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To combat climate change, the world needs to start phasing out fossil fuel production. But what if investors sue? Investor-state dispute settlement (ISDS) claims allow fossil fuel companies to sue governments over phase-out policies, presenting a barrier to climate action. A new IISD offers guidance on how to approach fossil fuel phase-outs amid ISDS risks.

In December 2023, the 28th UN Climate Change Conference concluded with a landmark decision from 198 governments to “transition away from fossil fuels” in a just, orderly, and equitable manner. Phasing out fossil fuels is vital to avoid the catastrophic impacts of climate change.

Economic factors also underscore the importance of phase-out strategies. Amid geopolitical uncertainty, prioritizing renewable energy and reducing dependence on imported fossil fuels helps protect economies from markets. As clean energy technology costs continue to decline, fossil fuel demand is becoming increasingly uncertain. This means that countries that rely on hydrocarbon revenues need to adjust their oil, gas, and coal production plans to ensure long-term economic and fiscal stability. Proactively managing production declines is key to mitigating adverse transition effects on producer economies.

Some governments have already taken action. , , , , in Canada, and the (UK) have ended the licensing of new exploration, and in some cases ended approvals of new field development as well.

However, the threat of investors suing under investor-state dispute settlement( ISDS) clauses in investment treaties can pressure governments to their fossil fuel phase-out ambitions. is a legal mechanism included in many treaties that allows foreign investors to sue governments before arbitration tribunals.  It is frequently used to sue states for perceived violations of international obligations, which are often interpreted broadly and inconsistently.

For example, ISDS provisions under the Energy Charter Treaty have been in Germany, the Netherlands, Slovenia, and other EU countries to challenge decisions to phase out fossil fuels and related infrastructure. ISDS is frequently for being opaque, unpredictable, inconsistent, and very costly—often requiring governments to pay billion-dollar compensation. Consequently, ISDS is widely recognized as a .

This issue has led UN agencies, civil society organizations, and think tanks, including IISD, to for a reform of ISDS. There is an urgent need to align it with the need for ambitious climate action.

Yet governments cannot afford to delay phase-out policies until ISDS reforms are complete. IISD’s explores concrete strategies for governments to move ahead with fossil fuel phase-outs, specifically in oil and gas production, while mitigating ISDS risks.

Analyzing arbitral tribunal decisions on fossil fuel and nuclear phase-outs, as well as drawing on consultations with experts, the finds ISDS risks vary depending on which stage of the oil and gas lifecycle is targeted. Risks are notably higher for measures affecting later stages of the production cycle (such as the production phase) compared to earlier ones (such as the acquisition and exploration phases).

Timely interventions targeting the earlier lifecycle stages—such as ceasing the award of new exploration licenses—carry lower arbitration risks. Delaying these measures, in contrast, exacerbates tensions between avoiding legal risks and achieving climate targets.

 Every delay shrinks the remaining carbon budget available to prevent warming breaching the Paris Agreement’s 1.5 °C goal. Postponed action increases the need for harsher, legally riskier measures at a later stage to avert catastrophic climate change.

While ISDS risks are significantly higher at later stages in the lifecycle, governments can still employ effective mitigation strategies. Policymakers should clearly reference international climate obligations and point to evidence on why production restrictions are essential for achieving greenhouse gas emissions targets, among other strategies.

The outlines five essential principles for policymakers:

• No new licences. Stop creating new exploration and production rights. This is the single best way to prevent new arbitration risks from arising.
• Manage expectations. Set a long-term framework for phasing out oil and gas production, signalling the end date well in advance. Avoid making any official statements that could be interpreted as encouraging investment in the sector.
• Build broad authority. Implement phase-out policy through legislation rather than executive orders. Ground policies in scientific evidence, national constitutions, and legally binding international treaties wherever possible.
• Use existing powers. Leverage existing environmental or social regulations. In recent years, courts have also been driving a wider consideration of the climate impacts of new fossil fuel projects.
• Be consistent. Apply a phase-out policy equally to all investments in the sector, irrespective of investor nationality

Governments are already applying some of these approaches in practice. In 2020, Denmark became the first important producer to for oil and gas exploration and extraction, 2050, referencing the country’s commitments under the Danish Climate Act. In 2024, the German state Schleswig-Holstein announced that it would oil exploration and development in the Wadden Sea, a UNESCO-designated natural heritage area, while the Canadian province Quebec has codified an oil and gas development ban into referencing its obligations under the Paris Agreement, commitment to carbon neutrality, and membership of the Beyond Oil and Gas Alliance.

Prompt action, grounded in international obligations with clearly communicated production end dates, not only maximizes the likelihood of limiting warming to 1.5°C but also significantly reduces the risks of ISDS claims threatening phaseout action.

You can download the briefing here:

A version of this blog is also available on the IISD website: 

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