National Treatment in International Investment Law

This article is an extract from TLR The Investment Treaty Arbitration Review - Edition 7. Click here for the full guide.

i Introduction

National treatment generally refers to the treatment accorded by a host state to foreign investors and their investments that is no less favourable than that accorded to domestic investors or investors and their investments. National treatment is recognised as a key concept in international investment agreements (IIAs) by the United Nations Conference on Trade and Development (UNCTAD),² is premised on the principle of non-discrimination and aims to provide a level playing field for foreign investors in relation to domestic competitors.

National treatment is defined in broadly similar terms in many IIAs, with the main difference being the scope and limitations of application. Arbitral tribunals in investment arbitration cases have gradually developed standards for reviewing national treatment clauses through treaty interpretation. Accordingly, this chapter focuses on the issues related to national treatment from two aspects: analysis of national treatment clauses in IIAs; and review of national treatment in the practice of investment dispute settlement.

ii Analysis of National Treatment Clauses in IIAs

i Scope of application of national treatment

The scope of application of national treatment clauses can be subdivided into applicable investment phases,³ and activities and objects to which national treatment applies.⁴

Phases of investment

National treatment clauses usually specify which investment phases are applicable to national treatment. These investment phases can be broadly divided into pre-entry phases and post-entry phases. Early bilateral investment agreements (BITs), for example, the China–Czech BIT (2005), China–Mexico BIT (2008) and China–Colombia BIT (2008) limit national treatment to the operation, management, maintenance, use, employment and disposal stages, and national treatment applies broadly to post-entry phases.⁵ In more recent BITs or free trade agreements that contain investment chapters, the scope of application of national treatment has been gradually expanded from the post-entry treatment to the pre-entry treatment. For example, national treatment under the China–EU investment agreement (concluded at the end of 2020) covers the stage in which investments are set up, which is a typical pre-entry national treatment. The United States–Mexico–Canada Agreement (USMCA), which took effect in 2018, contains a similar provision.⁶ In addition, the Regional Comprehensive Economic Partnership Agreement (RCEP) concluded in 2020 and the Comprehensive and Progressive Trans-Pacific Partnership Agreement (CPTPP) concluded in 2018 have also extended national treatment to the set-up phase.⁷

Activities and objects

In addition to applicable investment phases, IIAs also differ in the scope of activities and objects to which national treatment applies.

In terms of the activities to which national treatment applies, on the one hand, contracting states define the scope of industrial activities to which national treatment applies by defining 'investment'; on the other, some IIAs list activities that may or may not enjoy national treatment, with some countries adopting positive enumeration (i.e., the positive list mode),⁸ and some imposing certain restrictions on national treatment by using the negative list mode.

As for the recipients of national treatment, early national treatment clauses only apply to investments, for example those under, inter alia, the China–Netherlands BIT or the China–Spain BIT.⁹ However, in IIAs concluded in recent years, many national treatment provisions expressly apply to both investors and investments at the same time, for example under, inter alia, the China–Tanzania BIT or the Canada–China BIT.¹⁰ As for the provisions of 'comparator', certain agreements use the expression such as 'in like situations' or 'in like circumstances' to define it,¹¹ but most investment agreements remain silent on this issue.

ii Exceptions to national treatment

Besides the offer list mentioned above, IIAs usually contain exception clauses that limit the scope and conditions of application of national treatment, which, in turn, affect the actual results of the implementation of national treatment. Exceptions can be divided into general exceptions and security exceptions, subject-specific exceptions and country-specific exceptions.¹²

General exceptions and security exceptions are exception provisions commonly seen in international economic and trade agreements, which are reservations to substantive obligations made mainly for the reasons of public health, order and national security.¹³

Exceptions to specific matters mainly refer to exemptions in respect of specific matters, such as Article 3 of the China–Germany BIT:

The provisions of Paragraphs 1 to 3 of this Article shall not be construed so as to oblige one Contracting Party to extend to the investors of the other Contracting Party the benefit of any treatment, preference or privilege by virtue of (a) any membership or association with any existing or future customs union, free trade zone, economic union, common market; (b) any double taxation agreement or other agreement regarding matters of taxation.¹⁴

One country-specific exception is for specific national sectors in which a contracting state reserves the right to distinguish between domestic and foreign investors according to domestic laws and, in particular, laws and regulations of its national economic and social policy relating to specific sectors or activities. Such exception can be seen at Article 3 of the China–Japan–South Korea IIAs – the Agreement among the Government of the People's Republic of China, the Government of Japan and the Government of the Republic of Korea for the Promotion, Facilitation and Protection of Investment – as well as Article 8 of the Canada–China BIT.¹⁵

iii Review of National Treatment in Investment Dispute Settlement Practice

i Overview

To date, there is not yet a set of systematic criteria to determine whether a host state violates national treatment obligations, but arbitral tribunals have mainly taken a three-step analysis to review claims of national treatment:¹⁶

1. 'in like situations/circumstances' review: to identify appropriate domestic comparators to determine whether the foreign and domestic investors are in like circumstances;
2. differentiation of discriminatory treatment, which is to determine whether the treatment accorded to foreign investor differs from that under domestic comparators;
3. reasonableness of different treatment, i.e., the reasonableness of the host state to grant such different treatment.

ii In like situations/circumstances review

Facing a claim of a national treatment violation, the tribunal will first determine whether the claimant and comparator are in like situations/circumstances. Typically, the tribunal will identify domestic comparator based on the following factors: whether the claimant or claimant investments and relevant investor or investment in question operate in the same economic or business sector; compete with each other in the market; and are subject to similar legal regimes or regulatory requirements.¹⁷

Operation in the same economic or business sector

The difficulty in identifying the same economic or business sector of the economy or business is that enterprises may be involved in a number of business sectors, rather than being confined to a single sector or category of activities. In defining the scope of the business sector, some tribunals have adopted a relatively broad approach, whereas others have adopted a restrictive and detailed approach.

In Pope & Talbot v. Canada, the tribunal took the view that a comparison should be made in the same business or economic sector.¹⁸ However, in Occidental v. Ecuador, the claimant, an oil exporter in the oil sector, argued that the host state had breached the national treatment obligation by not reimbursing its VAT but granting reimbursement to flower, mining and seafood exporting companies. The host state nevertheless argued that there was no breach of national treatment on the ground that applicants in oil export industries, that is, in like situations, had been treated the same. The tribunal agreed with the claimant and concluded that 'in like situations cannot be interpreted in the narrow sense advanced by Ecuador as the purpose of national treatment is to protect investors as compared to local producers, as this cannot be done by addressing exclusively the sector in which that particular activity is undertaken'.¹⁹ It is fair to say that the Occidental tribunal adopted a very broad approach. The Methanex v. USA award one year later went to the other end of the spectrum and adopted an 'identical' comparator. In Methanex v. USA, the claimant was a methanol producer. Its purported comparators are ethanol producers in the host state. The tribunal refused such a proposal on the ground that there were already domestic methanol manufacturers in like circumstances; considering the purpose of the national treatment clause and flexibility of adopting like circumstances therein, it would be 'perverse' to adopt a less 'like' domestic comparator when there is an 'identical' domestic comparator.²⁰ The tribunal in Invesmart v. Czech Republic also adopted a stringent standard of review: a determination of being similarly situated 'requires more than an identification of single points of similarity', and 'there must be a broad coincidence of similarities covering a range of factors'.²¹

Competitive relationship

For the purpose of ascertaining whether there exists an investment competition relationship in respect of products and services, arbitral tribunals in the early days would refer to relevant WTO precedents when identifying products or services, as the WTO precedents may have established relevant standards to deal with similar products. Tribunals no longer adopt such an approach on the basis that international investment, unlike international trade, involves long-term economic interests of the host state, and the host state may have considerations that overlap with those pertaining to the local economy and may be subject to heavier regulatory requirements. Therefore, international investment tribunals place greater emphasis on comparisons of businesses rather than comparisons of products.

As to whether a competitive relationship is relevant to the determination of in like circumstances, arbitral tribunals have not been completely at one on this. Two early national treatment decisions in the mid-2000s demonstrated scepticism on this issue, but a large number of arbitration cases in recent years have tended to consider the competitive relationship to be relevant in determining in like circumstances, particularly when an identical comparator does not exist.²² A typical example here is Apotex v. USA.²³

Subject to the same legal regime or regulatory requirements

The third factor in determining in like circumstances is whether the claimant and comparators are subject to the same legal regime or regulatory requirements. The Grand River tribunal held that 'while each case involved its own facts, tribunals have assigned important weight to “like legal requirements” in determining whether there were like circumstances'.²⁴

The claimant in ADF v. USA was a Canadian company engaged in a subcontract to provide structural steel components for nine bridges in a federally funded road project in Northern Virginia. The contract called for the use of US steel. ADF had proposed to acquire the US steel but to manufacture it at its facilities in Canada. The US authorities ruled that this violated the federal government's performance conditions, which required the manufacturing to take place in the US. The tribunal found that ADF's US steel was not treated differently from the US investors' US steel in the like circumstances, on the basis that all US investors were bound by the Surface Transportation Assistance Act's 'buy America' provisions as the claimant.²⁵

In Apotex v. United States, the arbitral tribunal held in clear terms that when identifying comparators one should consider whether the claimant's investments and the relevant investors or investments are 'subject to a comparable legal regime or regulatory requirements', which is the crux of the like circumstances review in this case.²⁶ The parties vigorously disputed whether the claimant and the comparators were subject to the US Food and Drug Administration's (FDA) Import Alert 66-40 made under Section 801(a). The tribunal held that 'the decisive difference in the legal and regulatory regime that governs foreign products manufactured outside the USA and those that are manufactured at USA-based facilities is that Section 801(a) does not apply to domestic products that are manufactured in the USA, regardless of whether the manufacturing facilities are US-owned or foreign-owned (unless the products are exported and then re-imported into the USA)'.²⁷ The claimant challenged the FDA's measure under Section 801(a), which placed the claimant at Import Alert 66-40, while the three comparators who are not subject to Section 801 (a) 'could not have been subject to any similar measure'.²⁸ The tribunal rejected the claimant's submission of likeness based on this factor and rejected the claimant's national treatment claim under the North American Free Trade Agreement (NAFTA).²⁹ Some tribunals have likewise adopted a stringent standard when reviewing this factor: Pope & Talbot found the comparators to be subject to 'the same restrictive legal regime as the claimant'. Feldman v. Mexico found the comparators to be 'for purposes of MFN analysis a limited group of cigarette exporters subject to the same legal requirements as the claimant'. The Methanex tribunal 'emphasised the importance of assuring that purported comparators face similar regulatory requirements'. The tribunal in UPS v. Canada, taking the opposite view, held that the key difference lies in the fact that the 'legal requirements under national law and international postal agreements' Canada Post is subject to did not affect UPS.³⁰

Tribunals typically refer to previous decisions when assessing like circumstances with the above three factors. However, the decisions are heavily reliant on the factual analysis of the cases, rather than adopting a united standard. As for the determination of likeness, some tribunals have adopted a more stringent standard to reach 'the same', while others have taken a broader attitude, and as such a clear trend cannot be established when analysing prior decisions.

iii Differentiation of discriminatory treatment

The analysis of differentiation of discriminatory treatment mainly involves the examination of de jure discrimination, de facto discrimination and discriminatory intent.³¹

In considering the discriminatory nature and the degree of differentiation of treatment, tribunals will usually examine whether there is de jure discrimination (the treatment or measure itself is expressly directed against foreign nationality) and de facto discrimination (the measure is neutral on its face while in fact disadvantages foreign investor).³²

The S D Myers tribunal held that the relevant factors to take into account in determining whether a foreign investor had been discriminated against are 'whether the practical effect of the measure is to create a disproportionate benefit for nationals over non-nationals' (de facto discrimination) and 'whether the measures, on its face, appears to favour its nationals over non-nationals who are protected by the relevant treaty' (de facto discrimination).³³ Indeed, it is rare to see explicit discrimination against foreign nationality on the face of the treatment (i.e., de jure discrimination). Therefore, de facto discrimination will often be the focus of the review.

In their review of allegations of de facto discrimination, the tribunals in Feldman and ADM v. Mexico similarly found the host state's action to be discriminatory against foreign investors, where such action is found to have constituted 'unreasonable distinctions between foreign and domestic investors in like circumstances'.³⁴ The Apotex tribunal 'considers that the treatment complained of must have some not-insignificant practical negative impact in order to lead to a breach' of national treatment obligations under NAFTA. ³⁵

In addition to questioning the de jure and de facto discriminatory effect of the impugned measures, some tribunals also seek to consider whether the host state had an intent to discriminate.

A breakthrough in the discussion of whether discriminatory intent is required is S D Myers v. Canada, where the tribunal found that 'intent is important, but protectionist intent is not necessarily decisive on its own'. 'The existence of an intent to favour nationals over non-nationals would not give rise to a breach' of national treatment obligation under NAFTA 'if the measure in question were to produce no adverse effect on the non-national complainant'.³⁶ The Occidental tribunal focused more on the practical effects caused by the discriminatory measure than the evidence put forward by the claimant to prove the intent to discriminate.³⁷ In Champion Trading v. Egypt, the tribunal similarly noted that the analysis of the intent of the host state is irrelevant to the present case.³⁸ However, two years later the arbitral tribunal in Corn Products v. Mexico noted that even if the discriminatory intent could not solely on its own establish the discrimination, it could reinforce the practical adverse effect argument.³⁹ The tribunals in Thunderbird v. Mexico, ADM v. Mexico, Bayindir v. Pakistan, A1pha Projecktholding v. Ukraine and Clayton/Bilcon v. Canada held that, while a discriminatory intent of the host state is important, it is not required to prove a breach of the national treatment obligation.⁴⁰

In view of the above, tribunals tend to recognise the importance of a discriminatory intent in determining whether the host state has violated the national treatment obligation, but do not regard it as necessary, rather as an element to consider. Discriminatory intent itself may not necessarily have an adverse impact in determining a host state's violation of national treatment but may serve as a reinforcing factor in considering the practical adverse effect.

iv Reasonableness of different treatment

The Pope & Talbot tribunal concluded two elements to justify the differences in treatment: 'Differences in treatment . . . have a reasonable nexus to rational government policies that (1) do not distinguish, on their face or de facto, between foreign owned and domestic companies, and (2) do not otherwise unduly undermine the investment liberalising objectives of NAFTA'.⁴¹ The Apotex tribunal applied this test to the host state's measure in question, Section 801(a), in its analysis of like circumstances, and found that it passed the test: it protected the public health of United States residents and patients, did not discriminate between companies and factories on the basis of nationality, and was consistent with the investment purposes of Chapter XI of NAFTA. Similarly, the tribunal in GAMI Investment v. Mexico stated that differences in treatment may be justified if 'plausibly connected with a legitimate goal of policy' and 'applied neither in a discriminatory manner nor as a disguised barrier to equal opportunity'.⁴²

The Corn Products tribunal, however, adopted the opposite view. Although the host state's measure's policy basis and legitimate motive – to address the domestic sugar industry crisis – was recognised by the tribunal, it did render the claimant 'markedly less favourable' than domestic sugar producers: 'Discrimination does not cease to be discrimination, nor to attract the international liability stemming therefrom, because it is undertaken to achieve a laudable goal or because the achievement of that goal can be described as necessary.' The tribunal therefore held that the host state had violated the national treatment clause.⁴³ This approach, while highly protective of foreign investors, might perhaps be regarded as unduly harsh on the host state.

When determining whether a different treatment could be justified, two issues should be noted. The first one is the extent of differences. The measure taken by the host state need only be lawful and non-protective and the effect it causes does not require to be 'minimally restrictive', otherwise it will place an excessive burden on the host state.⁴⁴ The second issue is a comprehensive consideration. The arbitral tribunal cannot determine that there is a rational policy basis for the different treatment merely on the ground that the host state has demonstrated a link between the action or measure in question and its public policy. This is because, should the tribunal adopt such a position, the host state would in effect become the 'sole arbiter of the legitimacy of its public policy rationale', including the choice of the policy and the decision on the measure leading to discriminatory treatment. As a result, a host state is not required to in advance articulate and follow a rational policy to accord different treatment, but rather justify it by simply 'crafting' one later when a dispute arises. This would provide great flexibility for the host state but 'little protection for the investor (or investments)' who were the intended beneficiaries of national treatment.⁴⁵

iv Summary and Prospect

As discussed above, national treatment has gone beyond the area of international trade law to become one of the most important treatments in the field of international investment law. In recent years, the 'pre-entry plus negative list' mode of national treatment has been adopted in an increasing number of IIAs, providing more comprehensive protection to investors across a wider range of sectors.

In practice, arbitral tribunals generally adopt a three-step analysis approach when reviewing a violation of national treatment obligation:

1. an in like circumstances determination compared with the comparator;
2. the extent of differences of the discriminatory treatment; and
3. a justification for the different treatment accorded by the host state.

For each step of analysis, there are different factors to be considered. Tribunals take different approaches and give different weight to these factors, with no united criteria or trends having yet emerged. Some tribunals, in addition to an analysis of the case facts, would also consider the objectives of the underlying IIAs, such as from the perspective of protecting investors.

One can tell from previous investment arbitration cases that an investor as the claimant would bear a reasonably heavy burden in proving a national treatment violation. Moreover, without a unified standard applied by arbitral tribunals in determining a national treatment violation, the fate of a national treatment violation might in a sense be said to be difficult to predict. It is thus unsurprising that, in recent years, national treatment violation claims have been less common compared to fair and equitable treatment (FET) violation claims, which appear more popular with investors. Although claims for national treatment violation by investors are admittedly more challenging than claims for FET violation, the national treatment issue remains important; given that a claim for national treatment violation is capable of constituting a standalone claim in investment arbitrations, it may be relevant to the legitimacy of expropriation and also comes into play in FET violation analyses in many cases.⁴⁶