What to do with the Energy Charter Treaty?

July 2023 | EXPERT BRIEFING | SECTOR ANALYSIS

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The origins of the Energy Charter Treaty (ECT) date back to the end of the Cold War and the opening of Eastern and Central Europe.

Russia and the former Soviet states were in need of foreign investment to ensure the development of their economies, while Western European countries sought to reinforce supply stability and reduce the sources of energy from their traditional suppliers in the Middle East. The two blocs started getting closer and investigating options for energy cooperation.

In this new climate, Ruud Lubbers, the then Dutch prime minister, launched the idea of a pan-European energy community at a meeting of the European Council in Dublin in 1990 (Lubbers Plan). In order to implement the Lubbers Plan, Jacques Delors, president of the European Commission (EC) at that time, developed the idea of an Energy European Charter (Charter). After one year of intense negotiations, the Charter was signed on 17 December 1991 in The Hague by 48 countries, including all Organisation for Economic Co-operation and Development (OECD) member states – except Mexico and New Zealand – and the European Communities.

Despite the important role of the Charter, delegations soon realised that its political nature, with no legally binding effect on members states, produced only limited effects and could not fulfil the expectations of member states. In order to establish an appropriate legal framework and achieve the important goals set out in the Charter, member states began negotiating the EC in 1992.

After less than three years of uneasy negotiations, the ECT and its Protocol on Energy Efficiency and Related Environmental Aspects (PEEREA) were finalised and signed in Lisbon in December 1994. The ECT entered into force in 1998. Its provisions focus on five broad areas: (i) the promotion and protection of foreign energy investments; (ii) free trade in energy materials; (iii) energy transit; (iv) environmental aspects and improvement of energy efficiency; and (v) mechanisms for the resolution of state-state disputes and investor-state disputes.

The section on promotion and investment protection (part III) includes provisions that are typical of bilateral investment treaties, such as fair and equitable treatment, full protection and security, and non-discrimination (article 10), compensation for losses (article 12), and expropriation (article 13).

In relation investor-state disputes, article 26 of the ECT provides that such disputes can be submitted to the national courts of the member state party to the dispute or to an arbitral tribunal constituted under International Centre for Settlement of Investment Disputes (ICSID), United Nations Commission on International Trade Law (UNCITRAL) or Stockholm Chamber of Commerce (SCC) rules. As indicated on the ECT’s website, as of 1 June 2022, around 150 investor-state cases were initiated under the ECT, testifying to the fact that the treaty has been widely applied to solve investment-related disputes in the energy sector.

The need to modernise the ECT

In 2017, 19 years after the entry into force of the ECT, member states began discussing the potential modernisation of the treaty. The main purpose of this modernisation was to reform article 26 and to incentivise the clean energy transition of member states by permitting them to implement regulatory and legislative initiatives that may have an impact on the investments protected by the treaty.

Fifteen rounds of negotiations followed from 2020 to June 2022, when members states seemed to have reached an agreement in principle on modernising the ECT in line with the international standards and goals on the clean energy transition. Modernisation was meant to cover three main pillars.

Under the first pillar “updated list of energy materials and products”, new materials should be introduced and covered by the ECT’s investment provisions, such as hydrogen, anhydrous ammonia, biomass, biogas and synthetic fuels. Pursuant to the second pillar, a novel “flexibility mechanism” would allow member states to exclude the ECT protection from investments involving fossil fuels. The third pillar refers to a review mechanism according to which the first two pillars would be reviewed every five years to follow environmental developments.

Interestingly, member states also agreed in principle that certain provisions of the ECT’s investment section would benefit from further clarity and that a new article should be included on the states’ right to regulate: “[f]or legal certainty... to reaffirm the Contracting Parties’ right... vis-a-vis Investments in the interest of legitimate public policy objectives”, such as “protection of the environment, including climate change mitigation and adaption, protection of public health, safety or public morals”.

The beginning of the end?

The successful start to negotiations gave hope to the modernisation process. The new treaty text was scheduled to be voted on 22 November 2022, during the 33rd Meeting of the Energy Charter Conference. Such hope did not, however, did not come to fruition.

Indeed, in the weeks prior to the meeting, several European Union (EU) member states, including France, Germany, Spain, the Netherlands and Poland, announced their intention to withdraw from the ECT. As a consequence, the EU was unable to reach a common position on the modernisation process and requested postponement of the discussions. In light of the weight of the EU and its members states (especially those withdrawing from the treaty) in the discussions, negotiations on modernising the treaty were deadlocked.

The official position of EU institutions on this sudden reversal is that the modernised draft ECT remains an outdated instrument unaligned with the objectives of the Paris Agreement, the EU Climate Law and the European Green Deal. Other reasons, however, may have led the EU to discontinue ECT negotiations.

First, in its communication of 5 October 2022, the EC stated that “[t]he EU and its Member States have always considered that the ECT in its entirety does not apply intra-EU” and that such principle has been established by the Court of Justice of the European Union (in the famous Komstroy judgment) which confirmed “in a binding and authoritative manner that intra-EU arbitration under Article 26 of the ECT is incompatible with the EU Treaties”.

Thus, the main problem for the EU seems to be that the ECT’s investment and dispute resolution provisions have been invoked by investors of EU members states against other EU members states which, according to the EU, does not reflect either its intentions or those of its member states.

Second, the EU and some of its member states have started worrying about the effects the sunset clause under article 47(3) of the ECT would trigger in the event of a withdrawal from the treaty. Indeed, this provision states that, when a contracting state withdraws from the ECT, its provisions shall continue to apply to (and protect) investments for a period of 20 years after the withdrawal date.

As such, in order to avoid application of the ECT to intra-EU disputes, the EC first submitted to the European Parliament and the Council a draft inter se agreement between member states, the EU and the European Atomic Energy Committee (Euratom) on the interpretation of the ECT. Article 2 of the draft provides that “the ECT does not apply, and has never applied to intra-EU relations” and “Article 47(3) ECT does not apply, and has never applied, to intra-EU relations”.

Then, the EU Parliament passed a resolution calling on EC and EU member states to start “preparing a coordinated exit from the ECT and an agreement excluding the application of the sunset clause between willing contracting parties”. Finally, in February 2023, a non-paper likely drafted by EC officials was leaked on the web. The non-paper suggests three option to overcome the issues encountered by the EU and its member states regarding application of the ECT: (i) coordinated withdrawal of the EU, Euratom and EU member states from the ECT, (ii) withdrawal of the EU and Euratom with prior authorisation for some member states to remain party to a modernised ECT; and (iii) a decision by the EC allowing adoption of the modernised ECT followed by the coordinated withdrawal of the EU, Euratom and EU member states.

Conclusion

Negotiations on modernising the ECT remain deadlocked. The EU’s strategy is based on two pillars. First, to conclude an agreement among its member states confirming that the ECT and its sunset clause do not and have never applied to intra-EU relations. And second, to coordinate withdrawal of EU member states from the ECT. At present, the EU’s position has yet to be clarified but this should not be long in coming. However, we can already draw some conclusions, as outlined below.

First, if the EU’s intention to withdraw from the ECT is confirmed, the treaty will lose its political and economic value.

Second, some EU member states have not expressed their position in relation to the proposals made by the EC and EU Parliament on the coordinated withdrawal and the inter se agreement.

Third, under a public international law perspective, the question is whether the EU’s inter se agreement and the coordinated withdrawal from the ECT will effectively eliminate the consequences of the sunset clause in intra-EU relations. This is even more valid considering that the sunset clause was not included in the very first drafts of the ECT and that it is precisely the EU (then the European Community), together with the US, that suggested adding this provision during the negotiations, without specifying any limitations to its scope.

Fourth, not all contracting parties to the ECT are EU member states. This means that, even if EU member states are capable of concluding the inter se agreement and undertake a coordinated withdrawal from the ECT, thus creating a sort of neutral area where the Treaty’s provisions (including the sunset clause) would no longer apply, such provisions would still be in force vis-a-vis third countries. As the non-paper of the EC itself acknowledges, to limit the application of the ECT to third countries, “it would be necessary to conclude another inter se agreement with willing non-EU Contracting Parties... This appears however challenging given the current position of non-EU Contracting Parties on the ECT as a whole and their possible business interests currently covered by the ECT. For the time being, no non-EU Contracting Party has indicated they would be open to such a solution”.

Lastly, the EU position may appear, at present, contradictory to its own goals. Indeed, while negotiations toward a modernised ECT that incorporates more environmental-friendly provisions are delayed or suspended, the old ECT still applies, and continues to protect those fossil fuel investments that the EU is trying to reduce.

Gabriele Ruscalla is a senior associate at Liedekerke. He can be contacted on +33 6 0983 6242 or by email: g.ruscalla@liedekerke.com.

Gabriele Ruscalla

Liedekerke