Why Russia is proposing its own energy treaty

Dmitry Medvedev, president of Russia, was in Finland this week where he unveiled proposals for a new legal framework for global energy cooperation.

Although Russia has been talking about a new energy treaty for months, European governments could still be forgiven for being a little surprised by the plans, a copy of which they are set to receive in the post.

After all, such a framework already exists – namely the Energy Charter Treaty, which was established after the fall of the Soviet Union to provide investment protection for western energy companies.

The ECT has since attracted 51 international signatories and is being used by growing numbers of energy groups to challenge government decisions that affect their businesses.

The subject of the latest dispute is Germany, which could be forced to pay Swedish-utility Vattenfall hundreds of millions of euros in compensation after it imposed costly environmental restrictions on a new power plant.

Although Russia signed the ECT, its parliament never ratified it and Mr Medvedev made clear this week that he does not feel bound by it.

Yet, in spite of Mr Medvedev’s bravado the issue of whether Russia is obliged to abide by the ECT is not really in his hands.

The Permanent Court of Arbitration in The Hague is expected this year to issue a landmark ruling regarding the world’s biggest arbitration case brought by former shareholders of Yukos, the Russian oil company.

Shareholders are seeking more than $50bn in compensation from the Russian government after Yukos was bankrupted in 2005 by huge alleged tax arrears and subsequently divided up among Russia’s national oil companies. Its former head Mikhail Khodorkovsky, is now languishing in prison having been found guilty of fraud and tax evasion.

Emmanuel Gaillard, head of the international arbitration at Shearman & Sterling, the firm representing Yukos’ shareholders, said the destruction of Yukos was a clear violation of the treaty. Moreover, he described Mr Medvedev’s new energy proposal as “a pretty transparent attempt to bury the existing treaty.”

The arbitration could hinge on the legal implications of Russia’s decision not to opt out of provisionally applying the treaty prior to full ratification.

If arbitrators decide that Russia is bound by ECT, the door would be open for shareholders to seek compensation, including the possible expropriation of Russian state-assets held overseas; a tantalising if rather frightening prospect.

As a footnote, Moscow argues that the recent gas crisis in Ukraine proved that ECT was incapable of settling transit disputes and underscoring the need to tear up the treaty.

However, Mr Gaillard looks at it another way. “Russia would have liked to sue Ukraine under the treaty but by doing so they would have recognised that it is applicable to them,” he said. “They didn’t want to do that. That’s why they urged European Union countries to sue Ukraine.”