Foreign direct investment forms an ever more important part of globalised market structures, and international investment law has become one of the most successful and judicialised areas of public international law. In order to attract investment, States commit themselves to treaties that restrict their regulatory sovereignty in ways that are sometimes unpredictable, owing to vague terms in the treaties and the broad use by investment tribunals of their delegated discretion.
This article uses economic contract theory in order to understand whether the commitment problem ex ante and the flexibility problem ex post are optimally solved. It is hypothesised that the participation constraints on States may be overlooked by investment tribunals, thereby leading to an undesired weakening of protection of investors in the long run due to reactions by States. First, States may opt out of the system, for example by exiting treaties or by non-compliance. Second, they may also water down the substantive or procedural protections. Third, whereas investment treaties were seen in the beginning as a restraint on developing countries, investment increasingly flows to equally highly regulated developed countries. As legal protection is reciprocal but the capital flows used to be unilateral, developed countries might also react to their restriction of sovereignty, as the United States has already done, for example. These perils could lead to a backlash in international investment protection of which indications are already visible