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Balancing foreign investor protections with domestic policy initiatives in South Africa

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Rudolph Gerhard
Gerhard Rudolph

Partner

Johannesburg

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Thackwell Robert
Robert Thackwell

Senior Associate

Johannesburg

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14 August 2019

One should not underestimate the positive effect of foreign direct investment on a country’s growth and development and the importance of creating an investor-friendly environment in uncertain economic times.

Balancing foreign investor protections

Bilateral investment treaties (BITs) have traditionally been concluded between countries to regulate private investment by people and companies of one country in the other. A typical BIT contains various investor safeguards and is one of the key international instruments used to facilitate mutual foreign direct investment.

It is generally accepted that investor safeguards in traditional BITs have the practical effect of shielding foreign investors from domestic policy initiatives. The result is that a foreign investor may, in some instances, block or interfere with domestic policy measures it perceives to be in breach of the foreign investor protections contained in traditional BITs. The resulting tension is worsened by the dispute resolution mechanism in traditional BITs, which usually requires disputes to be arbitrated before a foreign tribunal. Such a tribunal may lack an appreciation of the rationale and purpose behind domestic policy initiatives such as, in the context of South Africa, affirmative action and land reform.

Despite its initial push to conclude multiple BITs in the 1990s, due to the inequity identified above, the South African government has more recently terminated a number of BITs and allowed others to lapse. Related to this course of action was the enactment of the Protection of Investment Act 22 of 2015 which has, as its one of its stated objectives “the protection of investors and their investments”. This legislation is largely an attempt by the South African government to fill the void left by the terminated and lapsed BITs. The reality, however, is that this legislation represents a significant watering down of the protections that foreign investors previously enjoyed in South Africa and will continue to result in increasingly negative foreign investor sentiment and decreased levels of foreign direct investment in South Africa.

Foreign investors may take comfort in an independent judiciary

Although the substantive provisions of the Protection of Investment Act present a number of challenges, foreign investors can take comfort in the strength of the South African judiciary, which has remained resolutely independent. Domestic judges are not overtly politically affiliated and, on several occasions, the judiciary has ruled against the government and members of the executive; this has included sitting presidents. Famously (and quite recently), the Chief Justice ruled against ex-President Jacob Zuma, finding that he breached his constitutional duties, and ordered him to repay large sums of money by which he had been enriched at the expense of the South African fiscus.

Whilst the courts are required to decide investor-state cases within the prescripts of the Protection of Investment Act (to the extent that the case is not covered by existing BITs), in our view, there is no legitimate reason to fear an unbridled partisan approach by South African courts in favour of governmental policy objectives. A measured approach is more likely, particularly given that the provisions of the Protection of Investment Act are open to interpretation and the statute itself recognises the importance of investment for the facilitation of economic growth, job creation and sustainable development in South Africa.

A new, more balanced approach to investment treaty strategy is emerging

Brazil, an emerging market itself, has never ratified a BIT. However, it has, quite recently and in apparent recognition of the value of investment treaties, developed an alternative to the traditional BIT, which it calls a cooperation and facilitation investment agreement (CFIA). The Brazilian CFIA represents a more balanced approach to investment relations by allowing certain traditional investor protections (for example, the most favoured nationprovision and protections against expropriation) while reserving a measure of regulatory independence for itself. The success or otherwise of the Brazilian CFIA remains to be seen, with the first ones only being signed during 2015.

The investment promotion and protection agreement signed at the end of 2016 between Morocco and Nigeria is strikingly similar to the Brazilian CFIA. The overriding principle behind this treaty, as with the Brazilian CFIA regime, is the encouragement of reciprocal investment whilst safeguarding the host nations’ right to control domestic policy. The Southern African Development Community (SADC) has also developed a model BIT for its member nations. The SADC model BIT also retains some of the traditional BIT clauses, but includes measures aimed at protecting the host nations right to pursue domestic policy initiatives and development goals.

The Brazilian CFIA, the Morocco/Nigeria treaty and the SADC model BIT represent a new, more balanced approach to investment treaty strategy. All of these have in common the encouragement of foreign direct investment, foreign investor protections and state policy safeguards. The tide appears to be turning against the more one-sided, investor-biased, traditional BIT model, and South Africa may be able to capitalise on this trend and recover from recent policy missteps.

South Africa has options

Fortunately, South Africa has not completely closed the door on BITs and recognises that some level of international investor protection may be unavoidable. Whilst the Protection of Investment Act certainly constrains the scope of future BITs, it does not prohibit them entirely. This is good news and will allow the South African government to enter into strategic BITs in the future, albeit that the provisions of those BITs will require a balancing act between the competing interests of the state and foreign investor.

Given the relative novelty of the more balanced approach to BITs, there is no meaningful data around the impact this approach might have on foreign direct investment. There is, however, some data from the CPB Netherlands Bureau for Economic Policy Analysis, which suggests that BITs, once ratified, result in an increase in foreign direct investment of approximately 35% for developing nations that are viewed as high risk investments. In comparison, there is no effect on foreign direct investment into developed countries when a BIT is ratified. This is compelling evidence of the generally accepted idea that investment treaties contribute significantly to increased levels of foreign direct investment in developing economies. South Africa can ill afford to ignore this data.

This article first appeared on the Practical Law Arbitration Blog on 8 August 2019.