Evolution of Investment Law

Developmental Stages of Investment Protection in

India
Indian policy towards foreign investment and its
protection have transformed overtime under three
phases.
The First Phase of Investment Protection (1947-
1991)
The changes in the first phase were gradual with
variations.
During pre-independence, the British Government
policy encouraged investors from Great Britain,
undertook steps for their promotion and protection
and actively discouraged domestic Indian
investments and investors.
The British funded industry associations showed
complete indifference to the needs of Indian
businesses and expectations.
During World War –II, the Indian shipping
industry was requisitioned and control was
handed over to those protecting British shipping
interests.
Besides the hostile regulatory framework
towards Indian investors, the market conditions
were maintained unfavourably through other
means.
With independence, India became host to a
large body of foreign capital; it was ¾ British,
almost entirely private owned, featuring a fairly
typical investment in a colonial economy.
Having faced discrimination at the hands of the
British Government, there was resentment
towards foreign investment in the Indian
domestic industry.
It was insisting that all foreign investments be
bought and their control from foreign hands be
taken away.
It was felt that the existing foreign investments
particularly in natural resource extraction were
retarding the nation's development.
The newly formed government of independent
India did accept this approach; rather, it
especially in 1950s and 1960s was receptive of
and welcomed foreign investment, with a view
to get technology, skill and control transferred to
the Indian nationals.
In 1961, the Government of India established India
Investment Centre with offices in major capital
exporting countries with a view to disseminate
information and advice on profitability of investing
in India.
The peculiar characteristic of India was absence of
mass scale nationalization of foreign business, as
was done in other newly independent countries.
However, nationalization was undertaken sector
wise in India, applicable without discrimination
towards foreign investors. In some cases foreign
investors were excluded from such measures.
Air transport was nationalized in 1953, Imperial
Bank was nationalized in 1955, life insurance in
January 1956 and Kolar Gold Fields in December
1956.
The period between 1965-1981 was turbulent,
as it was a time of economic difficulty for India
and economic disparity within India.
Inward-looking protectionist measures were
adopted, which made foreign investors lose faith
in the economy.
It was the time of second wave of
nationalization, targeting domestic companies
and excluding foreign investors.
Privately owned commercial banks were
unwilling to lend to crucial sectors like
agriculture and small-scale industry.
The Government decided to nationalize the
banking sector, though foreign banks were
excluded.
Nationalization of coal sector took place to
control rampant and unregulated coal mining.
The Foreign Investment Board (FIB) was set up
in 1968 to regulate incoming foreign investment.
Along with the already existing protectionist
policy, another rigid approach taken through the
enactment of Foreign Exchange Regulation Act
(FERA), 1973 further antagonized foreign
investors.
Shareholding of foreign firms in various sectors
was largely controlled.
As per the industrial policy of 1977, foreign
companies were required to dilute their equity
up to 40% to get NT.
The Second Phase of Investment Protection
(1991-2011):
The trigger point for giving up the protectionist
domestic policy and heavy regulatory
framework was the balance of payment crisis.
FDI up to 51% was permitted in crucial sectors
and 100% in energy sector. Foreign Investment
Promotion Board (FIPB)was set up.
The FERA was amended to treat foreign
companies with more than 40% of foreign
equity at par with domestic companies.
The Third Phase of Investment Protection (2011
Onwards):
The third era started with India losing the first
investment case filed by an Australian investor
White Industries in 2011.
The case exposed the vulnerability of India to
investment claims.
A swathe of notices were lodged against Indian
government for various actions, including some
made against the decision of the Supreme Court
(e.g., Centre for Public Interest Litigation v Union
of India, 3 SCC 1 (2012)).
The Government of India through the Ministry of
Commerce prepared a paper on India’s BIT
programme.
It concluded that ‘there was a need to rethink the
role of BITs in attracting foreign investment in India’.
Further, it was stated that ‘when developing
countries enter into BITs, a balance between
investor’s rights and domestic policy must be
ensured.’
The existing Indian BITs lack balance between
investor protection and regulatory freedom of
India; and a need to review the BITs was expressed.
Owing to a number of BIT claims levelled against
India, it decided to put all then ongoing stand-
alone BIT negotiations on hold.
In 2015, a draft Model BIT was issued which
would become the basis of negotiation for
future BITs and all the existing BITs were
cancelled in 2017.
The Model BIT represents a major shift of India
towards investor protection through BITs.
It introduced the concept of sustainable
development in the preamble for the first time
and emphasized the need of conserving
regulatory space for undertaking regulations for
public interest.
A shift from ‘asset-based’ to ‘enterprise-based’
in the Model BIT indicates that India proposes
a narrow ‘enterprise-based’ definition for
investment, whereby only direct investments
are protected under the treaty.
Further, the model BIT completely omits the
“fair and equitable treatment” standard.
The well-recognized doctrines of “MFN” (Most-
Favoured Nation) and “legitimate
expectation” are also absent.
In the model BIT taxation measures have been
exempted from the protections offered under
the BIT.
Model BIT also removed umbrella clause as well.
The draft Model BIT was far reaching since it
severely curtailed the dispute resolution
standards by introducing the requirement of
exhaustion of local remedies rule.
The model BIT seems more like a restatement of
international law on sovereignty rather than a
treaty meant to protect cross-border
commercial transactions.
 Theories of Foreign Investment Law
Theoretical conflicts have had an impact on
shaping legal attitudes to foreign investment.
The conflict is between two extreme theories,
one of which maintains that foreign investment
is wholly beneficial to the host state while the
other maintains that, unless a state veers away
from dependence on foreign investment, it
cannot achieve development.
All theories focus attention on the economic
development of the host state, particularly the
host developing state.
 The classical theory on foreign investment
The classical economic theory on foreign investment
presents that foreign investment is wholly beneficial
to the host economy.
The fact that foreign capital is brought into the host
state ensures that the domestic capital available for
use can be diverted to other uses for the public
benefit.
The foreign investor usually brings with him
technology which is not available in the host state.
There is new employment created, whereas, without
foreign investment, such opportunities for
employment would be lost.
The labour that is so employed will acquire new
skills associated with the technology introduced
by the foreign investor.
Skills in the management of large projects will also
be transferred to local personnel.
Infrastructure facilities will be built either by the
foreign investor or by the state, and these
facilities will be to the general benefit of the
economy.
The upgrading of facilities such as transport,
health or education for the benefit of the foreign
investor will also benefit the host society as a
whole.
 The dependency theory
The dependency theory is diametrically opposed
to the classical theory, and takes the view that
foreign investment will not bring about
meaningful economic development. It was a
theory popularised by Latin American
economists and political philosophers, though
work based on it has been done in other parts of
the world.
The proposition is that the subsidiary devises its
policies in the interests of its parent company
and its shareholders in the home state.
The dependency theory comes to the
diametrically opposite conclusion to that of the
classical theory, in that it holds that foreign
investment is uniformly injurious.
It holds that, rather than promoting
development, foreign investment keeps
developing countries in a state of permanent
dependency on the central economies of
developed states.
 The middle path
Many states have seen more wisdom in a
pragmatic approach to the problem than in
ideological stances.
The fear that multinationals pose a threat to the
sovereignty of developing states has receded
with the increasing confidence of the developing
states in managing their economies.
Multinational corporations have also left behind
the role of being instruments of the foreign
policy of their home states.
On occasions, they have even formed alliances
with developing countries to the detriment of
their home states.
Some of the larger multinational corporations
are capable of conducting foreign policy for their
own benefit.
While supporting the view that foreign
investment through multinational corporations
could have harmful results in certain
circumstances, the studies of UNCTC showed
that, properly harnessed, multinational
corporations could be engines that fuel the
growth of the developing world.
 Risks in foreign investment
The risks to foreign investment increased after the
end of the colonial period.
Where investment was taken into countries which
were not under colonial domination, protection
was secured through diplomatic means, which
often involved the collective exercise of pressure
through the threat of force or economic sanctions
by the home states of the investor.
In the absence of protection through the exercise of
military power (e.g., gun-boat diplomacy), there has
been an increase in the risks to foreign investment
in the modern world.
The principal risks to foreign investment come
from certain uniform and identifiable forces,
resulting from either regime change or changes
to the existing political and economic policies of
the host state.
The right of a state to change its economic
policy is recognised though that right may now
come to be circumscribed by the increasing
number of treaties on international investment.
Risk factors in foreign investment
Ideological hostility:
Communist ideology is opposed to private
capital and private means of production.
Communist states are experimenting with mixed
systems that permit the influx of foreign
investment even into sectors of the economy
that are controlled by state entities provided the
foreign investor makes a joint venture with
these entities.
In states which are opening their doors to
foreign investment, there are still political forces
which remain antagonistic to foreign investment
either because they are socialist or because they
resent the possibility of foreign control of
business sectors.
Where groups with ideological beliefs opposed
to foreign investment come to power, there will
be a definite threat to foreign investment.
Nationalism:
Nationalistic sentiments pose a threat to foreign
investments, particularly at times when the host
economy is in decline, prosperous foreign
investors who are seen to control the economy
and repatriate profits will be easy targets of
xenophobic nationalism.
They are ready targets for opportunistic
politicians who may see advantage in such a
situation to bring about a change of
government.
In 1952, when the Mossadegh government
sought to nationalise foreign owned assets in
Iran, it was overthrown by the joint efforts of
the United Kingdom and the United States. The
monarchy, which favoured foreign capital, was
reinstated.
The Iranian revolution of 1979 was both
nationalist and fundamentalist, which resulted
in the taking of US business interests.
SPP v Egypt ((1992) 8 ICSID Rev 328.) is an
arbitration which illustrates the manner in which
nationalistic feeling may engineer foreign
investment disputes.
 Ethnicity
The role of the ethnic structure of the host state on
foreign investment has become a focus of attention.
This situation of ethnic nationalism poses a threat to
foreign investment.
The institutions of the free market and democracy
are not effectively mediated in developing states, as
they are in the developed world.
Some states (like Malaysia and South Africa) have
sought to deal with the problem through
constitutional means to ensure that the majority
community has the opportunity of sharing the
economic cake in proportion to its size.
 Changes in industry patterns
Where there are changes in an industry
throughout the world, those changes will likely
affect ownership patterns within that industry,
and this will affect the foreign investor’s
interests throughout the world.
The oil crisis in the 1970s was provoked by the
concerted effort on the part of the oil-producing
nations to take control of the oil industries in
their states and to fix the price of oil.
 Contracts made by previous regimes
Incoming governments may wish to change the
contracts made with foreign investors by
previous governments.
This may take place where there are allegations
of corruption in the making of contracts, or
where the legitimacy of the previous
government is doubted on objective grounds by
the incoming government.
 Onerous contracts

Foreign investment contracts, which become too

onerous to perform, are also subject to the risk
of government intervention.
In these circumstances, states will reduce the
loss that could be suffered by the state or the
state agency by interfering legislatively with the
contract.
 The law-and-order situation
Instability in the law-and-order situation in a
state poses a threat to foreign investment.
Where the political situation foments animosity
against foreigners and targets their property,
difficulties will arise.
These usually arise when the government is
unable to contain marauding mobs and gangs of
criminals or when the government itself
foments uprisings against foreigners,
 Actors in the field of foreign investment
•The multinational corporations
•State corporations
•International institutions
•Non-governmental organisations
•Sovereign wealth funds