Banco Credito Agricola de Cartago, 757 F.2d 516 (2d Cir. 1985) (finding in favor of a holdout bank after a rehearing where the U.S. government intervened as amicus curiae); see Pravin Bankers Assocs., Ltd. v. Banco Popular del Peru, 109 F.3d 850, 854 (2d Cir. 1997); Elliott Associates, L.P. v. Banco de la Nacion, 12 F.Supp.2d 328 (S.D.N.Y. 1998). For Germany, see, for example, Amtsgericht Frankfurt am Main, 32 C 1511/02, May 6, 2003, at (see comment by August Reinisch, Wirksamkeit eines Arrestbefehls gegen den Staat Argentinien, 58 JURISTENZEITUNG 1013 (2003)).
[FN23]. For a brief introduction to ICSID arbitration, see LUCY REED, JAN PAULSSON, & NIGEL BLACKABY, GUIDE TO ICSID ARBITRATION 107-09 (2004).
[FN24]. See supra note 1; Task Force Argentina Press Release, Bond argentini: Tfa, depositato all'Icsid il ricorso per oltre 170.000 risparmiatori (Sept. 18, 2006), at ; Bonistas italianos recurren ante el Ciadi, LA NACION (Arg.), Sept. 18, 2006, available at ; Benedict Mander, New Tack on Argentina Debt: Italian Retail Investors Are Making a Compensation Case to the World Bank, FIN. TIMES, Sept. 29, 2006, at 43. In March 2007, a second group of Italian bondholders requested ICSID arbitration. See Alemanni v. Argentine Republic, ICSID Case No. ARB/07/8 (registered Mar. 27, 2007). U.S. bondholders might follow suit. The American Task Force Argentina is one vocal creditor group. See Hal S. Scott, Sovereign Debt Default: Cry for the United States, Not Argentina (Washington Legal Foundation, Working Paper Series No. 140, 2006), at . After Russia's 1998 default, a bondholder committee initiated ICSID arbitration. The case was reportedly settled. See Wälde, supra note 2, at 402 n.44. Booker v. Guyana is a settled ICSID arbitration that involved a holdout creditor. Guyana had defaulted on promissory notes held by Booker, a British company with stakes in the Guyana sugar industry, in 1989 and attempted several times to settle the debt under the Paris Club. Booker argued that nationalization debts were covered neither by the Paris Club nor the HIPC Initiative. The case was settled in 2002, prior to a decision on jurisdiction. This settlement agreement is not public. Booker PLC v. Co-operative Republic of Guyana, ICSID Case No. ARB/01/9) (discontinuance of proceeding pursuant to Arbitration Rule 43(1) on October 11, 2003).
[FN25]. Such private organizations for coordinating bondholders have a long history. PAOLO MAURO, NATHAN SUSSMAN, & YISHAY YAFEH, EMERGING MARKETS AND FINANCIAL GLOBALIZATION: SOVEREIGN BOND SPREADS IN 1870-1913 AND TODAY 134-174 (2006), provides an excellent introduction.
[FN26]. Memorandum from Owen Pell to the Global Committee of Argentina Bondholders (Feb. 15, 2005) ("Recent Argentine Legislation and Bondholder Remedies"), at [hereinafter GCAB memorandum].
[FN27]. So far, every ICSID award has been paid. "At ICSID, there's never been a case in which a sovereign has failed to pay an award." Carolyn Kolker, When Nations Go Bust, 25 AM. LAW. 90, 92 (2003) (quoting Ko-Yung Tung, ICSID's secretary-general from 2000 to 2005). However, future willingness to pay could suffer insofar as ICSID awards are based on tenuous grounds.
[FN28]. See Convention on the Settlement of Investment Disputes Between States and Nationals of Other States, Mar. 18, 1965, Art. 54, 17 UST 1270, 575 UNTS 159 [hereinafter ICSID Convention].
[FN29]. Id., Art. 55.
[FN30]. JOHN BASSETT MOORE, HISTORY AND DIGEST OF THE INTERNATIONAL ARBITRATIONS TO WHICH THE UNITED STATES HAS BEEN A PARTY 3616 (1898) (quoting Du Pont de Nemours & Co. v. Mexico (1868)).
[FN31]. The term "debt instruments" refers to various borrowing transactions, including syndicated loans, sovereign bonds, treasury notes, promissory notes, and credit facilities.
[FN32]. The obstacles to such bundling--in particular, across nationalities--seem formidable. Bundling of bondholder claims is examined in more detail in part III, below.
[FN33]. One way in which this effect could operate is through reduced costs of enforcement.
[FN34]. Mar. 18, 1965, 17 UST 1270, 575 UNTS 159. For an excellent introduction, see REED ET AL., supra note 23, at 1-9.
[FN35]. See the ICSID Web site at . In the past, the World Bank had at times exercised good offices over investment disputes. LOWENFELD, supra note 7, at 456-61, provides a brief historical sketch of the Convention.
[FN36]. The Convention is "designed to facilitate the settlement of disputes between States and foreign investors," with a view to "stimulating a larger flow of private international capital into those countries which wish to attract it." Executive Directors of the International Bank for Reconstruction and Development, Report of the Executive Directors on the Convention on the Settlement of Investment Disputes Between States and Nationals of Other States, para. 9 (Mar. 18, 1965), at [hereinafter ICSID Report].
[FN37]. The investor and the host country select one each. The president is appointed jointly by the parties or, if they fail to agree, by the chairman of ICSID's Administrative Council.
[FN38]. The ICSID Convention provides only for an annulment procedure. Divergent interpretations by ICSID tribunals of factually similiar cases have stoked a debate whether to establish an ICSID appellate body along the lines of the World Trade Organization. ICSID Secretariat, Possible Improvements of the Framework for ICSID Arbitration, paras. 20-23 (Oct. 26, 2004), at ; CHRISTIAN J. TAMS, AN APPEALING OPTION? THE DEBATE ABOUT AN ICSID APPELLATE STRUCTURE (2006) (both envisaging a single mechanism for appeal). A good, recent example of how awards may diverge can be found in LG&E Energy Corp. v. Argentine Republic, ICSID Case No. ARB/02/1, Liability (Oct. 3, 2006), 46 ILM 40 (2007) (including an introductory note by August Reinisch), versus CMS Gas Transmission Co. v. Argentine Republic, Award, ICSID Case No. ARB/01/08, Award (May 12, 2005), 44 ILM 1205 (2005) [hereinafter CMS Award]. On the divergent approach to necessity in the two cases, see Stephan Schill, International Investment Law and the Host State's Power to Handle Economic Crises, 24 J. INT'L ARB. 211 (2007), and Michael Waibel, Two Worlds of Necessity in ICSID Arbitration: CMS vs. LG&E, 20 LEIDEN J. INT'L L. 637 (2007).
[FN39]. Over the last decades, the number of BITs exploded. Today, more than 2500 BITs are in force. For a detailed study, see RUDOLF DOLZER & MARGRETE STEVENS, BILATERAL INVESTMENT TREATIES (1995). REED ET AL., supra note 23, at 38-62, provides a good introduction to BITs.
[FN40]. These behavioral standards in BITs may or may not be higher than what customary international investment law requires. LOWENFELD, supra note 7, at 473-88, sets out typical substantive rules contained in BITs.
[FN41]. The host country is the country in whose territory an investment is made.
[FN42]. This type of arrangement is known as arbitration without privity, a term coined by Jan Paulsson, Arbitration Without Privity, 10 ICSID REV. 232-56 (1995); see also DOLZER & STEVENS, supra note 39, at 131-36; Walid Ben Hamida, L'arbitrage transnational unilateral (2003) (unpublished Ph.D. dissertation, Université Panthéon-Assas, Paris II) (on file with author).
[FN43]. Under the new investment treaty regime of the ICSID Convention, the investor-claimant may take the host country directly to arbitration, without the exercise of diplomatic protection.
[FN44]. These two sets of rules are among the most common in international commercial arbitration. The UNCITRAL Arbitration Rules were adopted April 28, 1976. The ICC Rules on Arbitration (last updated in 1998) allow for arbitration before the International Court of Arbitration in Paris and for ad hoc arbitration.
[FN45]. U.S., German, and Italian nationals are the largest groups of nonparticipating bondholders. These three BITs are consequently the most relevant for holdout arbitration against Argentina.
[FN46]. Christoph Schreuer, International and Domestic Law in Investment Disputes, 1 AUSTRIAN REV. INT'L & EUR. L. 89 (1996).
[FN47]. "[T]he widely accepted principle ... under general international law, [is that] a violation of a contract entered into by a State with an investor of another State, is not, by itself, a violation of international law." Société Générale de Surveillance S.A. v. Pakistan, ICSID Case No. ARB/01/13, Objections to Jurisdiction, para. 167 (Aug. 6, 2003) [hereinafter SGS-Pakistan Jurisdiction Decision], 18 ICSID REV. 301 (2003), 8 ICSID REP. 406 (2005), 42 ILM 1290 (2003).
[FN48]. See GCAB memorandum, supra note 26, at 3-4 (highlighting expropriation as a promising treatment standard). Countries in default often treat national and foreign creditors differently, which could give rise to claims based on national and most-favored-nation (MFN) treatment. See infra text accompanying notes 158-75.
[FN49]. Prior to the proliferation of BITs, in cases where the underlying contract itself gave consent to ICSID arbitration, the Convention's definition of investment was a less salient concern.
[FN50]. CHRISTOPH H. SCHREUER, THE ICSID CONVENTION: A COMMENTARY, paras. 80, 89 (2001). Since this conceptual decomposition is relevant only on the margin of subject matter jurisdiction, decisions on jurisdiction tend to gloss over these two steps. Joy Mining Machinery Ltd. v. Arab Republic of Egypt, Jurisdiction, ICSID Case No. ARB/03/11, paras. 43, 48, (Aug. 6, 2004) [hereinafter Joy Mining Jurisdiction Award], has an explicit decomposition into two steps. SGS Société Générale de Surveillance S.A. v. Republic of the Philippines, ICSID Case No. ARB/02/6, Objections to Jurisdiction, para. 154 (Jan. 29, 2004) [hereinafter SGS-Philippines Jurisdiction Award], further supports this position: "The jurisdiction of the Tribunal is determined by the combination of the BIT and the ICSID Convention." See also Mitchell v. Democratic Republic of Congo, ICSID Case No. ARB/99/7, Application for Annulment (Nov. 1, 2006), at [hereinafter Mitchell Annulment Application] ("the special and privileged arrangements established by the Washington Convention can be applied only to the type of investment which the Contracting States to that Convention envisaged" (para. 31), and "the Washington Convention has supremacy over an agreement between the parties or a BIT" (para. 25)); Malaysian Historical Salvors SDN, BHD v. Government of Malaysia, ICSID Case No. ARB/05/10, Jurisdiction, paras. 43, 54-55 (May 17, 2007) [hereinafter Historical Salvors Jurisdiction Award] (referring to the "double-barrelled test" for jurisdiction, the first leg of which is "the objective criterion of an 'investment"').
[FN51]. Aron Broches, The Convention on the Settlement of Investment Disputes Between States and Nationals of Other States, 132 RECUEIL DES COURS 330, 330 (1972 II) uses this term.
[FN52]. Id. at 351-52.
[FN53]. Antonio Parra, The Institutions of ICSID Arbitration Proceedings, 20 NEWS FROM ICSID 13 (2003), available at . Parra was deputy secretary-general of ICSID from 1999 to 2005 and on ICSID's staff for seventeen years.
[FN54]. A. Broches, The Convention on the Settlement of Investment Disputes: Some Observations on Jurisdiction, 5 COLUM. J. TRANSNAT'L L. 263, 268 (1966) (presenting the contrary view "that the requirement that the dispute must have arisen out of an 'investment' may be merged into the requirement of consent to jurisdiction").
[FN55]. Debentures, promissory notes, and certificates of indebtedness display similar features. Historically, a bond is a "document written and sealed containing a confession of a debt." FREDERICK POLLOCK & FREDERIC WILLIAM MAITLAND, THE HISTORY OF ENGLISH LAW BEFORE THE TIME OF EDWARD I, at 207 (1899). Borchard defines sovereign bonds as the "principal document containing the terms of the contractual relationship between the debtor government and the individual lender ... issued by the bank in accordance with the loan agreement or directly by the government pursuant to the loan prospectus. It evidences the promise by the borrower to pay the agreed interest on the loan, the principal at maturity, and to amortize the issue in a specified manner." EDWIN BORCHARD & WILLIAM H. WYNNE, STATE INSOLVENCY AND FOREIGN BONDHOLDERS 23 (1951).
[FN56]. 2 CONVENTION ON THE SETTLEMENT OF INVESTMENT DISPUTES BETWEEN STATES AND NATIONALS OF OTHER STATES: DOCUMENTS CONCERNING THE ORIGIN AND THE FORMULATION OF THE CONVENTION 59 (1968) [hereinafter ICSID HISTORY]. Delaume was an influential legal adviser at the World Bank and later ICSID. See also the justification for this definitional lacuna in ICSID Report, supra note 37, para. 27: "No attempt was made to define the term 'investment' given the essential requirements of consent by the parties ...." In discussing the legislative history, Schreuer notes that the preceding assertion is historically incorrect: "There were a number of attempts but they all failed." SCHREUER, supra note 50, para. 86. See generally id., paras. 81-88.
[FN57]. See Vienna Convention on the Law of Treaties, May 23, 1969, Art. 31, 1155 UNTS 331. The Oxford English Dictionary defines "investment" as "conversion of money or circulating capital into some species of property from which an income or profit is expected to be derived in the ordinary course of trade or business."
[FN58]. SCHREUER, supra note 50, para 85.
[FN59]. The evolution of, and disagreements concerning, the term "investment" in international law are surveyed by M. SORNARAJAH, THE INTERNATIONAL LAW ON FOREIGN INVESTMENT 9-18 (2004); see also id. at 304- 305.
[FN60]. The BIT definitions serve merely as illustrations. The meaning of "investment" under the multilateral ICSID Convention cannot be inferred from BITs.
[FN61]. Burundi emphasized that money lent by a foreign company to a state could not be regarded as an investment. 2 ICSID HISTORY, supra note 56, at 261. Austria submitted that "public loans or bonds should not be included." Id. at 709. The Australian delegate, by contrast, highlighted that the draft convention seemed to include not only cases where the investor acquired "tangible assets in the host country," but also "the borrowing of cash ... from foreign private investors." Id. at 474.
[FN62]. It is beyond the scope of this article to survey the numerous decisions by international courts and by mixed commissions on sovereign bonds. In an unpublished Ph.D. dissertation (Université de Gèneve, 2005), The Legal Practice of the Recovery of State External Debts, at 104-38 (on file with author), Gustavo Adolfo Olivares Marcos provides a representative survey of international awards and judgments on sovereign external debt. GERMAIN WATRIN, ESSAI DE CONSTRUCTION D'UN CONTENTIEUX INTERNATIONAL DES DETTES PUBLIQUES (1929) covers older case law. These decisions provide valuable insight into legal and policy considerations at stake in arbitrating sovereign bonds.
[FN63]. Fedax N.V. v. Republic of Venezuela, ICSID Case No. ARB/96/3, Objections to Jurisdiction, para. 29 (July 11, 1997), 5 ICSID REP. 186 (2002), 37 ILM 1378 (1998) [hereinafter Fedax Jurisdiction Decision].
[FN64]. Id., para 43. These are Schreuer's typical requirements of jurisdiction turned normative. See infra note 80 and accompanying text.
[FN65]. Fedax Jurisdiction Decision, supra note 63, para. 42.
[FN66]. Ceskoslovenska Obchodni Banka, A.S. v. Slovak Republic, Objections to Jurisdiction, ICSID Case No. ARB/97/4 (May 24, 1999), 14 ICSID REV., 251 (1999) [hereinafter CSOB Jurisdiction Decision]. See also CDC Group PLC v. Republic of the Seychelles, Award, ICSID Case No. ARB/02/14 (Dec. 17, 2003), where the Seychelles had guaranteed loans to a public utility corporation. The case was not based on a BIT, but on a specific arbitration agreement. The Seychelles accepted that the loan and the guarantee constituted an investment under Article 25.
[FN67]. OKO Pankki Oyj v. Republic of Estonia, ICSID Case No. ARB/04/6 (registered Feb. 20, 2004), and I & I Beheer B.V. v. Bolivarian Republic of Venezuela, ICSID Case No. ARB/05/4 (registered Apr. 6, 2005), are two pending ICSID cases on debt instruments. For a brief description of the former, which concerns a private loan, see Estonia Facing Foreign Banks' Euro 27.5 Million Claim, BALTIC BUS. DAILY, Jan. 4, 2006. For a description of the latter, which revolves around promissory notes issued by a Venezuelan agricultural development bank, see Daphne Eviatar, Oye Como Va: As Venezuelan President Hugo Chavez Takes on Multinationals, the Arbitration Lawyers Are Circling In, AM. LAWYER, Dec. 1, 2005, at 28. I & I Beheer concerns international debt instruments issued in Zurich under Swiss law.
[FN68]. The Joy Mining Jurisdiction Award, supra note 50, para. 54, declined to qualify a bank guarantee tied to a contract for the provision of mining equipment as "investment." Likewise, the Historical Salvors Jurisdiction Award, supra note 50, paras. 107-46, reached the same conclusion regarding a salvage operation for Chinese porcelain off the Malaysian coast. In Mihaly Int'l Corp. v. Democratic Socialist Republic of Sri Lanka, ICSID Case No. ARB/00/2, Award (Mar. 15, 2002), 41 ILM 867 (2002), the tribunal found that preparatory expenses in the absence of a binding investment contract did not amount to an investment. The ad hoc committee's decision in the Michell Annulment Application, supra note 50, was the first time that an ICSID award was set aside for (among other reasons) want of an investment. In 1985, the ICSID secretariat declined registration of a claim arising out of a contract for the sale of goods in the Asian Express v. Greater Colombo Economic Commission case. See Ibrahim F. I. Shihata & Antonio R. Parra, The Experience of the International Centre for Settlement of Investment Disputes, 14 ICSID REV. 299, 308 (1999).
[FN69]. This restriction is perhaps implicit in the Fedax Jurisdiction Decision, supra note 63, para. 29, when the tribunal noted that sovereign bonds would qualify as "investment," but only in "given circumstances."
[FN70]. The nature of the transaction does not change simply because enforcing municipal judgments against a state might prove more difficult than against a private party.
[FN71]. In the secondary market for sovereign debt, loans and bonds are exchanged between buyer and seller, often at substantial discounts from their face value. These discounts reflect the likelihood of eventual repayment. The rise of secondary markets since 1980 has provided incentives to buy below par and pursue litigation for full principal and interest. For an overview of secondary markets and their development, see Philip J. Power, Sovereign Debt: The Rise of the Secondary Market and Its Implications for Future Restructurings, 64 FORDHAM L. REV. 2701, 2715-19 (1996).
[FN72]. The Fedax Jurisdiction Decision, supra note 63, para. 40, acknowledges as much: "[T]he identity of the investor will change with every endorsement."
[FN73]. Georges R. Delaume, ICSID and the Transnational Financial Community, 1 ICSID REV. 237, 242 (1986) (footnote omitted). The first draft defined "investment" as "any contribution of money or other asset of economic value for an indefinite period or, if the period is defined, for not less than five years."
[FN74]. Christoph Schreuer, Commentary on the ICSID Convention: Article 25, 11 ICSID REV. 318, 372 (1996). Schreuer is widely regarded as one of the world's foremost authorities on international investment law. His 2001 commentary on the ICSID Convention, supra note 50, is the standard reference work on ICSID.
[FN75]. It is unclear whether Schreuer thereby merely noted the evolution of ICSID case law or approves of ICSID jurisdiction over debt instruments.
[FN76]. To what extent portfolio investment is included in Article 25's notion of investment is controversial. Sacerdoti notes that "[p]ortfolio investment[s] ... are ... not excluded as a rule." Giorgio Sacerdoti, Bilateral Treaties and Multilateral Instruments on Investment Protection, 269 RECUEIL DES COURS 251, 307 (1997).
[FN77]. In this sense, "the term 'investment' has an objective meaning independent of the parties' disposition." SCHREUER, supra note 50, para. 90. The most comprehensive discussion of the investment requirement as an objective condition is found in the Historical Salvors Jurisdiction Award, supra note 50, paras. 42-146.
[FN78]. Typical elements aim to increase legal certainty. See Consorzio Groupement L.E.S.I.--DIPENTA v. People's Democratic Republic of Algeria, ICSID Case No. ARB/03/8, Award, para. 72 (Jan. 10, 2005) [hereinafter L.E.S.I.-- DIPENTA Award].
[FN79]. The Historical Salvors Jurisdiction Award, supra note 50, referred to the "typical characteristics," versus "jurisdictional," approach, paras. 69- 72, while questioning whether the two approaches differ significantly in practice, paras. 105-06. One qualification applies. There are no general limits on how treaties may define "investment." In bilateral relationships, parties are free to define terms as they see fit. UNCITRAL tribunals, for instance, derive their jurisdiction solely from the agreement to arbitrate. ICSID's Additional Facility also does not require an investment dispute. See SCHREUER, supra note 50, paras. 10-14.
[FN80]. Id., para. 122. The leading case is Salini Costruttori S.p.A. v. Kingdom of Morocco, ICSID Case No. ARB/00/4, Jurisdiction (Juy 23, 2001), 6 ICSID REP. 400 (2004), 42 ILM 609 (2003). The Joy Mining Jurisdiction Award, supra note 50, para. 50, also mentions Article 25's objective requirements. The award in Consortium Groupement L.E.S.I.--DIPENTA, para. 72, dispenses with elements regulatory of profit and return and positive impact on development, and alters the feature of substantial contribution in a key respect. See infra text accompanying note 88.
[FN81]. Of Schreuer's five typical elements, only duration, significance for the host state's development, and risk sharing are discussed. Regularity of profit and return is unlikely to be contentious for sovereign bonds. The requirement of a substantial contribution might be material for retail bondholders.
[FN82]. SCHREUER, supra note 50, para. 122. See the Historical Salvors Jurisdiction Award, supra note 50, where the tribunal found that the salvage operation lacked the necessary developmental impact, paras. 113-43, and referred to this typical element as the "litmus test," para. 135.
[FN83]. The general rules of treaty interpretation can be found in Article 31 of the Vienna Convention, supra note 57. See Camuzzi International S.A. v. Argentine Republic, ICSID Case No. ARB/03/2, Objections to Jurisdiction, para. 133 (May 11, 2005). A teleological approach to interpreting "investment" can be found in the Historical Salvors Jurisdiction Award, supra note 50, paras. 65-68.
[FN84]. CSOB Jurisdiction Decision, supra note 66, para. 88. See Salini Costruttori, where the tribunal emphasized that the construction of a highway was clearly of public interest and therefore had a positive impact on Morocco's development.
[FN85]. Fedax Jurisdiction Decision, supra note 63, para. 42.
[FN86]. To avoid asymmetrical treatment of host state and investor, the actual, present impact in the host country arguably needs to be given equal weight, reflecting the twofold objective of the ICSID Convention: first, to increase investor protection, and second, to ensure that investments perform an essential economic and social service in developing countries.
[FN87]. This emphasis would mirror what Dolzer calls a "remarkable tendency to shift the focus of the analysis away from the context and the purpose and focus more heavily on the effects on the owner." Rudolf Dolzer, Indirect Expropriations: New Developments? 11 N.Y.U. ENVTL L.J. 64, 91. The ad hoc committee in the Michell Annulment Application, supra note 50, relied heavily on the positive-impact criterion to deny the presence of an investment. The tribunal's reasoning is ultimately unsatisfactory, however, in that it defeats the very purpose of providing legal certainty (see, in particular, the ambiguous reasoning in paragraph 33).
[FN88]. L.E.S.I.--DIPENTA Award, supra note 78, para. 72(iv).
[FN89]. The Convention's first draft, albeit inconclusive, might offer a starting point "for not less than five years." See Delaume, supra note 73, at 242.
[FN90]. Fedax Jurisdiction Decision, supra note 63, paras. 42-43.
[FN91]. Joy Mining Jurisdiction Award, supra note 50, para. 57.
[FN92]. The counterargument may be advanced that despite the purchase on the secondary market, the country did receive the original financing. The sovereign bond issuance as a whole could satisfy the typical feature of a long-term commitment.
[FN93]. Many governments today issue dematerialized global bonds that involve a single debt instrument issued to a financial intermediary (depository), which records bondholder interests in a book-entry system.
[FN94]. A separate question concerns that of standing before ICSID. So far, no ICSID award has clarified whether only "investors" enjoy standing. Under the Convention, the term "investor" has no specific meaning. Article 25 contains only a reference to "national of a Contracting State." BITs, by contrast, often limit consent to "investors."
[FN95]. The Fedax Jurisdiction Decision, supra note 63, appears to lean in the direction that separate qualification of secondary market transactions as "investments" is not necessary.
[FN96]. Olguín v. Republic of Paraguay, ICSID Case No. ARB/98/5, Award, para. 65 (July 26, 2001), 18 ICSID REV. 160 (2003) [hereinafter Olguín Award].
[FN97]. Fedax Jurisdiction Decision, supra note 63, paras. 38, 40 (noting "the investment itself will remain constant, while the issuer will enjoy a continuous credit benefit until the time the notes become due").
[FN98]. Saluka Investments B.V. v. Czech Republic, Partial Award (UNCITRAL Arb. Trib. Mar. 17, 2006), at [hereinafter Saluka Partial Award].
[FN99]. Id., para. 209.
[FN100]. A thirty-year government bond held from issuance to maturity will fufill the long-term transfer criterion.
[FN101]. For discussion see infra part IV.
[FN102]. Fedax Jurisdiction Decision, supra note 63, para. 40. Against such a broad conception of risk, see Historical Salvors Jurisdiction Award, supra note 50, para. 112, in which the tribunal noted that the "quality of the assumed risk" mattered.
[FN103]. Joy Mining Jurisdiction Award, supra note 50, para. 57.
[FN104]. There is a distinction between the territorial link in Article 25 and in BITs--another emanation of the double review. Whether a BIT requires a territorial link to the host country is separate from whether investments under Article 25 are typically limited to those investments "in the territory of the host state." The territorial requirement of BITs is examined below in the text accompanying notes 123-28.
[FN105]. The ICSID Report, supra note 36, paras. 9, 12 (emphasis added), explains that the creation of ICSID was "designed to facilitate the settlement of disputes between States and foreign investors" with a view to "stimulating a larger flow of private international capital into those countries which wish to attract it" and to "stimulate a larger flow of private international investment into territories."
[FN106]. CSOB Jurisdiction Decision, supra note 66, para. 88 (emphasis added).
[FN107]. L.E.S.I.--DIPENTA Award, supra note 78, pt. II.2, para. 13(iv)(a): "[Q]ue le contractant ait effectué un apport dans le pays concerné" ([that] the contracting party has made contributions in the host country) (ICSID's unofficial English translation). A positive impact on development will often be implicit in substantial contribution, duration, and risk sharing, see supra text accompanying note 88.
[FN108]. L.E.S.I.--DIPENTA Award, supra note 78, para. 14(i) (unofficial ICSID translation). The original French reads:
De même est-il fréquent que ces investissements soient effectués dans le pays concerné, mais il ne s'agit pas non plus d'une condition absolue. Rien n'empêche en effet que des investissements soient en partie du moins engagés depuis le pays de résidence du contractant mais en vue et dans le cadre du projet à réaliser à l'étranger.
[FN109]. If the the seller of the bonds held a bank account in the issuing country, this statement would need to be qualified.
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