Cashing Out: Fourth in a series on the secretive system disrupting climate action and forcing big payouts to fossil fuel companies.

Before the sun set on his inauguration day, Joe Biden reversed a raft of his predecessor’s deregulation policies with the stroke of a pen. Among them was an order revoking the permit for the controversial Keystone XL oil pipeline. 

Canceling the project was a campaign pledge to address the climate crisis. But looming over that decision was the risk that an obscure but powerful international legal system could force the United States to pay billions of dollars to Keystone XL’s Canadian developer, TC Energy. 

That system—embedded in thousands of trade and investment treaties—allows corporations to drag governments before panels of arbitrators, usually behind closed doors. Governments have been ordered to pay billions of dollars in damages to oil and mining companies for violating those treaties. While the system was intended to protect foreign investors from unfair treatment or asset seizure, many environmental advocates, lawyers and politicians say it is now being used to win awards from governments that enact new environmental regulations or raise taxes on polluting industries.

Increasingly, these critics warn the system threatens climate action by punishing governments that phase out fossil fuels. 

The $15 billion claim TC Energy brought against the United States was one of the largest-ever in response to a climate policy. The company lost earlier this month, but the case was dismissed on a technicality and its outcome says nothing about other pending cases around the world.

Australia, Canada, Colombia and Slovenia are facing tens of billions of dollars in claims from companies for phasing out coal power plants, rejecting mining licenses or disallowing liquefied natural gas permits. In 2022, Italy was ordered to pay a British oil company roughly $200 million after offshore drilling restrictions upended the firm’s development plans. 

In other countries, the system set up for these claims—investor-state dispute settlement, or ISDS—has driven up costs of closing coal power plants, prevented governments from canceling oil and gas licenses or otherwise impeded efforts to reduce fossil fuel use, government ministers and researchers say. Companies even win awards despite leaving behind environmental contamination, violating human rights or breaking national laws.

The ISDS system is uniquely daunting for governments because arbitrators overseeing the cases can award compensation not just for real losses but also for unearned, expected future profits. It’s a key reason awards can balloon into the billions of dollars. 

Governments already face numerous practical and political obstacles as they attempt to move away from fossil fuels, said Canadian lawyer and professor Gus Van Harten, who has studied ISDS’s evolution for decades. “This system is providing an unwarranted and unexpected further minefield.” 

As Mary Robinson, former president of Ireland, put it in a speech this year: “I cannot overstate just how perverse this is.”

A lucky break on timing may be all that saved the U.S. from a multi-billion dollar loss.

And in an ironic turn, Keystone XL supporter Donald Trump delivered that break.

TC Energy’s case was based on part of the North American Free Trade Agreement. Like thousands of other trade and investment treaties, it included an ISDS section that provided special rights to foreign investors. The Trump administration largely removed ISDS from NAFTA’s successor treaty, arguing that it impinged on U.S. sovereignty and encouraged American companies to invest abroad.

Because the new agreement had already gone into effect by the time Biden revoked the permit, the arbitrators overseeing the case determined the claim was invalid, according to TC Energy. The ruling has not yet been released.

ISDS cases are heard by panels of three arbitrators. Generally, the parties each pick one and agree on the third. Those arbitrators are typically lawyers from corporate law firms, and their awards are not subject to appeal. They also do not have to follow precedent set in other rulings, leading to unpredictable and conflicting decisions that make it difficult for governments to know what acts might violate treaties.  

That means a separate NAFTA claim over Keystone XL, filed by the Alberta government after it invested in the project, could go the other way. Alberta is seeking at least $1 billion.

Dozens of Democrats in Congress have been calling on the Biden administration to strip ISDS from the nation’s other treaties.

U.S. Sen. Sheldon Whitehouse, D-RI, said in an email to Inside Climate News that he welcomed the decision in the Keystone XL case. Still, he said, “The existence of ISDS in trade agreements fuels a global race to the bottom on climate action and threatens the narrow pathway that remains to climate safety.”

TC Energy’s executive vice president and general counsel Patrick Keys said in a written statement that the company was “treated unfairly and inequitably in the revocation of the Permit” and that the company disagreed with the arbitrators’ ruling. 

Neither the U.S. State Department nor the White House responded to a request for comment.   

Developing nations can least afford ISDS awards—the typical amount jumped from $10 million to $40 million between 2013 and 2018—and the multimillion-dollar legal costs required to defend the cases. Some of those countries now face increasing debts and growing risk as they struggle to keep pace with climate-amplified storms and other natural disasters. Honduras is facing 11 claims, with the potential damages in just one of them equaling nearly 30 percent of its gross domestic product. The other claims are confidential.

Researchers estimating the value of oil and gas projects covered by ISDS treaties say they could cost governments as much as $340 billion—an amount that eclipses the roughly $660 million contributed to the United Nations’ loss and damage fund to compensate poor countries hit by climate change impacts. 

For the fossil fuel companies whose products are driving those impacts, ISDS has turned the warming planet from a financial threat into a new prospect for cash. Whether their projects stay in place or get phased out, they can still get paid. 

At least one law firm has advised its clients to take advantage of ISDS, saying, “Climate change litigation is often viewed by companies as a risk. However, it is also an opportunity.”

The Hidden Hitch in Fossil Fuel Phaseout 

Fossil fuel companies play an outsized role in ISDS, winning more in awards than any other sector. 

While few of those cases were prompted by climate policies, that is beginning to change. Two months after the British oil company won its case over the Italian offshore drilling ban, an American mining company sued Canada over the phaseout of coal power plants in Alberta. A separate U.S. company is seeking $20 billion from Canada over the rejection of a permit to build a liquified natural gas terminal in Quebec. The government had declined the permit because it would increase climate pollution.

Australia is facing a series of claims seeking more than $200 billion related to iron and coal mining projects. The owner of the company bringing those cases is Australian but has structured his investments through Singapore, allowing him to use a trade agreement to sue his own government.

Last year, the United Nations’ special rapporteur on human rights and the environment published a report on ISDS after visiting Slovenia. That country is facing a $500 million claim from a British oil company because the government restricted the contested drilling technique known as hydraulic fracturing. After studying the issue and soliciting input from governments, the special rapporteur concluded the system posed a “daunting obstacle” to tackling climate change.

In addition to the multi-billion dollar claims, the threat of arbitration hangs over governments like an insidious, intimidating weight, an effect known as “regulatory chill.”

When James Shaw was climate change minister of New Zealand, the country pushed progressive climate policies that included ending new offshore oil and gas exploration. The government stopped short of limiting development of fields where oil had already been discovered, however, because doing so would have exposed it to ISDS claims, Shaw said in an email to Inside Climate News.

“It’s really this huge barrier in terms of public policy and in terms of finances, particularly for developing countries.”

While he was in office, Shaw said, the country’s foreign affairs ministry would often push back on environmental policies, and “although they would rarely explicitly cite ISDS clauses, that was the implication.”

Academics and advocates say these cases are difficult to quantify because many factors influence government decisions and policymaking is so opaque. But they point to numerous anecdotes to argue the effect is widespread.

“It’s really this huge barrier in terms of public policy and in terms of finances, particularly for developing countries,” said Melissa Blue Sky, a senior attorney at the Center for International Environmental Law, which has campaigned to abolish the ISDS system. 

ISDS can increase the cost of phasing out fossil fuels even if no one files a claim. 

In 2020, Germany agreed to pay 4.35 billion Euros to utilities so they would retire coal plants. A report by Global Justice Now, a social justice advocacy group, suggested these payments likely exceeded the plants’ value. 

The point was to avoid even more expensive ISDS claims. Nevertheless, a Swiss investor in a German coal plant brought a case against the country last year. The details are confidential. The Netherlands was hit with two ISDS claims, later withdrawn, over its phaseout of coal power. 

And while recent claims related to climate policies have largely targeted wealthy nations, developing countries could be far more exposed. Coal power plants in Asian nations like Indonesia and Vietnam tend to be younger than in the United States and Europe, meaning that shutting them down would result in greater sunk costs and expected future earnings for investors. 

When researchers at Queen’s University in Canada and Boston University estimated the potential exposure to ISDS claims over oil and gas phaseout, they found that the top two countries were Mozambique and Guyana, facing up to $31 billion and $21 billion in potential claims, respectively. Those countries have new, multi-billion-dollar investments by ExxonMobil, France’s TotalEnergies and other multinational oil companies.

Some defenders of the system say the concerns it will limit climate action are overblown or misplaced.

“It’s not designed to be a policy instrument that promotes a particular type of investment,” said William Reinsch, who once led an industry association focused on international trade and is now a senior adviser at the Center for Strategic and International Studies, a Washington think tank partly funded by corporations. “Its intent is to protect the interest of the investor.”

Reinsch and colleagues wrote a recent analysis arguing ISDS could increasingly be used to protect clean energy investments—solar and wind developers have brought numerous cases—and that it would be better to reform the system than eliminate it. They and others argue that the independent forum ISDS offers for disputes encourages investment in developing countries, though there is limited evidence to support this claim. 

But even some defenders of ISDS argue the system, built on a commercial arbitration model that resolves disputes between private companies, is not equipped to deal with cases that center on critical public policy matters like climate change.

“These are issues which, by definition, will have an impact beyond the immediate disputing parties,” said Toby Landau, a British lawyer who works as an ISDS arbitrator and counsel and has called for reforming the system. “But the problem with the commercial arbitration mindset is you never think about anybody beyond the immediate parties.”

NAFTA: The World’s ‘Petri Dish’

While the first investment treaty with ISDS dates to 1969, it was NAFTA, lawyers say, that put the system on the map. Before negotiations for the trade agreement started in 1990, only one ISDS case had been filed. 

In 1996, two years after NAFTA went into effect, U.S. chemical company Ethyl hit Canada with a $200 million claim over an import ban on the gasoline additive MMT—outlawed by some U.S. states due to its suspected status as a neurotoxin. Canadian environmental regulators were shocked, said Howard Mann, who helped negotiate an addendum to NAFTA as part of Canada’s delegation. 

“Nobody outside the trade law people had any clue what was going on,” he said.

Mann and others who were involved in NAFTA’s formation said the agreement did little to protect the environment while establishing a strong process for corporations to sue governments.

But some senior negotiators were satisfied with that tradeoff. 

“We saw it as sort of a self-discipline tool,” said Hugo Perezcano, who was part of the Mexican delegation that negotiated NAFTA and who now works as an arbitrator. Perezcano said the Mexican government, which was in the process of privatizing the country’s state-driven economy, thought NAFTA and its investment clauses could help tie the hands of future Mexican governments that might be inclined to illiberal tendencies. They also hoped, Perezcano said, that it would provide stability for foreign investors to offset Mexico’s volatile legal system.

Before the end of the decade, companies had filed 10 ISDS cases under NAFTA, at least half of them over environmental issues. As the legal industry and transnational corporations saw the power of ISDS in those early cases, they came to view it as an essential part of investment agreements. As one commentator put it, NAFTA was “the petri dish in which today’s investment arbitration system formed.”

The Ethyl case eventually settled, but not in a manner favorable to Canadians: The government paid the company $13 million, repealed its ban on MMT and publicly apologized to Ethyl. 

When Election Results Cost Taxpayers

TC Energy argued in its claim that its pipeline should have been treated like others, but Keystone XL was different. From the start, it faced opposition from local environmental groups and farmers over its route through Nebraska’s Sandhills, a prairie ecosystem with fragile soils overlying the Ogallala aquifer, the nation’s largest underground water source. Some Native American tribes opposed the pipeline, too, because it would have crossed their territories and threatened their land and water. National environmental groups worried about the pipeline’s starting point, Alberta’s tar sands, one of the most-polluting sources of oil.

What emerged was the biggest campaign yet to block a fossil fuel project in the name of climate change. The tar sands were a “carbon bomb,” environmental activist Bill McKibben said at the time, and the Keystone XL pipeline was its “1,500-mile fuse.” The movement culminated with a campaign of civil disobedience and the arrests of hundreds of protesters outside the White House. President Barack Obama found the democratic movement impossible to ignore and rejected the permit in 2015. 

TC Energy’s predecessor, TransCanada, filed an initial ISDS claim over that decision. It agreed to dismiss the case when Trump approved its permit soon after taking office in 2017. The pipeline’s construction was largely tied up by litigation in U.S. state and federal courts, however, until Biden dealt the project its final blow in January 2021. 

TC Energy filed its second, $15 billion claim 11 months later, telling arbitrators it had been taken on a “regulatory roller coaster.” The company cast the shifts in climate policy between Republican and Democratic presidencies as unexpected. TC Energy claimed the United States had never before denied or revoked a permit for a cross-border pipeline, so the company had a legitimate expectation that the project would advance. 

That position stood in contrast to the company’s annual reports that detailed the risks of its investments, said Kyla Tienhaara, Canada research chair in economy and environment at Queen’s University.

“It comes up in a lot of ISDS cases, this idea that climate policy can’t be political, which basically means climate policy can’t be democratic.”

The argument also seemed inconsistent with TC Energy’s extensive lobbying of the U.S. government, Tienhaara said, on which it spent more than $14 million from 2008 to 2021, according to her research.

Why spend that money, Tienhaara said, if permit decisions aren’t inherently political?

“It comes up in a lot of ISDS cases, this idea that climate policy can’t be political, which basically means climate policy can’t be democratic,” Tienhaara said. “If it’s being influenced by corporations or industry groups and things like that, that’s fine. But it can’t be political in terms of responding to democratic pressure.”

‘If They Can Imagine This Nonsense, We Can Reimagine It’

ISDS’ evolution has made it one of the most powerful international legal tools, with arbitrators’ decisions enforceable in most countries around the world.

Recognizing this, the United States, Canada and European countries have begun limiting their exposure. At least eight European countries and the European Union have pulled out of the Energy Charter Treaty, which allows for ISDS claims. The Trump administration removed ISDS between the United States and Canada from NAFTA’s successor agreement, though the system remains in place between the United States and Mexico for certain sectors, including oil and gas—an outcome that industry pushed for. 

At the same time, those North American and European countries have remained committed to their ISDS treaties with developing countries. In those relationships, the investment flows move overwhelmingly in one direction, giving wealthy countries’ corporations the benefits of the treaties while leaving poor nations with the obligations.  

This has touched off a frenzy of criticism that spotlights the United States’ role in creating this behemoth. With NAFTA, the country helped make ISDS claims a common part of companies’ legal arsenals and then pushed for ISDS provisions in other investment and trade agreements. Its multinational corporations make frequent use of it. U.S. companies have filed at least 230 cases to date, more than investors from any other nation, according to United Nations data. 

Yet the United States has repudiated international laws on human rights, climate and Indigenous sovereignty, lawyers and advocates point out. 

The Ponca Nation is a case in point. Keystone XL would have cut through the nation’s traditional lands in Nebraska. The United States forced the tribe out of that territory 140 years ago and has violated all five of its treaties with the Ponca, according to Casey Camp-Horinek, a former Ponca Nation councilwoman and longtime activist. 

Today, the Ponca Tribe is located in a section of Oklahoma heavily polluted with oil and gas development.

What if instead of paying investors, Camp-Horinek wondered, money could be set aside to clean up that pollution, or pay people who lost jobs because of the pipeline’s cancellation?

“If they can imagine this nonsense,” she said of ISDS, “we can reimagine it.”