Investment Arbitration in Brazil: Yes or No?

By Elizabeth Whitsitt and Damon Vis-Dunbar
30 November 2008

In 1991, Brazil began one of the world’s largest privatization programs, selling more than US$100 billion worth of assets. Seventeen years later and with a Gross Domestic Product (GDP) that ranks tenth in the world, Brazil is an industrial power that, according to the World Bank, is experiencing stable economic growth, a reality that has, in part, been facilitated by Brazil’s increased openness to foreign investment.

As of January 2006, Brazil had realized approximately US$ 88 billion in sales revenue and some US$ 18 billion in debt transfer as a result of its privatization program.  Foreign investment accounted for approximately 48% of that total.

Despite the importance of foreign investment to its economy and unlike all other South American states, Brazil is not a party to any bilateral investment treaties (BITs) and has not ratified the ICSID Convention. One of the reasons for Brazil’s apparent reluctance to bind itself to such agreements is legal uncertainty. Specifically, there is controversy in Brazil with respect to whether ratification of such agreements is prohibited under Brazilian law on grounds that it impedes the sovereign right of the state.  However, others note that Brazil may lawfully, and in fact has previously consented to binding foreign arbitration by routinely entering into contracts that provide for such dispute resolution mechanisms.

Meanwhile, pressure to ratify BITs builds from Brazilian investors, who have become increasingly internationalized. Indeed, in 2006, Brazilian companies invested more overseas (US$28 billion) than the country received in foreign investment. While Brazil’s outward foreign investment flows have since dipped, according to the United Nations Conference on Trade and Sustainable Development, Brazil remains one of Latin America’s leading exporters of capital. Not surprisingly, Brazilian multinationals are asking for BITs and the protection they promise. 

ITN has interviewed three lawyers to seek their views on whether Brazil should begin ratifying bilateral investment treaties, and if so, why. Nathalie Bernasconi Osterwalder is the Managing Attorney at the Centre for International Environmental Law. Todd Weiler, is a professor, arbitrator, legal counsel and consultant in international economic law. Pedro Alberto Costa Braga de Oliveira is a Brazilian lawyer, and currently general counsel of Enel Brasil Participações, an indirect subsidiary company of Enel S.p.A.

Interview with Nathalie Bernasconi Osterwalder

ITN: How has Brazil been negatively impacted (economically, politically or otherwise) by its reluctance to enter BITs or ratify the ICSID Convention?

Brazil has not been negatively impacted at all by not ratifying BITs or the ICSID Convention. Foreign investors continue to invest in the Brazilian economy with their interests protected by contracts negotiated with the Brazilian government. Moreover, to my knowledge Brazil has been quite successful at resolving the problems encountered by foreign investors through diplomatic means, an approach that is inevitably less costly and less time consuming for all parties involved.

ITN: In your view, what consequences may result should Brazil decide not to enter into BITs or ratify the ICSID Convention?

To be honest, I do not see any negative consequences for Brazil should it continue with its current strategy regarding the treatment of foreign investors within its economy.  Brazil will continue to attract foreign investment, and it will continue to protect such interests by negotiating contracts that provide foreign investors the protection they require without sacrificing Brazil’s sovereignty.

ITN: Should Brazil decide to ratify BITs and/or ICSID Convention, what economic or other benefits would Brazil realize that it does not already enjoy?

First, it is important to note that studies typically show that countries do not attract more foreign investment when they enter into BITs. Given that Brazil already has healthy foreign investment flows into its economy, it is difficult to see how the ratification of BITs and/or the ICSID Convention would enhance the investment climate in Brazil.

While Brazilian investors with investments outside Brazil might have an interest in obtaining the protections typically provided for in BITs, such as recourse to international arbitration, the potential negative consequences to Brazil of such ratification outweigh any potential benefits to Brazilian investors, especially when one considers that Brazilian investors can negotiate their own contracts with foreign governments thereby ensuring that their interests are protected.

ITN: What are the potential negative consequences Brazil could face should it decide to ratify BITs and/or ICSID Convention?

BITs give foreign investors the right to bring claims directly to arbitration typically without exhausting domestic remedies. While Brazil might prefer to settle disputes within its own courts given its experience with that system and given that those courts’ familiarity with Brazilian law, Brazil would foreclose the possibility of resolving investment disputes domestically should it become party to BITs or ICSID.  Brazil could find itself in a position of justifying its laws and decisions to an arbitral tribunal that does not understand Brazilian laws or policy, a negative consequence that seems unnecessarily risky for Brazil given the success it has with resolving disputes diplomatically.

ITN: What should potential foreign investors looking at investment opportunities in Brazil do to protect their interests?

Those investors should continue to do what investors coming into Brazil have done for almost twenty years; they should negotiate contracts with the Brazilian government to ensure their interests are protected.

Interview with Todd Weiler

ITN: Would it be advantageous for Brazil to enter into BITs or ratify the ICSID Convention? Why or Why not?

Yes.  In the long run, Brazil will need to follow China's lead if its leaders want to fully capitalize on economic growth that, in the decades to come, will render it as much a state reputed for investment abroad as a host state. China is a decade or so further down that road, although Brazil is already far ahead of the game on crucial infrastructure fundamentals such as a solid, modern banking system and broad access to high speed bandwidth. Brazil also benefits from a much more heterogeneous and metropolitan population than most aspiring middle-powers. It cannot maximize these advantages, however, if it cannot bring itself to promise basic standards of transparent and fair treatment, and protection for property, on a reciprocal basis with governments of the states that promise to become the hosts and customers of Brazil's most successful transnational enterprises.

ITN: In order for Brazil to do so, what qualifying conditions must first be achieved?

Currently, Brazil is party to the Colonia and Buenos Aires Protocols under the MERCOSUR, which has largely suited their purposes as a regional power. For investment in its natural resources or utility sectors, it always has the ability to include an ICSID clause in concession agreements concluded with foreign investors anyway. There is also a deeply inculcated perception on the part of many Brazilians that an investor must submit itself to Brazilian law and Brazilian courts if it requires relief from government action, just like Brazilian nationals. Many haven't fully grasped that the reciprocity they should be worried about will increasingly concern the protection of Brazilian investment abroad. International law provides a neutral forum for two states seeking protection and promotion of both inbound and outbound investment.

Necessity is the mother of invention, so it is likely that the political and economic case for joining the world community in negotiating and abiding by the terms of investment treaties will be pressed increasingly often by Brazil's business leaders. However, it may take a while longer for a consensus to build amongst the populace that would not oppose such progress taking place.

The Chinese state is not yet fully democratic, which frees the hands of policy makers – at least to a certain extent – to jump into the lead on such far-sighted programs of economic development as an active treaty programme.

That's not to say that I would ever suggest that a country should delay taking positive steps towards liberalizing economic regulation, but I think one needs to be practical and realistic about how to get there. After so many years of being schooled in the beliefs that foreign investment from traditional donor countries was a necessarily evil, at best; and that the only way to achieve economic success was through the promotion of heavily- protected and subsidized national champions, one must accept that it may take a little time for them to adjust to new realities. That includes the tremendous promise that awaits many of the country's larger enterprises, in the coming years, if they are permitted to freely access markets abroad. Switching from a Calvo-inspired, infant industry narrative to a world-beating, export and investment oriented success story may take a little time.

ITN: In your view, could Brazil face any negative consequences if it commenced its own investment treaty program?

No. As long as the treaties promoted a transparent dispute settlement process that permitted investors to vindicate their rights through damages claims before an international tribunal, and the protections included were not watered down or subjected to broad reservations for favoured local industries, the programme could only add value to the existing investment climate.

ITN: What consequences may result should Brazil decide not to enter into BITs or ratify the ICSID Convention?

The consequences of not embarking upon a treaty programme with haste will ultimately be stilted economic growth and higher marginal risks of regulatory unfairness abroad for Brazilian investors. Such risks constitute uncertainties that will increase the marginal cost of capital committed abroad, thereby dissuading Brazilians from investing abroad rather than promoting it. This is not to say that Brazil cannot realize significant economic growth in the years to come without such a programme in place, but not having one could impede the rate and scope of such growth.

Interview with Pedro Alberto Costa Braga de Oliveira

ITN: How has Brazil been negatively impacted by its reluctance to enter BITs or ratify the ICSID Convention?

In terms of inward investment, I don’t think Brazil has suffered any negative consequences from not ratifying bilateral investment treaties. Year after year we have been very successful in attracting foreign investment. This, of course, is one of the arguments used to advise against ratifying these treaties. However, Brazil has become a capital exporter, with Brazilian multinationals doing business all over the world. Therefore, the worst consequence of failing to sign the ICSID Convention and not ratifying BITs is that Brazilian companies are unprotected.

ITN: In your view, what consequences may result should Brazil decide not to enter into BITs or ratify the ICSID Convention?

If Brazil signed the ICSID Convention and entered into bilateral investment treaties it would send the world the right signal to foreign investors. That said, I don’t know if it would lead to more foreign capital into the country. Brazil is a large market with a growing middleclass. It is also stable. In the last several years there have no cases of expropriation. So in terms of inward investment, I doubt that companies would decide to invest Brazil simply because of BITs.

ITN: What are the potential negative consequences Brazil could face should it decide to ratify BITs and/or ICSID Convention?

The treaties would need to be so-called next generation treaties. In other words, they must be crafted to allow for sufficient governmental policy space, so that what has happened in Argentina, for example, doesn’t happen in Brazil.

ITN: What should potential foreign investors looking at investment opportunities in Brazil do to protect their interests?

Investors should push for arbitration agreements in their contracts. The court system can be very slow and cumbersome. There are several layers of appeals, so cases can often take several years. At my company, we don’t enter into a single contract without an arbitration clause. One of the reasons that BITs have not been ratified is that when those treaties were signed, arbitration law in Brazil was non-existent. There was also doubt as to whether the government could submit to arbitration under Brazil’s constitution. But investors should know that this is no longer the case.