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Corruption in International Investment Arbitration by Llamzon, Aloysius P (1st September 2014)

1 Introductory Chapter: Arbitrating Transnational Corruption

From: Corruption in International Investment Arbitration

Aloysius P Llamzon

Subject(s):
Corruption — Investment — Investor — UNCITRAL Arbitration Rules — International Centre for Settlement of Investment Disputes — International Court of Arbitration (ICC) — BITs (Bilateral Investment Treaties)

(p. 1) Introductory Chapter

Arbitrating Transnational Corruption

A. The Decision-maker’s Dilemma

I see us as water spiders gracefully skimming, as light and reasonable as air, the surface of the stream without any contact at all with the eddies and currents underneath... We practiced a thin rationalism ignoring both the reality and the value of the vulgar passions.

—John Maynard Keynes

My Early Beliefs (1938)

1.01  Like most people, lawyers are uncomfortable with the grey spaces that human endeavour sometimes occupies. Unlike most, however, those in the creative enterprise of legislating and interpreting law are singularly called upon to bring order to human activity in a manner that banishes the grey in favour of black and white. Most prescriptive law divides such activity in stark, Manichean terms, and the more authoritatively a lawyer claims to speak when delimiting acceptable from unacceptable behaviour, the more difficult it is to regulate in realistic and candid terms the baser aspects of human nature. The jurist, in particular, is faced with a dilemma not faced by brethren advocates: the more prescriptively the jurist intends to speak about human conduct within the constraints of law, the more abstract he or she must be; and with greater abstraction, it becomes difficult to articulate a rule that comports with the high aspirations of the law but also accounts for a complex and concealed reality in which no actor has behaved honourably.

1.02  Decisions taken by lawyers over transnational corruption are emblematic of this dilemma. Those who speak most authoritatively on particular instances of corruption in foreign investment—particularly the arbitrators called upon by the web of over 3,000 bilateral and multilateral investment treaties to decide actual investment disputes—continue to speak in abstractions that they know often do not comport with reality, as they must. These arbitrators are routinely required by the law to decide in binary fashion, thereby taking overt or (p. 2) implied sides in favour of one party in cases where most, if not all, actors are tainted by corruption. To this is added the complication of the corrupt acts having been committed ‘abroad’, with heterogeneous attitudes towards the law and what is considered moral or at least tolerable, especially for investors working outside one’s home country; the participation of foreign public officials with their own sets of formal and operational codes; and the de-sensitizing effect of large bureaucracies within modern administrative States and multinational corporations alike on matters of accountability and moral judgment. The task of the lawyer who seeks to put order into this messy reality, who seeks to shape norms by speaking authoritatively to both the immediate parties and to the whole of the international community, who seeks to simultaneously guide lawyers and jurists and as well as investors and governments on the normative scope of corruption, is immensely difficult.

B. The Subject of Study

1.03  Transnational corruption stands in contrast to the image of greasy palms, dark corners, and smoke-filled backrooms that are its zeitgeist. In reality, the more rarified spaces of luxury hotels serve as primary staging areas for transnational corruption, reflecting the fact that the most egregious corrupt acts are actually highly elite affairs—so-called ‘grand corruption’ typically involves foreign businessmen flying in to meet with the most well-connected members of the local business elite and the most senior of the host country’s political class, all of whom come together to effect multi-million dollar investments in that State. These hidden handshakes are all the more troubling when one considers that they usually occur within hotels quite literally walled away from the teeming poverty nearby, a visual contrast so evocative of what corruption yields throughout the developing world. For while those within the walls prosper, it is the poor that ultimately bear most of the corrosive effects of transnational corruption.

1.04  Improbably, however, one potentially powerful means to force a measure of accountability for foreign investment corruption operates under another highly elite milieu, operating within similar surroundings and involving another set of mostly foreign dramatis personae. During the 1990s and especially in the 2000s, a cast of lawyers (mostly from large Wall Street and Magic Circle firms) and jurists (often former judges from national and international courts and tribunals) have begun to engage with the issue of transnational corruption directly through a mechanism that was largely unknown even a decade ago: international investment arbitration. These arbitrators often hold hearings and meetings in luxury hotel meeting rooms (even literal palaces) in the world’s principal arbitral seats (including Geneva, Washington, D.C., London, Paris, The Hague, Singapore, or Hong Kong) and sometimes even in developing countries themselves. Together with the lawyers that advocate before them, these highly autonomous tribunals have begun to lay the foundation for what may potentially be the primary control mechanism in international law for combating, or at least punishing, transnational corruption.

1.05  For various reasons explored in the coming chapters, however, much of this potential remains only that. International law, including in the realm of foreign investment, has largely been a bystander in contemporary efforts to combat transnational corruption. While a number of recent treaties express well-meaning and appropriate condemnation, the consensus and rhetorical vitality of these instruments mask a central problem: international conventions have mostly been confined to the level of general principles and (p. 3) proscriptions, arrogating unto individual States sole responsibility for enacting and enforcing anti-bribery legislation. Given the lack of any concerted international mechanism to enforce anti-corruption norms, investor-State arbitration has, almost by default, emerged as one of the few areas in the international legal order where the infrastructure is already in place to regulate foreign investment, including those tainted with corruption, in an authoritative and controlling manner.

1.06  Unfortunately, the case law reveals very few instances where corruption determined the outcome of an arbitration; and even in those cases, the facts leading to corruption were largely admitted by the investor, not proven. Investment arbitration has yet to fulfil its promise in combating corruption, and there is no real consensus on how the most difficult issues relating to corruption are to be treated. These include the extent to which tribunals are obliged to pro-actively investigate bribery, the standards and burdens of proof required to establish the existence of corruption, the extent to which host States invoking investor corruption must demonstrate that public officials implicated in corruption have been prosecuted, and the appropriate consequences for varying levels of corruption within the life of an investment relationship. Instead, tribunals often appear determined to sidestep corruption issues altogether whenever possible.

1.07  This book will engage with that uncertainty and hesitance. While difficult, decision-makers in investment arbitration can reconcile the policy relationship between the combating of transnational corruption and the protection of foreign investment through arbitration, a mechanism that has traditionally been viewed as an instrumentality for providing investors with an effective forum for redress against host States. The book aims to suggest a framework for investment arbitration decision-making when issues of transnational corruption arise, while resisting the urge to reduce these difficult issues to simplistic—and ultimately ineffective—formulae.

C. The Phenomenon

1.08  Much of the sweep of history can be narrated through the lens of corruption, which has always been a central aspect of human organization and its reform. The revolutionary changes that have taken place in human history were motivated largely by a desire to reform corrupt institutions; one can, for example, view that most disruptive upheaval of sixteenth-century Europe—the Protestant Reformation—as a response to the corruption of the temporal Catholic Church at least as much as a clash in religious doctrine. One might identify corruption, broadly conceived, as a cause for every major revolution in history, such as the change from the excesses of monarchy to republicanism; or from colonialism to self-rule; or as seen most recently in the Arab spring, from autocratic kleptocracies to burgeoning (if still tenuous) democracies.

1.09  Corruption is also endlessly adaptable, and as modern ways of doing business involve near-borderless movements of capital seeking ever higher rates of return on investment, an increasingly dominant modality of corruption—the bribery of a host State’s public officials by a foreign individual or enterprise, which can be termed as transnational corruption—is taking hold of global investment, trade, and commerce, with disruptive political effects. Perhaps the most invidious aspect of transnational corruption relates to foreign direct investment, fertile ground for corruption as multinational firms build large-scale, long-term (p. 4) relationships with host States in extractive industries, infrastructure, and manufacturing.1 Oscillating from relatively innocuous bribes paid to facilitate speedy customs clearing of capital equipment to the ‘grand corruption’ that leads governments to build multi-billion dollar white elephants,2 transnational corruption is an endemic and sustained phenomenon that cuts across virtually all aspects of the world’s globalized trading and investment channels.

1.10  When reduced to hard numbers, the problem of corruption is staggering: the World Bank estimates that within the world’s 30 trillion dollar economy, more than one trillion dollars (or a full 3 per cent of the world’s economy) are paid in bribes each year.3 Its impact upon foreign investment is severe: the World Bank estimates that up to 10 per cent of the total cost of doing business globally, and up to 25 per cent of the cost of procurement contracts in developing countries, are corrupt. Some have estimated that moving business from a country with a low level of corruption to a State with medium or high levels of corruption is found to be equivalent to a 20 per cent tax on foreign business.4 That 20 per cent is often the difference between profitability and ruin for a going concern. Consequently, payers of bribes will do one of two things to recoup this additional cost: either build the bribe into the price, or provide shortcuts to the quality of the project or product delivered. In either case, the immediate participants in corruption are enriched at the ultimate expense of the public.

1.11  Much of foreign investment is anchored upon a paradox. The States most in need of investment come from those parts of the world that are too politically unstable, too underdeveloped, and too poor to invest in. Sensible investors seek the stability that comes with the ‘rule of law’, it is said, and those parts of the world embroiled in autocracy and repression—often also the poorest of nations—should by any coldly rational calculation be bypassed by foreign investors. And yet for many of these developing States, foreign investment does flow, and in the billions, driven not by altruism but by certain unrelenting truths of capital: that in (p. 5) this era of historically high liquidity and low interest rates, money can no longer be idle and will always search for a return; that risk begets reward and the higher the risk, the higher the potential return; and that the less explored, less developed, less sophisticated markets will yield far greater returns than in more efficient market economies. Risky behaviour is thus rewarded, and the ‘smart’ investor seeking to maximize returns while simultaneously minimizing risks will be tempted to build a stable if ad hoc investment environment for itself by employing a singularly effective tool foreign investors have used for centuries to manage risk and maximize returns: corruption.

1.12  In theory at least, any foreign investment can be made more profitably and at less risk when enabled by corruption. Through its primary modality—the bribery of foreign public officials—corruption has emerged as a key expedient for foreign investment, allowing investors to obtain assurances of minimal risk and maximal return, thus immunizing the investment not only from political upheaval and changes in government policy, but indeed even from the uncertainties of the business cycle itself by purchasing a contractually guaranteed return on the investment, all of which is underwritten by an unsuspecting populace.

1.13  Ordinarily, an investor’s appetite to make risky investments is checked by the fear that he will lose everything in a foreign land he knows little about. In an effort to bring stability, the investor does his best to manage risk by soliciting the aid of public officials and partnering with local elites. However, assurances from government and alliances with local businesses often do not suffice or cannot be obtained easily, particularly in countries with poor governance and rule of law records. Investors in those countries seeking higher certainty and stability are often enticed to engage in corruption. Sometimes they actively employ corruption as a tool for capturing profit; at other times they do so merely to be able to participate in the economic activity of that State (they must ‘pay to participate’). Investors acting in this way always know the illegality of their actions yet decide to engage in corruption anyway, either overtly or tacitly.

1.14  Nevertheless, it is incorrect to view this complex human phenomenon from the investor’s perspective alone. For many (especially the non-elite citizenry), corruption cannot be instrumentalized to fit foreign investment needs and is much more a moral question than a legal or economic one. Perceiving the issue as ‘mere’ corruption, a necessary aspect of doing business in challenging environments, is anathema to those who uphold democratic values. It is no accident that one often hears of the ‘fight’ against corruption, of ‘combating’ corruption, even of the ‘war’ on corruption, as it is considered an existential threat to society, especially in Africa.5 Equal importance must be placed on both the ‘supply’ side of the corruption (p. 6) equation (i.e. the willingness of multinational firms engaged in transnational investment to make such payments as a facilitation of global commerce), and the ‘demand’ side, where bloated bureaucracies and kleptocratic regimes within host States dominate the national economy and engage in covert or outright rent-seeking.6 Those who view transnational corruption as a Manichean fable where the world is divided between villainous foreign investors and the largely good but easily tempted public officials of poor countries ignore a far more complicated reality.

D. Anti-Corruption: Formal Laws and Informal Codes

1.15  Prevailing attitudes on transnational corruption have over the centuries evolved from endorsement, to condonation, to criminalization. Corruption was used as an instrument of policy in the eighteenth century by the British East India Company in its transnational commerce with both the Indian kingdoms and the Empire’s colonial government,7 and the core idea behind the ‘geographical morality’ that justified such acts has had remarkable endurance: in 1994, the former British Secretary of State for Trade and Industry justified bribery under the guise of unwillingness to impose ‘western values’ upon the rest of the world.8 The 1960s saw the rise of revisionist approaches to corruption, in which social scientists argued that a moral foundation to the issue was unacceptable, as a working definition of corruption would have to be based on an a priori condemnation grounded on moral principles not universally shared by all societies. Revisionists emphasized the ‘unavoidable character of corruption at certain stages of development and the contributions of the practice to processes of modernization and development’.9 Oft-repeated is the surprising fact that up until the 1990s, Germany and France not only enabled their companies to extend ‘courtesies’ to foreign government officials without fear of criminal or civil liability; their tax laws actually allowed such payments as tax-deductible business expenses.10

(p. 7) 1.16  The major turning point in combating transnational corruption arose not through international cooperation or declared ‘universal’ aspirations, but unilaterally by the United States through the Foreign Corrupt Practices Act in 1977,11 partly in reaction to the Watergate scandal’s revelation that U.S. firms had used foreign connections to launder illegal contributions to the Nixon campaign.12 While U.S. President Carter rather idealistically assured U.S. business that others would emulate the FCPA, other developed, capital-exporting States were recalcitrant, refusing to adopt restrictions that would render them less ‘competitive’. Almost 20 years elapsed before the next significant step came with the enactment of the Organization of American States’ Inter-American Convention Against Corruption in 1996.13 This was quickly followed by the OECD Convention on Combating Bribery of Foreign Public Officials in International Business Transactions in December 1997,14 the Council of Europe’s Criminal Law Convention on Corruption15 and Civil Law Convention on Corruption (both in 1999),16 the African Union Convention on Preventing and Combating Corruption,17 and culminated in the first global anti-corruption treaty, the United Nations Convention Against Corruption in December 2003.18

1.17  Perhaps the main reason for the surge in the international law against corruption was the rare convergence of wills among multilateral developmental institutions such as the World Bank, capital-importing representative institutions such as the OECD, Non-Governmental Organizations (NGOs), and national governments alike. This consensus, in turn, was prompted in no small measure by the agreement of academics and policy-makers as to how serious an impediment corruption is to the long-term development of States.19

1.18  While seemingly absolute in its tone, the difficulty with the international law on corruption as it currently stands is that it lacks meaningful specificity. There is no consensus on how the procedural and substantive issues involved should be treated, and even if corruption is ultimately proven based on international or national legal standards, the question of consequences is left open—should such contracts be invalidated entirely, for example, or (in an outcome that is effectively a sanction) should corruption be considered a matter that if proven deprives a tribunal of jurisdiction to hear the investor’s clams, no matter how egregious the host State’s treatment of that investor may have been?

1.19  The discrepancy between formal condemnation (what governments say) and effective regulation (what they are actually prepared and able to do) exemplifies international law’s generally anaemic response to corruption. Well before inter-governmental institutions contemplated regulating corruption, the domestic statutes of virtually all States uniformly criminalized bribery and graft; yet these norms have largely failed to control the behaviour of transnational actors. The operating culture of host States, multinational corporations, and (p. 8) capital-exporting States continues to tolerate corrupt behaviour to greater or lesser degrees. This forbearance has not necessarily been unvaryingly damaging to host States—although far from conclusive, there is some empirical evidence which suggests that corruption is not per se dissuasive to the attraction of foreign direct investment20—and indeed, Transparency International believes that more open markets and globalization have actually increased overall levels of corruption, despite tightening national and international laws.

1.20  The divergence between what is said formally against corruption and actual modes of acceptable conduct within society (often especially pronounced in developing countries)21 has led Professor Reisman to identify the existence of ‘two “relevant” normative systems: one that is supposed to apply, which continues to enjoy lip service among elites, and one that is actually applied. Neither should be confused with actual behaviour, which may be discrepant from both.’22 He terms the first the myth system, which ‘clearly expresses all the rules and prohibitions (the “rights” and “wrongs” of behaviour expressed without nuances or shadings)’, and the second, an operational code that ‘tells “operators” when, by whom, and how certain “wrong things” may be done’.23 Periodic attempts to criminalize and further expand the definition of corrupt conduct are often ‘crusades’ that possess little more than symbolic (p. 9) meaning, particularly in the interim.24 Far from being diaphanous, explicit acknowledgment of the difference between myth system and operational code is vital in understanding the underlying motivations of decision-makers in international investment and in the resolution of disputes of this nature.

1.21  Squaring formal pieties with the reality on the ground is not a quest to unravel formal laws against corruption; nor is it an apology for corrupt practices. It is rather an attempt at recalibrating the decision calculus of international investment arbitration in order to make it a fairer, more realistic, and above all effective system capable of doing more than just lip service to the combating of transnational corruption.

E. Investor Protection in International Investment Arbitration

1.22  Like all other categories of foreign investment disputes, the treatment of transnational corruption will inevitably be filtered through one of the more controversial (but no less animating) policies underlying international investment law: the privileging of investor protection over the host State’s right to regulate commercial activities within its territory.

1.23  The international law governing foreign investment has experienced rapid change in a short time, and the primary tool for effecting that transformation has been the bilateral investment treaty (BIT), over 3,000 of which are currently in existence. Through BITs, capital-importing (usually but not always developing) host States have essentially entered into what Professors Salacuse and Sullivan described as a ‘grand bargain’ with capital-exporting States, agreeing to constrain the host State’s otherwise-plenary prerogative to take broad legislative and administrative acts in exchange for increased foreign capital and associated technology inflows to their territories—in other words, the promise of protection of capital in return for the prospect of more capital in the future.25 To give teeth to that bargain, BITs usually provide a binding form of redress: in the event of a dispute, investors and host States agree in advance to submit to arbitration—usually before tribunals constituted under either the auspices of the International Center for the Settlement of Investment Disputes (ICSID) pursuant to the Washington Convention,26 or ad hoc or institutional arbitration (such as the Permanent Court of Arbitration in The Hague) under the UNCITRAL Arbitration Rules—as a way of achieving impartial justice and the promotion of the respect for the rule of law, which underpins investment stability.27

1.24  Consistent with the bargain, arbitrators have repeatedly stated that international investment law is focused primarily at promoting foreign investment by providing effective protection to foreign investors who would otherwise be in a situation of weakness relative to the host (p. 10) State.28 Doubts and ambiguities in the content and application of the law are often resolved in favour of the investor (although this attitude may be changing and in any case has been called into question by many of those most familiar with the system, statistics having shown that host States win a majority of cases).29 Investor protection ties in neatly with the more general policy objective of improving a State’s investment environment and attractiveness to developed-world capital, as investor protection helps guarantee stability and predictability of a State’s regulatory framework.

1.25  Thus, while the availability of an arbitral recourse is a significant check on the sovereign prerogatives of a host State, it serves to assure foreign investors, thereby helping attract further investment, which ultimately contributes to the economic development of that State. At least in theory, it also has a positive effect on the rule of law, specifically on good governance: the protections accorded by investment treaties benefit foreign investors and also tend to enhance protection for domestic investors by increasing the State’s general standards of business protection against political risks across the board. This symbiotic process affects investor confidence, minimizes investment risk, and creates a favourable investment climate overall.30

F. Arbitral Attitudes

1.26  International investment arbitral awards have emerged as the main expositors of most economic aspects of international law. Save for two cases in the last half-century, virtually all international law dealing with investments, finance, and trade have been dealt with outside the International Court of Justice.31 Over the last decade, especially, investment arbitration has come into its own as a dispute resolution mechanism, and is beginning to manifest policies and preferences that are largely agreed upon by its diverse users.

1.27  That said, many of the counsel and arbitrators who serve as the primary actors in these disputes are taken from the ranks of arbitration lawyers dealing with commercial contracts resolved under the auspices of private commercial arbitration bodies such as the International Chamber of Commerce (ICC) or the London Court of International Arbitration (LCIA). Investment arbitration has thus come to import much of its practices and precedent from (p. 11) the culture of private commercial arbitration.32 In commercial arbitration, much more than before national courts, parties and tribunals are given striking freedoms to fashion the applicable law brought to bear on a given case. The horizon of potential ‘applicable law’ tribunals have drawn upon include the contractual terms themselves, the national law dictated by the parties, ‘international public policy’, public international law, and the mandatory laws of the forum and enforcing States.33 In most cases, this freedom is consciously authorized by the parties themselves in hopes of freeing disputes from the confines of sometimes parochial, presumably biased, and occasionally corrupt national laws and courts. There are potential weaknesses to such autonomy, however, including that arbitrators are tethered to fewer formal constraints curtailing their discretion.

1.28  Thus, in matters such as corruption, arbitrators do have quite extensive leeway, and preconceptions play an especially important role in determining the extent to which corruption issues will be dealt with, as international instruments are almost entirely silent on rules concerning burdens of proof, evidentiary weight, and appropriate degrees of sanction; all of these areas have been treated inconsistently in arbitral jurisprudence. One expansive study of private commercial arbitration decisions dealing with corruption found two general strands of decision-making co-existing within the system: a ‘repressive’ tendency wherein some decisions demonstrate willingness to decide issues of corruption and invalidate contracts on those grounds, versus an ‘indifferent’ tendency that prefers to confine itself to contractual terms because corruption is viewed as an inevitability or at least as a fault attributable to both parties.34

1.29  The constitutive order of investment arbitration is distinct from commercial arbitration because of the sovereign aspects of the legal framework supporting this mode of dispute settlement. The very consent of States to investment arbitration is found in treaties entered into between two or more States designed to benefit certain capital-exporting nationals of both as an incentive for greater investment. This more public character of investment arbitration does, in turn, add considerations to arbitral decision-makers that would not ordinarily be found in purely contract-driven commercial disputes. Intermingling the traditions of private commercial arbitration with international investment arbitration will thus not be seamless, and this book will look into how the interaction manifests itself in the area of transnational corruption.

G. Competing Legal and Policy Questions

1.30  This introductory discussion has already raised a number of issues, but a few further questions may help clarify the scope and nature of the inquiry from the outset.

  • •  If, as is suspected, many if not most significant foreign investments bear the taint of corruption either at the beginning or over the life of that investment, should the ubiquity of corruption in foreign investment affect the approach of investment arbitrators when faced with the issue in any way?(p. 12)

  • •  Formally, both international and national laws manifest a zero-tolerance approach towards corruption. A binary process occurs: there is either no corruption (often because of insufficient evidence when set against a high standard of proof), or there is corruption, at which point the automatic outcome is nullity of the claim in some form (whether invalidation of the contract or the denial of arbitral redress via a finding of no jurisdiction or inadmissibility). This brightline rule may be considered ideal for purposes of consistency and as a deterrence signal, and certainly seems to lend teeth to anti-corruption legislation and treaties. However, has this uncompromising view towards corruption actually resulted in increased findings of corruption in investment arbitration cases? Or has this ‘draconian’ range of consequences35 tended to have the opposite effect, with arbitrators seeking to avoid deciding issues of corruption whenever possible so as to avoid having to make such binary decisions?

  • •  Some would attribute the lack of investment arbitration cases dealing with corruption in an outcome-determinative manner as an indication that the current evidentiary rules governing corruption are unrealistic, or worse, an indirect technique for tolerating corruption in any but the most egregious or obvious cases. Is it permissible to vary (i.e. lower) the standards and burdens of proof in order to take due account of the clandestine nature of corruption and allow for the more effective resolution of corruption cases?

  • •  If corruption becomes a more central issue in investment arbitration, many more existing and future foreign investments will be opened to scrutiny and potential invalidation. Extracting accountability from investors and public officials who have engaged in corruption is highly important, but may have unintended consequences such as the increase of unfinished or mal-maintained projects that may hinder development goals of the host State indeed, the populace of that State itself. To what extent does an effective anti-corruption jurisprudence have to take account not only of the way corruption is proven, but also the types of sanction that can or should be imposed on those investments bearing a taint of corruption?

1.31  Finding the proper balance between protecting investment and punishing corruption has hardly ever been addressed in international investment law. Arbitrators have yet to provide real guidance on how corruption allegations should be decided in concrete cases; instead, when corruption is admitted, corruption is dealt with in severe terms (usually the loss of investor protections). However, when corruption is not admitted, arbitrators seem to have consciously avoided deciding on those allegations squarely whenever possible. This book examines every reported decision in investment arbitration that has engaged with the issue of corruption in a significant manner, in an attempt to understand the reasons behind this hesitance as well as the ways through which this might be overcome.

1.32  The study also explores the fairness concerns that exist in privileging anti-corruption laws over all other normative considerations. No consummated act of corruption is ever unilateral, and agents of both the investor and the host State are invariably involved in every corrupt transaction. Its pari delicto nature notwithstanding, a potentially disquieting trend emerges from an analysis of the case law: because it is mostly host States rather than investors (p. 13) that allege corruption (often of a previous regime) as a defence against any and all allegations of State misconduct (usually by contesting a tribunal’s jurisdiction to hear the tainted claim), there are as yet under-examined ethical considerations in allowing host States to invoke the corruption of public officials of prior or present governments of their own State as a defence against serious wrongdoing done to investors. These include questions of State accountability (including under international anti-corruption norms) and the potential for the cynical use or even the encouragement of corruption at the inception of the investment to inoculate host States against future investor claims. The prospect of corruption as litigation strategy, as a trump by host States to insulate themselves from otherwise legitimate obligations to investors, can be a genuine concern for the fairness of the system of international investment arbitration. As corruption rhetoric is imbued with such high moral sentiment, it is difficult to make any findings suggesting nuance without provoking bouts of outrage. It is thus a challenge to envisage how balance can be restored to ensure that the implementation of anti-corruption norms in investment arbitration extracts accountability for States as well as investors.

1.33  That said, investment arbitrators are obligated to apply national and international law when rendering decisions, and the policy animating legal proscriptions against corruption is clear: corruption is seen as a primary inhibitor of good governance and the development of credible national institutions, thus resulting in stunted development. A refusal to recognize the essential role anti-corruption norms play in the long-term development of States is clearly unacceptable and in its own way violative of the developmental goals that prompted the creation of investor protections in the first place.

1.34  The investment arbitrator rendering a decision is thus faced with a maze of legal and policy considerations, each having an impact upon outcomes not only for that specific dispute but also in other cases and perhaps even upon attitudes to investment arbitration itself as a tool for foreign investor redress and corruption minimization. Investment arbitrators forced to fill in the lacunae in law have to contend with the fact that what some might view as the primary obligation of investment arbitration—the protection of foreign investment against unlawful host State conduct—may do violence to the anti-corruption policies of both national and international authorities. It can be argued, for example, that because an investment was made in fact, and that its fruits—job creation, the inflow of wealth, consequent development—were enjoyed by the host State, complete denial of investor protections would be unwarranted. This approach would certainly uphold the value of protecting foreign investment, and perhaps even redound to the ultimate benefit of the host State’s ordinary citizens. However, it would be unreasonable for investment arbitrators to ignore the pathological nature of corruption, with all the economic (i.e. breakdowns in efficiency in the allocation of resources), institutional (i.e. damage done to the workings of government), and moral reasons underlying its proscription; to do so would amount to commiseration in undermining the host State’s rule of law and inhibiting good governance, with all the attendant developmental implications.

1.35  Investment arbitrators must also be cognizant of an even more fundamental objective often distanced from the immediate decision calculus: development. As development specialists know,36 corruption is a complex and perennial problem particularly for poorer States, and (p. 14) preconditioning assistance to rigid adherence to anti-graft laws can be unrealistic and ultimately harmful to the very countries most in need. Similarly, in a given investment dispute, it is not difficult to conceive of situations where corruption may have been involved at the point of the contract’s perfection, but where the investor then proceeded to build and complete the investment in a manner that comports with market standards. In such cases, the immediate developmental needs of the host State are met, despite the existence of corruption. However, if corruption is permitted to persist without effective sanction, the long-term corrosive effects corruption will have on the public institutions of the host State will be immense. Thus, even from a developmental perspective, finding the proper balance is not a simple binary matter.

1.36  As the authoritative decision-maker on the principles of international investment law in its most concrete applications, investment arbitrators are in a position to progressively develop the law in a manner that States and other legislative expositors cannot do; corruption, perhaps more than other human pathologies, is difficult to provide programmatic responses for. Arbitrators are also placed in a more sensitive position of equidistance from the parties—they are not international bureaucrats tasked solely to catch, punish, and eradicate corruption; but neither are they solely ‘creatures of contract’ tasked solely to interpret the economic terms provided within the four corners of the investment agreement. They lie at the centre of divergent claims to authority, and must balance between alternative prescriptions that, depending on circumstances, may tug with roughly equal force.

H. Overview of the Book

1.37  This book has two related aims: first, to study the phenomenon of corruption in international investment, the growing movement under international law to prevent and criminalize such behaviour, and its relationship with international investment law and arbitration; and second, to develop a general framework for investment arbitration decision-making when issues of corruption arise. By proposing a framework that traces the key issues international investment arbitrators should engage with whenever they are confronted with questions of bribery, this book will undertake what might be the first comprehensive analysis of all publicly available investment arbitration decisions (both treaty and contract-based) where corruption was raised as an issue and/or dealt with by the tribunal in some noteworthy manner. In the process, the book will touch upon the history and modern manifestations of transnational corruption, provide a typology of corrupt practices in foreign investment, and will scrutinize international normative efforts to combat bribery in foreign investment.

1.38  The succeeding chapters are organized under three distinct parts.

1.39  Part I appraises the phenomenon of corruption in foreign investment and international efforts at its control. In Chapter 2 (‘The Nature of Transnational Corruption’), a working definition of transnational corruption, including its history and the elements that constitute the ‘corruption equation’, is discussed. Closer scrutiny of contemporary corruption is undertaken by viewing two extremes: those of developing States with kleptocratic rulers, and mature industrial democracies. Chapter 3 (‘A Typology of Corruption in Foreign Investment’) (p. 15) categorizes the many modalities of transnational corruption within two groups—transactional and variance bribery. Transnational corruption is also parsed through the prism of risk, specifically whether insulation from political or economic risk is purchased by the bribe. Chapter 4 (‘International Efforts to Combat Corruption in Foreign Investment’) discusses how the various actors in the world community have sought to combat transnational corruption. The most important of these actors are, of course, States, and the discussion begins with the efforts of the U.S. through the Foreign Corrupt Practices Act. Attention is then turned to the OECD Anti-Bribery Convention and the various regional instruments inspired by that treaty, culminating in the U.N. Convention Against Corruption. Finally, the specific use of arbitration as a tool in the international response to transnational corruption will be discussed. The chapter ends with an appraisal of the strengths and vagaries of the current regime of international anti-corruption law.

1.40  Part II outlines the trends in arbitral jurisprudence concerning corruption. Chapter 5 (‘The Scope of Inquiry: Treaty vs. Contract “Investment Arbitration”’) clarifies the nature of the cases analysed and recalls the differences between international investment arbitration and international commercial arbitration as related but not identical forms of dispute settlement. Chapter 6 (‘The Cases’) then discusses the decisions and awards in the cases identified as significant, beginning with the 1992 Award in SPP v. Egypt through the late-2013 award in Metal-Tech v. Uzbekistan. Chapter 7 (‘Emergent Trends’) then identifies nine trends arising from the cases.

1.41  Part III seeks to integrate the findings in Parts I and II of the book and is more prescriptive in character. In Chapter 8 (‘Mere Corruption? On the Reluctance to Decide Corruption Issues’), the apparent inability of anti-corruption norms to affect outcomes in investment arbitration is examined. The chapter reflects on the possible reasons behind most arbitrators’ lack of engagement with corruption, including the possibility that corruption actually does affect decision outcomes, albeit without reasoning or through proxy issues. Chapter 9 (‘Proving Corruption’) deals with the various evidentiary matters that have led to difficulties in proving corruption, including the burdens of proof, standards of proof, and the use of inferences, presumptions, and ‘red flag’ indicia of corruption. An evidentiary regime that is equal to the task of unearthing inherently clandestine corruption is advanced. Chapter 10 (‘State Responsibility for Corruption: The Attribution Asymmetry’) then consolidates the discussion of arbitral decision-making on corruption through the lens of State responsibility. As it forms the foundation of all the substantive areas of public international law, the law on State responsibility is an ideal framework for analysing the interaction between international anti-corruption norms and international investment law and arbitration. The question of the extent to which States can, if at all, be held responsible for the corruption of their public officials is fundamental to the inquiry because the very idea of bilaterality—that both the ‘supply’ and ‘demand’ sides of bribery bear the attendant legal consequences—hinges on the idea that public officials motivated by corruption nonetheless exercise State power and in so doing can at least in principle engage the responsibility of the State. Moreover, the question of international responsibility encompasses not only questions of attribution, but also important issues relating to the scope of substantive international anti-corruption law and the extent to which a State’s own acts may limit or negate its ability to employ corruption as a defence against investor claims (such as by waiver and acquiescence). The book then concludes with Chapter 11 (‘Concluding Chapter: Legal and Policy Tensions Underlying (p. 16) Anti-Corruption Decision-making), which discusses the competing policy goals that vie for supremacy in every decision investment arbitrators make concerning corruption. The policies that underpin the system of international investment arbitration—investor protection, good governance, and economic development—are all considered vis-à-vis international anti-corruption norms, leading to the proposal of an additional framework for transnational corruption that may better assist arbitrators in the resolution of difficult corruption-related issues.

Footnotes:

1  See Daniel Kaufmann, Rethinking Governance: Empirical Lessons Challenge Orthodoxy 8–9 (World Bank Discussion draft, 2003); James Anderson et al., Service Delivery, Poverty Reduction and Corruption—Common Threads from Diagnostic Surveys 11–13 (Background Paper for the 2004 World Bank Development Report, 27 June 2003).

2 

The impact of high-level corruption goes beyond the mere scale of public investment and lost revenue for the public budget. Top officials select projects and make purchases with little or no economic rationale. For example, if kickbacks are easier to obtain on capital investments and input purchases than on labour, rulers will favour capital intensive projects irrespective of their economic justification... Corrupt rulers favour capital intensive public projects over other types of public expenditures and will favour public investment over private investment. They will frequently support ‘white elephant’ projects with little value in promoting economic development.

Susan Rose-Ackerman, ‘The Challenge of Poor Governance and Corruption’, in Global Crisis, Global Solutions (Bjorn Lombord (ed.), Cambridge University Press, 2004), 23.

3  Huguette Labelle, ‘Anti-Corruption: Challenges and Trends’, in The United Nations Global Compact: Achievements, Trends and Challenges (Andreas Rasche and Georg Kell (eds.), Cambridge University Press, 2010), 101, 111, citing Kaufmann 2004; see also Speech of U.S. Attorney General Eric Holder to the OECD, Paris, France, 31 May 2010, available at: <http://www.justice.gov/ag/speeches/2010/ag-speech-100531.html>.

4  Labelle, ‘Anti-Corruption’ (n 3), 111, citing Kaufmann 2004; see also Speech of U.S. Attorney General Eric Holder to the OECD, Paris, France, 31 May 2010, available at: <http://www.justice.gov/ag/speeches/2010/ag-speech-100531.html>.

5  In Africa, European colonial rule largely ended by the 1960s. However, most of the then-newly independent States—whether in East or West, North or South Africa—quickly became (and for many, continue to be) embroiled in an existential fight against poverty, violence, famine, and political instability. While these problems have myriad causes, some African scholars believe that at the root of them all lies corruption and its adjunct, bad governance. See Olanrewaju Fagbohun and Gbadebo Olagunju, ‘International Law and the Crisis of Corruption: Africa in Focus’ (2009) 2 J. African and International Law 1(2).

These sentiments are consistent with the views of the African people themselves—surveys indicate that an overwhelming majority of Africans (over 80 per cent) regard corruption as a very serious problem throughout the continent. See Fagbuhun and Olagunju, ‘International Law and the Crisis of Corruption’ (n 5), citing various surveys conducted in Ghana, Guinea, Mozambique, Sierra Leone, Zambia, and Southern Africa. Many African governments are indeed perceived to be the most corrupt in the world; in Transparency International’s surveys, Somalia, Sudan, Guinea, Chad, Equatorial Guinea, and the D.R. Congo are perennially at or near the top of the list of most corrupt States.

6  One empirical study demonstrates that high levels of corruption are associated with higher levels of public investment as a share of GDP, less productive public investment, and lower levels of total investment. See Vito Tanzi and Hamid Davoodi, ‘Corruption, Public Investment and Growth’, in Governance, Corruption, and Economic Performance (George Abed and Sanjeev Gupta (eds.), International Monetary Fund, 2002), 280–99.

7  See generally Padideh Ala’i, ‘The Legacy of Geographical Morality and Colonialism: A Historical Assessment of the Current Crusade Against Corruption’ (2000) 33 Vand. J. Transnat’l L. 877.

8  ‘Now when you’re talking about kick-backs, you’re talking about something that’s illegal in this country and that, of course, you wouldn’t dream of doing... But there was part of the world I’ve been to where we all know it happens. And if you want to be in business you have to do—not something that is morally wrong, because in some parts of the world... that’s not immoral or corrupt. It is very different from our practice and would be totally wrong in our environment but wasn’t wrong in their environment; and we must be very careful not to insist that our practices are followed everywhere in the world.’ George Moody-Stuart, Grand Corruption: How Business Bribes Damage Developing Countries (Worldview Publishing, 1997), 93, citing Talking Politics, BBC Radio Broadcast, April 1994.

9  Gabriel Ben-Dor, ‘Corruption, Institutionalization, and Political Development: The Revisionist Theses Revisited’ (1974) 62 Comp. Pol. Stud. 63, 65. J.S. Nye not only attacked the moralist analysis of corruption; he outlined the possible benefits of bribery, including (1) economic development, because some kinds of corruption may be an important source of capital formation; (2) the cutting of red-tape; (3) encouragement of entrepreneurship and incentives by allowing minority groups access to political decisions; (4) national integration, particularly overcoming the divisions among the ruling elite; and (5) a preferable alternative to violence. Ala’i, at 900, citing J.S. Nye, ‘Corruption and Political Development, A Cost-Benefit Analysis’ (1967) 61 Am. Pol. Sci. Rev. 417.

10  Alejandro Posadas, ‘Combating Corruption Under International Law’ (2000) 10 Duke J. Comp. & Int’l L. 345, 376.

11  Foreign Corrupt Practices Act (FCPA), Pub. L. No. 95-213, 91 Stat. 1494.

12  Kenneth W. Abbot and Duncan Snidal, ‘Values and Interest: International Legalization in the Fight Against Corruption’ (2002) 31 J. Legal Stud. 141, 161.

13  Done in Caracas, 29 March 1996, 35 I.L.M. 724.

14  Done in Paris, 17 December 1997, 37 I.L.M. 1.

15  Done in Strasbourg, 27 January 1999, E.T.S. 173.

16  Done in Strasbourg, 4 November 1999, E.T.S. 174.

17  Done in Maputo, 11 July 2003, 43 I.L.M. 1.

18  G.A. Res. 58/4, U.N. GAOR 58th Sess., Agenda Item 108, U.N. Doc. A/RES/58/4 (2003).

19  See International Handbook on the Economics of Corruption (Susan Rose-Ackerman (ed.), Edward Elgar, 2006), xvi.

20  A number of empirical studies have shown, in various times and contexts, that perceptions of corruption are not significantly correlated to levels of foreign direct investment. See David Wheeler and Ashoka Mody, ‘International Investment Location Decisions: The Case of U.S. Firms’ (1992) 33 J. Int’l Econ. 57–76 (finding no significant correlation between the size of FDI and the host country’s risk factor—including corruption); Alberto Alesina and Beatrice Weder, Do Corrupt Governments Receive Less Foreign Aid?, Nat’l Bureau Econ. Research (Working Paper No. 7108, Cambridge, MA) (1999) (insignificant finding between perceived corruption and investment, using foreign direct investment data from 1970–95); C.C. Okeahalam and I. Bah, ‘Perceived Corruption and Investment in Sub-Saharan Africa’ (1998) 67 South Afr. J. Econ. 386 (similar findings for a sampling of Sub-Saharan States); Pierre-Guillaume Méon and Khalid Sekkat, ‘Does the Quality of Institutions Limit the MENA’s Integration in the World Economy?’ (2004) 27 The World Economy 1475–98 (no significant impact of corruption on inflows of foreign direct investment for a small sample of Middle Eastern counties).

However, other studies provide evidence that corruption does indeed have a negative effect on foreign direct investment. See S.J. Wei, ‘How Taxing is Corruption on International Investors’ (2000) 82 Rev. Econ. & Stat. 1–11 (detects a significant negative impact of corruption on FDI between 14 course and 45 host countries in 1990–91, e.g. an increase in the corruption level from that of Singapore to that of Mexico is equivalent to raising the tax rate by over 20 per cent); J. Graf Lambsdorff and P. Cornelius, ‘Corruption, Foreign Investment and Growth’, in The Africa Competitiveness Report 2000/2001 (K. Schwab, J.D. Sachs et al. (eds.), Oxford University Press, 2000) (adverse impact of corruption on the ratio of FDI to GDP for African countries); J. Aizenman and M. Spiegel, Institutional Efficiency, Monitoring Costs, and the Investment Share of FDI (Fed. Reserve Bank of San Francisco Working Paper No. 2003–06, 2003) (negative impact of corruption on the ratio of FDI to total capital accumulation); G.T. Abed and H.R. Davoodi, ‘Corruption, Structural Reforms, and Economic Performance’, in Governance, Corruption and Economic Performance (G.T. Abed and S. Gupta (eds.), International Monetary Fund, 2002), 489–537 (negative impact of corruption on FDI for a cross-section of 24 transition countries); J. Doh and H. Teegen, ‘Private Telecommunications Investment in Emerging Economies: Comparing the Latin American and Asian Experience’ (2003) 1 Mgt. Res. 9–26. (investments in the telecommunications industry are adversely affected by the extent of corruption); J. Graf Lambsdorff, ‘How Corruption Affects Persistent Capital Flows’ (2003) 4 Econ. Gov. 229–44 (in a cross-section of 64 countries, corruption decreases capital inflows, e.g. an increase in Tanzania’s level of integrity to that of the U.K. increases net annual capital inflows by 3 per cent of GDP).

21  The legal philosopher Roberto Unger believed that in Third World countries, the ‘official political dogma’ professes fealty to rights, laws, and the ‘cult of consent’. However, in real life, we treat ‘each other as patrons and clients and trading in favours and dependencies, [showing] almost complete disbelief in all institutions not founded on blood, property, or power...as if a moment of personal presence were worth a thousand promises and as if any exercise of power could be tolerated so long as the veil of sentiment covered it’. Roberto Mangabeira Unger, Politics: The Central Texts (Zhiyuan Cui (ed.), Verso, 1997).

22  W. Michael Reisman, Folded Lies: Bribery, Crusades, and Reforms (Free Press, 1979), 16.

23  Reisman, Folded Lies (n 22), 1.

24  Reisman, Folded Lies (n 22), 105.

25  Jeswald Salacuse and Nicholas Sullivan, ‘Do BITs Really Work? An Evaluation of Bilateral Investment Treaties and their Grand Bargain’ (2005) 46 Harv. Int’l L.J. 67, 77. For a discussion on the impact BITs have had on governance in host States, see Jennifer Tobin and Susan Rose-Ackerman, Foreign Direct Investment and the Business Environment in Developing Countries: The Impact of Bilateral Investment Treaties, 5 May 2005 Working Paper.

26  See Convention on the Settlement of Investment Disputes Between States and Nationals of Other States, 18 March 1965, 575 U.N.T.S. 159.

27  Guillermo Aguilar Alvarez and William Park, ‘The New Face of Investment Arbitration: NAFTA Chapter 11’ (2003) 28 Yale J. Int’l L. 365, 369.

28  See Maffezini v. Spain, Decision on objections to Jurisdiction, Case No. ARB/97/7, 25 January 2000, paras. 54, 61; SGS v. Philippines, Decision on Jurisdiction, Case No. ARB/02/6, 29 January 2004, para. 116; Tokios Tokeles v. Ukraine, Decision on Jurisdiction, Case No. ARB/02/18, 29 April 2004, para. 32; Thunderbird Gaming Corp. v. Mexico, Separate Opinion Thomas W. Wälde, 26 January 2006, para. 4.

29  UNCTAD statistics for 2010 and 2011 have found that the majority of awards issued in investor-State disputes have been in favour of host States and against foreign investors. See IIA Issues Notes, UNCTAD Latest Developments in Investor-State dispute settlement, March 2011 (p. 1) and April 2012 (pp. 1, 3), available at: <http://unctad.org/en/PublicationsLibrary/webdiaeia2012d10_en.pdf http://unctad.org/en/docs/webdiaeia20 113_en.pdf>.

30  See generally Susan Franck, ‘Foreign Direct Investment, Investment Treaty Arbitration and the Rule of Law’ (2007) 19 Pacific McGeorge Global Bus. & Dev. L.J. 337, 372–3.

31  Jan Paulsson, ‘International Arbitration and the Generation of Legal Norms: Treaty Arbitration and International Law’, in International Arbitration 2006: Back to Basics? ICCA International Arbitration Congress series no. 13 879 (Albert Jan van den Berg (ed.), Kluwer, 2007), 886–7 citing Francisco Orrego Vicuña, International Dispute Settlement in an Evolving Global Society (Cambridge University Press, 2004), 19 (‘questions relating to major areas of international law, such as those dealing with trade, finance and investments, are never brought’ before the ICJ).

32  See Thunderbird Gaming Corp. v. Mexico, Separate Opinion Thomas W. Wälde, 26 January 2006 (noting similarities and differences between commercial and investment arbitration).

33  See R. Doak Bishop, James Crawford, and W. Michael Reisman, Foreign Investment Disputes (Kluwer, 2005), 623–758.

34  Abdulhay Sayed, Corruption in International Trade and Commercial Arbitration (Kluwer, 2004), 8–24.

35  See Zachary Douglas, ‘The Plea of Illegality in Investment Treaty Arbitration’ (2014) 29(1) ICSID Review—Foreign Investment Law Journal 1–32 (‘It would appear that the category of violations that do not provoke a jurisdictional infirmity is expanding in the jurisprudence to avoid the draconian effects of the approach to the plea of illegality under consideration.’)

36  See discussion in Chapter 2.