The Greek Sovereign Debt Rescheduling, EU Bail-In and Investment Arbitration

by Prof. Georges Affaki*

Many readers of this Blog spent the summer watching the brinkmanship of the Greek national debt third bailout unfold. Few were aware that part of that debt was being bitterly fought in fora other than the European Commission or the Greek Parliament: investment arbitral tribunals. This article reflects on the future of sovereign debt-related claims before investment arbitral tribunals in the wake of the Poštová Banka award and assesses the impact of recent EU bail-in regulation on property rights and possible challenges thereto.

A creditor of Greek sovereign bonds (GGBs), Poštová Banka claimed before ICSID that the Greek law ordering a forced exchange of its bonds violated its investor rights. It was arguably encouraged by a line of case law where ICSID tribunals have construed the concept of a qualifying investment broadly so as to cover financial instruments. The alternative would have brought the claimant to submit its case to Greek courts pursuant to the jurisdiction clause in the bonds.

Poštová Banka had purchased series of dematerialised GGBs. Because it is not approved by the Bank of Greece as a primary securities dealer, it had in fact purchased rights in a portfolio of GGBs through Clearstream. Greece argued that the claimant’s rights were not protected investments under either the BIT or the ICSID Convention. It argued that that Poštová Banka had never held GGBs, but has acquired a stake in a pool of fungible interests in GGBs on the secondary market. The claimant relied heavily on the Abaclat award where the tribunal upheld its jurisdiction in respect of Italian bondholders’ rights in Argentine bonds purchased from Italian banks, not from Argentina itself. The majority had rejected attempts to separate the primary and secondary markets, in effect finding that investors in the secondary market had provided a contribution to the host State.

The claimant needed also to evidence that its investment is made in the territory of the host State. Contrary to an infrastructure project, the localisation of dematerialised financial instruments may prove challenging. The first ICSID award to rule that financial instruments warranted a specific territorial connection test was Fedax. The tribunal ruled that funds involved in financial transactions need not be physically transferred to the territory of the beneficiary; they can be put at its disposal outside its territory. The majority in the Abaclat and in the Deutsche Bank ICSID awards followed that reasoning. Poštová Banka argued that it was sufficient that its funds were put at the disposal of Greece to foster its economic development, without needing to be linked to a specific project.

Similar to many treaties, the Slovak-Greek BIT provides a broad definition of “investment” followed by a list of examples including corporate debentures and loans. The tribunal did not agree that this means that any category of assets may qualify as an “investment”. It ruled that interpreting a treaty in good faith requires providing some meaning to the examples listed. After offering a review of elementary banking law concepts underscoring the difference between GGBs and corporate debentures or loans, the Tribunal concluded that the GGBs were not qualifying investments under the treaty and, as such, it lacked jurisdiction to rule on the dispute. The majority offered some comments as to whether the GGBs amounted to a qualifying investment under the ICSID Convention. Contrary to the earlier part of the award, they are less persuasive. In particular, it ventured to propose that financial instruments that are not linked with an economic venture cannot be considered as investments per se.

Until the Poštová Banka award, the award on jurisdiction in Abaclat was considered as a persuasive precedent that any forced rescheduling of national debt, haircuts, compulsory introduction of collective action clauses, conversion to equity and other forms of State interference in the terms of sovereign bond loans would lead to a vindication of holdout creditors by way of awarding damages under the relevant investment treaty. The award in the Poštová Banka case demonstrates the limit of that reasoning: similarly-worded broad definitions of “investment” in BITs may lead to different awards.

While the majority reasoning concerning the objective characterisation of an investment under article 25 of the ICSID Convention is unconvincing, the unanimous decision of the tribunal to give effect to the non-exhaustive list of illustrations of investments provided in the treaty, as opposed to stopping at the general definition of investment, is well argued and supported by a cogent interpretation of the Vienna Convention. In the end, each case will stand on the merit of its own facts and the terms of the particular BIT.

On 5 August 2015, Poštová Banka filed an application for partial annulment of the award.

Prospects for the future: EU bail-in and investment arbitration.  As indicated above, the Greek bond exchange act import a bail-in feature that requires creditors, rather than tax payers, to bear the loss. On 15 April 2014, the European Parliament adopted the Bank Recovery and Resolution Directive (BRRD). It requires shareholders and unsecured creditors to bear the costs of recapitalising failing banks in the case of a resolution. This is achieved by canceling shares and writing down debt or converting it into equity which is expected to increase the immediate loss-bearing capacity of the failing bank. It could be argued that measures of this type amount to an interference with constitutional and ECHR-protected fundamental rights to property. While the challenge of the Greek austerity measures before the ECHR has shown that a law that does not leave creditors worse off than what would be their situation in an insolvency is unlikely to be found a violation of their right to property, bailed-in creditors and shareholders of failing banks may seek to assert that the bank resolution decision violates investment law. Rather than arguing that EU law (in this case, the BRRD) itself violates investment law, they might argue that it is the resolution decision itself which does so.

A possible ground for that argument could be expropriation: where the cancellation or conversion of debt deprives the creditor of its original property. As such, it could be considered an expropriation even if the creditor obtains new shares in return. Such a claim would be justified if the claimant establishes that the expropriation was implemented for a purpose other than a legitimate public purpose, was discriminatory or was made without proper compensation. Like the ECHR, an investment arbitration tribunal is expected to recognise a resolution authority’s margin of appreciation when deciding when a resolution decision is to be taken. Should that decision appear to have been taken while the bank was not likely to fail, the bailed-in creditor’s case would have significant chances of success.

As an alternative to expropriation, the bailed-in creditors might argue the violation of their right to fair and equitable treatment. The outcome will largely depend on whether those creditors were given a right to challenge the resolution decision in judicial proceedings that protect their right to due process. An alternative could be a challenge of the proportionality of the decision. The resolution authority would likely counter that the BRRD requires that bail-in only be considered when the other resolution tools listed in BRRD article 37 do not allow bank recapitalisation. This leaves the lack of transparency of the administrative process and the absence of planned consultation with creditors as grounds for a possible challenge. The future will tell how arbitral tribunals will assess these complex parameters.

* Prof. Georges Affaki, Independent Arbitrator, France.

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