| Dila GÜNEŞ ÜSTÜNDAĞ Senior Associate, Litigation and Dispute Resolution | Rana TOPRAK Trainee Lawyer |
ABSTRACT
In this article, the current reform process within which the investor-state dispute settlement (ISDS) mechanism finds itself is comprehensively evaluated in light of the UNCITRAL Working Group III proceedings, the European Commission’s policy documents, and ICSID Review academic analyses.
Keywords: ISDS, UNCITRAL WGIII, ICSID, Investment Arbitration, Appellate Mechanism, MIC
INTRODUCTION
International investment law has positioned itself at the centre of global economic relations, particularly since the 1990s, owing to the rapidly proliferating bilateral investment treaties and the confidence placed in the arbitration mechanism for resolving disputes arising from the implementation of such agreements. Relations between states and foreign investors have predominantly been governed by arbitration proceedings based on ICSID and UNCITRAL rules; these processes have established a stable infrastructure providing assurances to investors. However, over time, the system has become the focal point of serious reform debates due to the increasing number of cases, protracted proceedings, high costs, and criticisms concerning arbitrators’ independence. In this context, the ISDS reform conducted by UNCITRAL Working Group III signals a significant transformation at both institutional and normative levels. The scope and methodology of the reform are addressed in detail in the European Commission’s official policy documents on the ISDS mechanism; meanwhile, ICSID Review clarifies the legal framework of this transformation by deepening academic discourse. This study examines what the reform process aims to achieve, which steps have been taken, and how it will shape the future of the investment landscape.
I. THE CONCEPT OF INTERNATIONAL INVESTMENT AND THE LEGAL INFRASTRUCTURE OF FOREIGN INVESTMENTS
Concurrent with globalisation, international investments have increased substantially; parallel to this development, economic relations between states have assumed a more complex and multifaceted character. These developments have laid the groundwork for the emergence of various legal regulations and specialised fields, both to support commercial activities and to enable effective resolution of potential disputes. Within this framework, distinct protection mechanisms and concepts have been developed in international law to safeguard foreign investments and ensure their continuation within a sustainable system.
A. The Concept of Investment
Determining the boundaries of the concept of investment and identifying which economic activities qualify as investments is of paramount importance, particularly for the assessment of disputes. Broadly speaking, while investment is expressed as the allocation of capital, resources, or assets by a person to a specific activity with the aim of obtaining economic benefit; foreign investment denotes investment made in the host state’s economy through capital originating from another country. A foreign investor refers to the natural or legal person transferring such capital to the host country. Capital transfers may be effected by individuals or companies, or alternatively by states; in such circumstances, inter-state economic relations are deemed to have arisen.¹ In the 2001 decision of the ICSID Arbitral Tribunal in Salini v. Morocco, a series of criteria referred to in the literature as the Salini Test were established to determine the elements of investment. According to this test, for an activity to be characterised as an investment, it must constitute an economic process continuing for a certain duration, involve a certain level of risk, and contribute to the economic development of the host state.² Thus, the Salini test enables the examination of whether an activity falls within the scope of investment through concrete criteria and delineates more clearly the boundaries of disputes that may be subject to investment arbitration.
B. Legal Infrastructure of Foreign Investments: Investment Agreements
Investment agreements, which constitute the foundation of foreign investment law, represent one of the most critical mechanisms regulating relations between foreign investors and host states, safeguarding investors’ rights, and determining the legal framework to be applied in dispute resolution. The purpose of these agreements, wherein one party is the investor and the other is the state receiving the investment, consists of supporting the host state’s development on the one hand, while ensuring the protection of the investor and delineating the boundaries of arbitral tribunals’ jurisdiction on the other. With the increase in international investments, states have begun to employ bilateral investment agreements—otherwise known as Bilateral Investment Treaties (“BITs”)—extensively, with the aim of enhancing investors’ legal security and promoting the investment environment. These agreements seek to protect investors against arbitrary practices by the host state, thereby ensuring the provision of fair and equitable treatment standards and guaranteeing the continuity of commercial stability. Beyond these characteristics, BITs also provide additional legal protection to investors by envisaging that disputes between foreign investors and host states shall be resolved through international arbitration.
II. INVESTMENT ARBITRATION
Investment arbitration is a mechanism that enables the resolution of disputes arising between foreign investors and host states through international arbitration; it is distinguished from classical litigation processes by characteristics such as flexibility, neutrality, and international character. Investment disputes may be resolved through either ad hoc or institutional arbitration. Ad hoc arbitration is a flexible method conducted without the administration of any institution, wherein the arbitrators and applicable rules are determined by the parties. The most frequently invoked regulation in this field is the UNCITRAL Arbitration Rules; references to these rules in investment agreements ensure that disputes are resolved within the framework of UNCITRAL procedures. In institutional arbitration, by contrast, the process is administered by an arbitration institution possessing its own distinct procedures. Through investment agreements, parties may resolve their disputes before international institutions such as the ICC, SCC, LCIA, or ICSID. Nevertheless, the most commonly utilised mechanism in investment arbitration is ICSID Arbitration, and the ICSID Convention is applied in such disputes. ICSID arbitration carries a more pronounced public character compared to other arbitration mechanisms, given that one of the parties is a state and the dispute arises from the actions of a public authority. The distinctive features of ICSID include the importance it accords to transparency, its independent structure, its establishment solely for investment disputes, and the broad enforceability of its awards. In ICSID proceedings, the principle of transparency is foregrounded with the aim of striking a balance between the host state’s public interest and the investor’s rights. Furthermore, as ICSID is based upon an international treaty concluded between states, the direct enforceability of ICSID awards in all states party to the Convention constitutes one of the significant features distinguishing it from other investment arbitration mechanisms.³
The fact that investment arbitration, particularly before ICSID, has become such a widespread and effective mechanism over time has led to changes in the expectations of both states and investors, and has given rise to various controversies in practice. The increasing number of cases, the duration and cost of proceedings, the consistency of awards, and the preservation of balance between public interest and investor rights have brought to the fore reform needs aimed at updating the existing system and rendering it more functional. Within this scope, ICSID has initiated a comprehensive reform process both to modernise its arbitration rules and to ensure that proceedings are conducted in a more transparent, predictable, and effective manner; this process has generated significant innovations in investment arbitration practice. The fundamental objectives, scope, and principal innovations introduced by the ICSID Reform are addressed below.
III. ISDS REFORM
A. Criticisms Directed at the ISDS System and the Need for Reform
ISDS reform constitutes a phase in which the structural problems of the system have been identified in detail and both institutional and legal proposals have been developed for their resolution. In determining the problems forming the basis of the reform process, UNCITRAL WGIII has systematically analysed the elements undermining predictability and reliability in investment arbitration. The European Commission’s official policy texts and academic evaluations published in ICSID Review are largely aligned regarding the reasons underlying the need for reform. The system’s generation of inconsistent awards, different arbitral tribunals interpreting similar legal standards differently, excessively protracted arbitration proceedings, high costs, weakening confidence in arbitrators’ impartiality, and lack of transparency rank foremost among these problems.⁴
In the European Commission’s documents, deficiencies concerning particularly the predictability of arbitral awards are emphasised.⁵ It is stated that individual arbitral tribunals creating divergent case law has led to fragmentation in investment law. In academic analyses published in ICSID Review, criticisms alleging that the investment arbitration system weakens states’ right to regulate also occupy a prominent position. The fact that decisions taken by many states in the field of public policy have become subject to serious compensation claims by investors through arbitration has rendered the balance between legal certainty and state sovereignty contentious. In this context, reform is not merely an effort to improve the arbitration system, but simultaneously an endeavour to establish a new structural framework balancing the state’s right to regulate and the investor’s legal security. UNCITRAL WGIII is gathering states’ expectations, analysing the legal and institutional feasibility of alternative mechanisms, and endeavouring to build consensus within a multilateral negotiation environment. The European Commission states that the political dimension of the reform is as significant as its technical dimension, since criticisms directed at investment arbitration have increased at the global level and the system has been driven into a legitimacy crisis.
B. Concrete Steps Taken in the Reform to Date
The reform steps realised to date fundamentally encompass improvements directed at the most criticised aspects of the system. The Code of Conduct for Adjudicators, emerging from the joint work of ICSID and UNCITRAL, is among the first and most tangible products of the reform. These rules aim to ensure that arbitrators perform their duties free from conflicts of interest and contain significant regulations particularly to remedy the legitimacy problem created by the “double-hatting” practice. The prohibition of arbitrators simultaneously serving as counsel or advisors in other investment disputes is regarded as a critical step in terms of strengthening the principle of independence and impartiality. Guidance texts aimed at promoting mediation also constitute another significant development emerging in the early stages of the reform. In the European Commission’s relevant policy documents, emphasis is placed on the fact that expanding amicable settlement avenues in investment disputes is critical in terms of reducing costs and accelerating processes. The mediation guidelines prepared by UNCITRAL offer model provisions that may be incorporated into investment agreements, thereby paving the way for parties to seek resolution through lower-cost methods before resorting to arbitration.
Another significant development recorded in the reform process is the creation of the Dispute Prevention and Early Intervention Toolkit. This toolkit contains institutional arrangements that will enable states to strengthen their internal coordination mechanisms and conduct their relations with investors within a more regular framework. In ICSID Review analyses, this mechanism is evaluated as an effective preventive tool in managing investment disputes before they materialise, and its function of enhancing the administrative capacity of particularly developing countries is highlighted. The initiative towards establishing a multilateral advisory centre to remedy the frequently encountered deficiency in legal capacity in developing countries also ranks among the concrete steps taken in the reform to date. The European Commission states that this centre will reduce inequalities in access to investment arbitration and contribute to states being represented in a more balanced manner.
C. Ongoing Institutional Transformation: MIC and Appellate Mechanism
The most critical phase of the reform process is the comprehensive institutional transformation currently under negotiation. The two fundamental elements of this transformation are the establishment of a Multilateral Investment Court (“MIC”) and the implementation of an appellate mechanism. The MIC is an institutional model long advocated by the European Commission and aims to create an alternative to investment arbitration.⁶ The most significant feature of this court is that it comprises permanently serving professional judges. Thus, it is intended to prevent the fragmentation caused by the ad hoc nature of arbitral tribunals and to enhance the quality of awards. The method of appointment of judges, their term of office, and guarantees of independence will be the fundamental elements supporting the court’s legitimacy. In the European Commission’s documents, it is emphasised that the MIC may become the principal institution of investment law in the long term and may strengthen inter-state cooperation.
The appellate mechanism is the structure garnering the broadest support within the reform. In the existing ISDS system, the finality of awards renders the correction of legal errors impossible and adversely affects the system’s consistency. The appellate mechanism will create a second tier of review that will enable both the harmonisation of legal standards and the correction of erroneous awards. However, debates concerning the scope of the appellate mechanism continue. A significant divergence of opinion concerns whether the mechanism will apply only to treaty-based disputes or also to contract-based disputes. In ICSID Review analyses, it is stated that excluding contract-based disputes from the scope may create fragmentation in the system, and that investors may resort to different forums to evade appellate review.
D. Purpose of the Reform: Consistency, Legitimacy, Transparency, and Efficiency
The fundamental objectives of the ICSID reform, through common evaluation of the European Commission’s policy documents and ICSID Review analyses, are clustered around five principal concepts. The first objective of the reform is to enhance the consistency of awards and establish unity of case law. Different arbitral tribunals interpreting similar legal standards differently creates serious unpredictability for investors and states; institutional structures such as the appellate mechanism and MIC offer significant tools to remedy these inconsistencies. The second objective is to strengthen the system’s legitimacy. Codes of conduct ensuring that arbitrators perform their duties free from conflicts of interest, the MIC’s professional judges model, and more transparent proceedings serve this purpose. The third objective is the enhancement of transparency. Arbitration proceedings conducted behind closed doors in disputes concerning public interest have been subject to intense criticism; reform documents have explicitly stated that transparency is a central element. The fourth objective is to increase the system’s accessibility, particularly for developing countries. Advisory centres and guidance texts that will remedy deficiencies in legal capacity will enable states to attain a more balanced position in investment disputes. Finally, the fifth objective of the reform is to increase the effectiveness of dispute resolution. Accelerating arbitration proceedings, reducing costs, and developing dispute prevention mechanisms aim to create a more efficient system for investors and states.
E. Effects of the Reform on the International Investment Environment
The current international investment environment is exhibiting a marked increase in contract-based disputes. In sectors such as energy, infrastructure, and natural resources, where state policies exert intensive influence, relations between investors and states are becoming increasingly complex. In analyses published in ICSID Review, it is identified that the rate of increase in contract-based disputes indicates that such disputes will carry greater weight in the future of investment law. This circumstance further enhances the importance of reform, because an appellate mechanism or investment court that excludes contract-based disputes from its scope will weaken the integrity of the system.
Significant changes are anticipated in the international investment environment upon completion of the reform. In the event that a multilateral investment court is established and the appellate mechanism is implemented, legal predictability will increase; investors’ risk analysis will be enabled to be conducted more soundly. This predictability is of particular importance given that states’ regulatory decisions in energy transition processes are frequently subject to arbitration. The rendering of more consistent awards for investors may reduce investment risk premiums and strengthen sustainable investment flows. For states, the reform signifies that the right to regulate will be protected within a stronger legal framework. In the scrutiny of decisions taken in the field of public policy through arbitration, the appellate mechanism will provide more balanced oversight. Furthermore, the establishment of advisory centres may prevent developing countries from falling into a disadvantaged position in ISDS processes. According to the European Commission’s assessments, the reform will create a more predictable, more sustainable, and more equitable international investment environment in the long term.
CONCLUSION
ISDS reform is a comprehensive endeavour aiming to fundamentally transform the arbitration mechanism utilised in the resolution of international investment disputes. The process conducted by UNCITRAL Working Group III aims not only to remedy existing problems but also to establish the architecture of future investment disputes. The normative steps taken to date have made significant contributions to the improvement of the system; codes of conduct, mediation guidelines, and dispute prevention tools have successfully completed the first phase of the reform process. However, the essential transformation of the reform will be realised through the establishment of the Multilateral Investment Court and the appellate mechanism. When the European Commission’s official policy documents and academic analyses published in ICSID Review are evaluated together, it is understood that these two structures are of a nature to remedy the system’s fundamental deficiencies by providing unity of case law, legitimacy, and transparency in investment law.
The effects of the reform on the international market are significant to an extent that will reshape the legal positions of both investors and states. A more predictable legal order will increase investor confidence; states’ right to regulate will attain a clearer framework; and the resolution of disputes more rapidly and at lower cost will render the investment environment more stable. Consequently, ISDS reform is regarded as one of the most important legal transformation areas determining the future of international economic relations.
¹ Deniz Antepoğlu, “Resolution of International Investment Disputes Through International Arbitration”, Master’s Thesis, 2021, p. 5
² Ceyla Özkazanç, “Precedent Decision in Investment Arbitration”, Master’s Thesis, 2019, p. 7
³ Asst. Prof. Dr. İnci Ataman-Figanmeşe, “Differences Between International Commercial Arbitration and Investment Arbitration”, Public and Private International Law Bulletin, Volume 31, Issue 1, p. 98
⁴ Ekin Deniz İlhan, “Problems Encountered in International Investment Disputes and Investment Arbitration Proceedings”, Türkiye Barolar Birliği Dergisi, No. 158, 2022, p. 393 et seq.
⁵ European Union Parliament Report on the Future European International Investment Policy, A7-0070/2011 of 22 March 2011, Accessed: 03.12.2025, p. 14
⁶ European Union Parliament, Legislative Train, June 2022, https://www.europarl.europa.eu/legislative-train/carriage/multilateral-investment-court-(mic)/report?sid=6001, Accessed: 10.12.2025