Stabilisation clauses in oil agreements simply untenable

Friday January 27 2012

By Bashir Twesigye

It has been reported that Uganda’s oil and gas sector has hit a stalemate after Tullow oil - Uganda’s most successful prospecting company, is insisting on a stabilisation clause in the revised Production Sharing Agreement (PSA).

According to the press, government wants to do away with the stabilisation clause, which was criticised by civil society and other stakeholders in the old PSAs. It has been reported that government has informed the oil companies of its intentions to scrap the stabilisation clause.

A stabilisation clause is a contractual device that typically grants a foreign investor immunity from vagaries that may occur and negatively affect his/her investment. It restricts the legislative or administrative power of the State, as sovereign in its country, and the legislator in its own legal system, to amend the contractual regulation or even to annul the agreement.

There are at least three theoretical implications of a stabilisation clause in a PSA.

First, it freezes the law and governance systems, which will not apply to the oil company. The law applicable to the company is the law in force at the time of the conclusion of the agreement.

Second, the agreement takes precedence over any provisions enacted subsequent thereto by way of legislation or administrative regulation if the effect of such provisions is to the investor’s prejudice. In effect, the agreement itself becomes law.

Third, it is the understanding of the parties that any modifications of the terms and conditions of the agreement may only be made by mutual written consent. Unless and until there is consent of both parties, the government does not have powers to respond to any unforeseen circumstances the effect of which is to reduce the profits of the company.

The question that has occupied many scholars and policy makers in the developing world is whether having such a clause is a wise choice.

In my view, stabilisation clauses are legally suspect, practically irrelevant and an abuse of the will of the people.
First, the legal validity of stabilisation clauses is suspect. The protagonists, particularly multi-lateral companies, argue that stabilisation clauses are legally founded on the principle of sanctity of contracts (pacta sunt servanda).

In other words, when parties enter into a contract, they become bound by the provisions of that contract. This view, in my opinion, is countermanded by the doctrine of permanent sovereignty under international law, which contends that a State has inalienable rights over its natural resources. The doctrine of permanent sovereignty also means the State possesses the inalienable right to alter any law and contract in the State with regards to it natural resources.

This means the stabilisation clause in its strictest sense cannot be enforced in a court of law or tribunal. Rather, the court of law or tribunal can at best condemn government to economic indemnity should government implement laws or policies that adversely affect the profit margin of the company as it were at the time of signing the PSA.

And this brings me to the second point that stabilisation clauses in their traditional meaning are irrelevant. In many experiences, governments have abrogated the stabilisation clauses when time comes (as it certainly will) when things have to change. In 2007, the government of Venezuela announced an oil nationalisation policy forcing six oil companies to renegotiate their contracts despite the stabilisation clause.

In Nigeria, a stabilisation clause in favour of NLNG Limited, the effect of which was to guarantee statutory incentives and assurances has been declared unconstitutional. The court ruled that a clause that fetters the powers of the national assembly to make laws was unconstitutional.

It would, therefore, appear that the real threat in the stabilisation clause is not just that government hands will be tied, but that government will be condemned to damages which often are mind-boggling sums. For this reason, it is not wise for government, now that it has the chance to revise PSA with Tullow, to include a stabilisation clause.

Stabilisation clauses are inconsistent with the will of the people. The Constitution provides that power belongs to the people. Power in this case connotes authority to govern and is exercised through laws enacted by the people through elected representatives in Parliament.

The idea that government can enter into an agreement which will fetter the powers of Parliament to make laws to enhance economic benefits for the country, better environmental protection standards and high standards for human rights protection, among other things, is simply untenable.

It is an abuse of the will of the people and an abuse of our statehood.

Mr Twesigye works for Civic Response on Environment & Development.

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