What good are BITs?

Source: Business Standard

Relevance: Harnessing the potential of Bilateral Investment Treaties to promote economic growth

Synopsis: Many of us in India are irritated when the country’s state agencies lose cases (example Cairn energy case), and large penalties have to be paid on account of Bilateral Investment Treaties (BITs). But from India’s viewpoint, it is efficient to enter into BITs.

Why it is efficient to enter into BITs? 

• They provide insurance to foreign investors from risk of expropriation.
• To improve our policy framework – state can harness lost BIT cases as a feedback loop for improving policy framework.

What is expropriation?

When the state grabs private property, this constitutes expropriation.  In an early-stage democracy like India, the checks and balances that control the behavior of the state are limited. From the viewpoint of a foreign investor, making business plans in India involves expropriation risk.

Importance of BIT to a foreign investor

Other than expropriation risk, a foreign investor is marred by following issues:

• Low voice in the political system: Locals have a greater voice in the political system and have a better sense of how policies will evolve in the future. While  Foreign investors know less about India, have a low voice in the political system.
• Lack of confidence: Local companies are more confident in their activities, and take greater risks in the interpretation of law. Foreign companies are more unsure, and opt for extremely conservative interpretations. Hence, the rate of tax payment by foreign companies operating in India is systematically higher than local companies.
• Expropriation is difficult to quantify and insure: Expropriation risk and policy risk is difficult to quantify and impacts upon different situations in a non-uniform fashion. It is not easy to label a precise outcome as having involved expropriation. Hence, it is not an insurable risk. It is not a risk against which the global insurance market will supply protection to foreign investors.

Hence,  if we do nothing about this, the required rate of return for investment into India is enhanced and many investments do not take place.

How to address the issue?

BITs are an effective mechanism through which this issue could be solved. It consists of following benefits –

1. They act as an insurance for foreign investors against expropriation risk and policy risk
2. Provides for effective dispute redressal mechanism such as hearing, at a neutral forum, where both sides argue their case
3. Creates additional layer of checks and balance against arbitrary behaviour of government
4. Encourages greater investment into India, which is in the country’s interests
5. Strengthen investment policy framework where lost cases act as feedback

Way forward

Each lost case is an opportunity that can lead to improvements in the policy framework so that similar situations would not recur in the future.

Terms to know

• BIT