Academic journal article Business Law International

Overview of Umbrella Clauses

Academic journal article Business Law International

Overview of Umbrella Clauses

Article excerpt

According to a well-established rule of customary international law, a violation of a contract entered into with a foreign investor by a host state does not give rise per se to international responsibility on the part of the state.

This principle derives from the clear distinction between municipal law, on the one hand, and international law, on the other, which are two separate legal systems, each of which has its own rules, so that what is considered to be a violation in the first legal system may not necessarily be treated the same way in the second one, and vice versa.

In this regard, violation of a contract would give rise to international responsibility on the part of a host state, exclusively in striking cases, such as denial of justice, expropriation without compensation or arbitrary treatment, where the fact that has caused the breach in the municipal legal system similarly constitutes, for its seriousness, a breach in international law.

As a remedy in such cases, foreign investors may have recourse to diplomatic protection, which, in truth, has rarely been effective, as its exercise remains at the full discretion of states.

In order to enforce stronger standards of protection in favour of foreign investors, since the 1950s, so-called 'umbrella clauses' have been inserted into bilateral investment treaties (BITs) .

By means of these clauses, each state negotiating such a treaty undertakes an additional duty to 'observe any obligation it has assumed with regard to specific investments in its territory by investors of the other Contracting Party'.1

Until recently, issues relating to umbrella clauses have been discussed exclusively by academics. The very first case examined by an international tribunal addressing an umbrella clause arose in 1998 between Fedax NV ? Republic oj "Venezuela,2 where the tribunal, completely unaware of its effects, gave no particular attention to the clause.3

Further, in the period 2003-2004, there were the SGS Société Générale de Surveillance SA ? Pakistan4 and SGS Soaété Générale de Surveillance SA ? Republic of the Philippines' decisions, where the two tribunals, after relying on a thorough examination of such clauses, came to opposite conclusions.

Since then, issues relating to umbrella clauses have turned into some of the most contentious in the field of international investment law.6 In particular, under debate were and still are the following issues:

1 . operativeness of such clauses: some authors seem to confuse umbrella clauses with choice of law clauses, while, as will be explained below, umbrella clauses are 'mirror effect clauses';

2. interpretation of the clauses: though contested by academics and by a minor element of jurisprudence, the majority of jurisprudence supports a narrow interpretation of umbrella clauses. This approach deprives umbrella clauses of any practical effect;

3. allocation of jurisdiction: jurisprudence still adheres to the distinction between treaty claims and contract claims envisaged in the Vivendi Annulment decision, so reducing the jurisdictional effect of umbrella clauses, which, on the contrary, should not be overlooked.

The purpose of this article is therefore to carry out an examination of the most important decisions issued by arbitral tribunals, in order to highlight how jurisprudence has dealt with the above points.

However, such an examination will not be merely descriptive, but also aims to establish some milestones among the uncertainties that surround the matter of umbrella clauses.

Effects of umbrella clauses

Prima facie, a clause inserted into a BIT by which both parties make a commitment to each other to observe any obligation assumed with regard to specific investments may appear superfluous, as each party, by entering into an investment agreement, is already obliged to respect the obligations contained in the same.7

On the contrary, academics and part of the jurisprudence have attributed very relevant effects to umbrella clauses. …

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