The Efficient Breach Theory in International Investment Law

Ng’ambi, Sangwani Patrick | December 9, 2021

When a State unilaterally abrogates its contractual obligations, it is under a duty to compensate the investor. The aim of the compensation regime under International Investment Law is to restore the investor to a position he or she would have been in had the breach not taken place. Thus, the award of compensation should not only include sunk costs (damnum emergens) but also lost future profits (lucrum cessans).

In this article it is argued that the rules relating to compensation promote efficiency, as per the ‘efficient breach theory’ because they dissuade governments from unilaterally abrogating concession agreements, unless they can compensate the investor, including lost future profits, whilst making some money on top of that. However, the limitation of the efficient breach theory is that it presupposes that wealth maximization is the paramount consideration for all parties involved in a contract. This article shows that this is not necessarily the case with States.

Typically, host States cite socio-economic reasons for their termination, rather than profit maximization. This can be contrasted with commercial actors whose only concern is making money. Thus, while the International Investment Law certainly encourages efficiency, it does not provide host States with sufficient flexibility to pursue its legitimate public objectives, when it breaches agreements.