This article is an extract from The Investment Treaty Arbitration Review - Edition 6. Click here for the full guide.

I Introduction

From the turn of the century, international treaties have undergone numerous changes to reflect the necessity to incorporate suitable legal measures to keep the relationship between states as amicable as possible. In the realm of global trade, the most favoured nation (MFN) clause is one of the most widely debated aspects of this area. In a nutshell, MFN clauses in international treaties strive to eliminate discrimination, albeit with certain exceptions, by ensuring countries do not discriminate between trading partners.2

MFN clauses have been in existence since the early twelfth century,3 when medieval trading cities sought monopolies while exploiting foreign markets. Unable to achieve the same, they had to instead settle for opportunities and treatment at least equal to those offered to their rivals.4 It was only in the seventeenth century that the phrase 'most favoured nation' came to be expressly used and with the advancement in time and institutionalising of the nation-state system, the MFN clause has come to be incorporated in a number of international agreements.5

For a long time, MFN clauses were commonly associated with issues concerning international trade and its systems. In this context, provisions for MFN clauses were made in the General Agreement on Tariffs and Trade in 1947. It is only in recent times, with the gradually increasing emphasis upon attracting foreign investors, that the clause has found its way into being an in-built mechanism within investment agreements. This is not to say that the MFN clause is only invoked within international trading systems and international investment agreements; it extends to other areas such as transport, consular relations and intellectual property.6

While the first bilateral investment treaty (BIT) was executed in 1959, over the years there has been an exponential increase in the number of BITs. The United Nations Conference on Trade and Development (UNCTAD) reports that out of the 2537 BITs mapped at the time of writing, only 32 do not include an MFN clause.7

The overarching intent of a BIT is to encourage, attract and increase foreign investment in a host state. In its aim to encourage investments, a BIT assures the creation of conditions that are favourable for nurturing investments by investors of one state in the territory of another state. BITs also identify and acknowledge that encouragement and reciprocal protection of such investments under international agreements will be conducive to the stimulation of individual business initiative and increase prosperity in both states.

While the invocation of MFN clauses to import or borrow substantive provisions of BITs is well accepted, in recent times, the applicability and invocation of this staple clause with respect to procedural aspects of a BIT has been a contentious issue. While the past year has been relatively quiet jurisprudentially, this chapter analyses extant jurisprudence on importation and incorporation of provisions through MFN clauses, and recent and emerging trends in this regard including the different mechanisms proposed by states and adopted by tribunals adjudicating on issues arising out of the invocation of MFN clauses.

II Jurisprudence

Irrespective of the status of its codification, execution and ratification, it is necessary to note the definition of the term provided under Article 4 of the ILC's Draft Articles on Most Favoured Nation Clauses of 1978 which reads as: 'A most favoured nation clause is a treaty provision whereby a State undertakes an obligation towards another State to accord most favoured nation treatment in an agreed sphere of relations'.

In investment law, a classic MFN clause provided under an international treaty creates an obligation for the host state to offer a treatment to investors or investments from beneficiary states, which is not less favourable than that offered by the host state to any third state or its own local investors. The underlying premise of an MFN clause is 'to provide a level playing field between foreign and local investors as well as between foreign investors from different countries'.8

In practice, MFN clauses are drafted in generic language, which lends itself to multiple and often competing interpretations. While some BITs may specifically mention the scope and applicability of the MFN clause under the concerned BIT, the issue is often confusing, and not clear of doubt or interpretation. Further, in numerous cases the BIT does not expressly specify the scope and applicability of the MFN clause.9 Apart from the use of generic language, the lack of any definitive rules of interpretation for such MFN clauses under a BIT also render the invocation and applicability of MFN clauses a vexed issue in international investment arbitration.

One of the earliest cases to consider the concept of MFN clauses was the decision of the International Court of Justice (ICJ) in the Anglo-Iranian Oil Co10 case. On an issue of jurisdiction, the ICJ rejected the United Kingdom's bid to rely upon the MFN clause contained in the Iran–UK treaties of 1857 and 1903 (the base treaties).

The UK, inter alia, argued that the MFN clause in the base treaties conferred a right upon it to invoke the dispute resolution provision contained in certain third-party treaties. Iran argued that the ICJ did not have jurisdiction to adjudicate the disputes because its jurisdiction depended entirely upon the Iranian Declaration of 1932, which was ratified subsequent to the base treaties. The Iranian Declaration of 1932 conferred limited jurisdiction upon the ICJ to settle disputes arising out of treaties or conventions entered by Iran after the ratification of the Iranian Declaration.

While the ICJ did not enter into an analysis of the applicability of MFN clauses, it observed that because the base treaties between Iran and the UK were executed before the ratification of the Iranian Declaration, the UK could not invoke the MFN clause in the base treaties for the purposes of satisfying the requirements under the Iranian Declaration. However, it is noteworthy that this is the first case where the limits on the operation of MFN clauses were recognised and the mere invocation of an MFN clause did not provide the beneficiary with a more favourable treatment.11

The challenges in interpreting MFN clauses, and their applicability to substantive and procedural provisions, is discussed below.

III MFN clause and substantive provisions under bits

The application of MFN clauses to import substantive provisions such as Fair and Equitable Treatment and Full Protection and Security into investor–state relations has long been accepted. Over a period of time, investors invoking BITs in respect of claims pertaining to their protected investments, have contended that the host state should be held accountable for actions even if the same is not specially covered under the subject BITs but are found in other BITs involving the host state. Some of the cases where investors have invoked the MFN clause and attempted to import the substantive provisions from other BITs that have more favourable clauses offered by the very same host state include: (1) Asian Agricultural Products Ltd. v. Sri Lanka;12 (2) CME Czech Republic BV v. Czech Republic;13 (3) MTD Equity v. Chile;14 (4) CMS Gas Transmission Co v. Argentina;15 (5) White Industries Australia Ltd v. The Republic of India;16 (6) Louis Dreyfus Armateurs SAS v. The Republic of India;17 and (7) Ickale v. Turkmenistan.18

While the extent of importation allowed under MFN clauses in BITs is a grey area, in so far as the substantive provisions under BITs are concerned, the approach of tribunals has been to evaluate the facts involved, and typically apply the following processes and standards in a uniform manner to: (1) ascertain whether the scope and definitions clause of the treaty invoked itself permits a foreign investor to invoke the MFN provision under the treaty invoked; (2) ascertain the extent to which an MFN clause can be invoked by a foreign investor to import better substantive protection contained in a third-party treaty by the same host state; and (3) ensure that the claim raised by a foreign investor under the treaty invoked buttresses the ejusdem generis rule of interpretation: is the claim correctly comparable with the treatment required under the third-party treaty sought to be invoked.

IV MFN clauses and procedural provisions under bits

While the standard followed by different tribunals in importing substantive provisions from different treaties applying MFN clauses has been more or less uniform as explained above, the position with respect to the import of procedural provisions from different treaties via the MFN clause has evoked differing viewpoints and varying approaches and observations by tribunals.

The procedural aspect of invoking favourable provisions using MFN clauses often concerns parties attempting to circumvent a procedural requirement in the treaty invoked that requires complying with a precondition in order to then bring a claim before an international tribunal adjudicating disputes arising out of the treaty invoked. This is very often seen in cases where a party attempts to circumvent mandatory provisions requiring recourse to local courts, or mandatory cooling off periods through conciliation at the national level.19 Another instance where the MFN clauses are invoked is where a party attempts to bring claims that are specifically excluded under a treaty invoked in the case or where a treaty fails to provide for the mechanism or institution through which a potential dispute may be resolved. The practice of excluding the applicability of MFN clauses to the dispute resolution mechanism can be seen in some treaties involving erstwhile communist nations and in the present day, in treaties with China.20

The starting point for the import of procedural provisions using the MFN clauses is the well-known January 2000 decision in Maffezini v. Spain.21 This matter concerned the Argentina–Spain BIT containing an MFN clause that envisaged favourable treatment regarding 'all matters'. However, the dispute mechanism in the Argentina–Spain BIT provided for a mandatory six-month negotiation cooling off period prior to any dispute being submitted to the national courts of the host state and after a further period of 18 months, to international arbitration. Given that 'all matters' were subject to the applicability of the MFN clause under the treaty invoked (i.e., Argentina–Spain BIT), Maffezini, an Argentine investor, relying upon the MFN clause thereunder sought to invoke the more favourable dispute resolution clause under the Republic of Chile-Spain BIT.

By means of such invocation, Maffezini sought to bypass the rigours of the national courts and approach an international tribunal directly without observing the mandatory 18 months of adjudication by local courts, as was stipulated under the Argentina–Spain BIT. The tribunal held in favour of Maffezini on the basis that 'dispute settlement arrangements are inextricably related to the protection of foreign investors, as they are also related to the protection of rights of traders under treaties of commerce'.22 However, the tribunal was mindful of the fact that such a wide import may result in a slew of similar cases where investors rely on the MFN clauses to override the mechanism provided in a treaty being invoked. The tribunal in the Maffezini decision, inter alia, observed that the operation of MFN clauses could be limited by the 'public policy considerations' that parties envisage as fundamental conditions for their acceptance of the agreement in question.23

While the Maffezini approach has been accepted in some cases, there are also decisions that disagree with the reasoning provided in Maffezini.24 Notable among these is the case of Plama v. Republic of Bulgaria25 where the tribunal, in contrast to Maffezini, held that the MFN clause was inapplicable to 'procedural provisions'. In this case, Plama attempted to import the mechanism for adjudication of disputes contained in the Bulgaria–Finland BIT to a dispute arising under the Bulgaria–Cyprus BIT, using the MFN clause. The tribunal was of the view that the MFN clauses as well as dispute settlement clauses are both heavily negotiated by parties prior to entering into a definitive contractual framework and as such, the intention of the parties to allow the importation of a dispute resolution mechanism using the MFN clause should be unambiguous and express. Therefore, the tribunal in the Plama case expressed its view that it would be incorrect for MFN clauses to be used to import a completely different dispute resolution mechanism26 other than that agreed between the parties in the subject BIT.

The Plama case in effect laid more emphasis on the actual nature, and the wording used and intention of the parties to a BIT rather than permitting unchecked importation of a dispute resolution clause. It could be said that Plama, in a clear departure from Maffezini, advocated against potential treaty shopping excursions.27

Differing schools of thought have resulted in conflicting decisions and consequently, the re-examination of the requirement and use of MFN clauses for importing procedural clauses into BITs may be required. It has been argued that the use of MFN clauses for purposes of importation of treaty provisions, whether substantive or procedural, lacks any legitimate premise whatsoever.28

V Emerging trends and the future

Many countries have begun effecting changes to their respective BITs, not least in their MFN clauses. Some such changes adopted by the states include employing restrictive language in the MFN clauses and clearly specifying its ambit in regard to procedural aspects. This approach is most evident from the more recent proposals and changes mooted by Argentina and China. Alternatively, MFN clauses are also being proposed to be excluded altogether from the treaty.

A good example of emerging trends in this space are the actions adopted by India in relation to the MFN clauses under its BITs. In the aftermath of the White Industries case,29 India in 2016 resorted to eliminating the MFN clause from its 'Model BIT Text 2015' and also terminated over 70 BITs executed with different states, the last such termination being as recently as June 2020.30

Interestingly, in the handful of BITs that remain in operation with India as a party, Joint Interpretative Notes and Declarations have been executed between India and some other States, including Bangladesh and Colombia. These notes, which are detailed, specifically clarify and limit the scope of the MFN clause contained in the treaty invoked.31

Subsequent to India's publication of its 'Model BIT Text 2015', it has executed only one fresh BIT. This is the BIT between India and Belarus, which entirely eliminates the MFN clause32 that was contained in the BITs previously executed by India. India's reluctance to incorporate an MFN clause in its treaties has contributed to the position that apart from Belarus, no other state with whom India's BIT has been terminated has accepted or ratified a BIT based on the 'Model BIT Text 2015'.

The Investment Co-operation and Facilitation Treaty recently signed between Brazil and India (ICFT), which arguably is founded on the 'Model BIT Text 2015'33 excludes an MFN clause.34 Additionally, India's generic approach towards the exclusion of MFN clauses is also evident from its withdrawal from the Regional Comprehensive Economic Corporation (RCEP) entered into between ASEAN countries.35

Given the above, it appears that after India's experience in the White Industries case,36 India's stance in respect of MFN clauses seems to be in consonance with the principles established in the Plama decision, and specifically with respect to the principle that once a treaty is negotiated between parties, other terms from a treaty with a third state cannot be imported and applied to it.

India is not the only country to move away from the MFN regime. Argentina has recently enforced a rigid mechanism with respect to MFN clauses contained in its BITs. In an attempt to reduce any scope of ambiguity, in its recent BITs Argentina has excluded dispute resolution clauses from the ambit of MFN.37 This has possibly been done in view of the large number of investment treaty claims made against Argentina.

Under its Model BIT, Morocco has also sought to restrict the application of MFN clauses. Article 8.1 guarantees that no less favourable treatment would be afforded to investors and investments of the other party than that which is granted, 'in similar circumstances, to investors from a third state with regard to management, maintenance, the use, enjoyment, sale or liquidation of their investments'.38 Therefore, under the Moroccan Model BIT, the application of MFN clauses seems to attempt to restrict its applicability to a few specific areas, and further qualifies the applicability by introducing a requirement that such investors and investments should have be made in 'similar circumstances' as those from third states.39 Amplifying the caution, Article 7.2 of the Moroccan Model BIT lays down a non-exhaustive list of criteria that are to be considered while assessing the meaning of 'in similar circumstances'.40 The criteria include: (1) the objective of the concerned state (internal) measure; (2) the impact of the investment on the population and environment; (3) the sector in which the investment is made; and (4) public or private origin of the investment.41 While Article 7.2 falls under the 'National Treatment' clause, the same is made applicable to the MFN clause under Article 8.42

It would appear that this recent trend has so far remained limited to BITs involving a few states. Having said that, given the emerging attitudinal shift in approach to MFN clauses, one may expect more states to adopt greater restrictions upon the applicability of MFN status to available mechanisms or benefits, or indeed altogether do away with the MFN clause. The original idea and salutary intent behind MFN clauses appear to perhaps be floundering on the rock of reality, and a perhaps inequitable and sometimes extreme invocation of the provisions in favour of the investor to the disadvantage of the state. A further nuance is the nature of a country's engagement with the BIT arbitration process: countries that have a large number of outward investors and investments would want to retain as much of the MFN provisions as possible, and countries against whom such claims are repeatedly made would naturally want to whittle down or remove these avenues for investors. It remains to be seen how negotiations between states pan out given the fact that MFN clauses are incorporated for the benefit and promotion of reciprocal investments made. Only time will tell whether MFN clauses indeed remain favoured.