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Fossil Shutdowns Could Lead to Pricey Compensation Claims Under Investor Dispute Settlement Rules

A maze of more than 2,600 bilateral treaties and preferential trade agreements could expose governments to costly lawsuits by allowing foreign investors and shareholders to recover losses on their stranded oil, gas, and coal assets, according to a new analysis by the London, UK-based International Institute for Environment and Development.

“This could include key action to cut emissions, such as the early retirement of coal-fired power stations and oil refineries, not exploiting coal, oil, and gas reserves, as well as scrapping pipelines and other fossil fuel transport infrastructure,” IIED warns. “These are measures that governments need to take to fulfill their climate commitments under the Paris Agreement.”

At issue is the protection fossil industries receive under the investor-state dispute settlement (ISDS) mechanisms embedded in international trade agreements. Those provisions “could require governments—effectively the taxpayers—to pay large amounts of compensation to fossil fuel companies,” the organization states. With fossils’ stranded asset risk estimated at US$2 trillion in the power sector and $3 to $7 trillion for oil and gas reserves, “the cost could be substantial”.

So far, calculations produced by ISDS tribunals have resulted in “huge payouts”, reflecting estimates of what abandoned fossil assets could have paid out over their operating lifetimes. But “these projections often do not take into account the volatility of fossil fuel prices as renewables have become more competitive and as other factors have impacted the market,” IIED states.

The analysis shows that most of the world’s 257 foreign-owned coal plants—”which need to be retired early in order to put the planet on track to keep temperature rise below 1.5°C above pre-industrial levels”—are protected by ISDSs. Indonesia, alone, could be on the hook for at least $7.9 billion for 12 coal-fired power plants.

Even if an ISDS claim is never officially lodged, the current framework could still work to international investors’ advantage, and to the detriment of governments and taxpayers, the IIED report says. “Even in the absence of legal proceedings, the explicit or implicit threat of recourse to ISDS can enhance businesses’ position in negotiations with states,” the authors write. “As a result, more public funds may be spent on compensating the fossil fuel sector than would otherwise be the case, making it more costly—and thus more difficult—for states to take energy transition measures.”

The report includes a framework for assessing the risk that energy transition decisions will lead to ISDS claims. IIED released it October 5, just as a UN trade body opened five days of meetings on possible reforms to current ISDS rules.

“Ending dependence on fossil fuels is crucial to being able to tackle climate change, and our research shows that rethinking investor-state dispute settlement is a key part of making that possible,” said Director Andrew Norton. “It is vital that people are not made to bear the costs of compensating fossil fuel companies and that the state instead invests in clean, green alternatives.”