Investor-State Dispute Settlement is both a magnet for FDI and a constraint on policy space. Analyse with reference to India.

Investor-State Dispute Settlement (ISDS) lets a foreign investor sue a host State before an international tribunal under a Bilateral Investment Treaty (BIT). For India, ISDS is a trade-off. Neutral arbitration reassures investors, but almost any regulatory measure can then lead to a claim for compensation.

ISDS as a magnet for FDI

• Neutral forum: The India–UAE BIT came into force on 31 August 2024. It provides "an independent forum for dispute settlement by arbitration" to raise investor confidence [2].
• Capital at stake: The UAE is India's seventh-largest FDI source, with about $19 billion of cumulative investment (2000–2024) [2].
• Two-way cover: Indian firms abroad also need treaty protection. About 5% of India's outward investment is in the UAE [2].
• Policy signal: Budget 2025-26 promised a "more investor-friendly" Model BIT to sustain foreign investment [3].

ISDS as a constraint on policy space

• Fiscal exposure: India received 37 notices of dispute. It paid an award in only one case, but that award imposed a "significant cost to the exchequer" [4].
• Expansive interpretation: The Standing Committee on External Affairs (2021) warned that ambiguous clauses let tribunals read obligations too widely [4].
• Core sovereign functions: Taxation, compulsory licensing of medicines, subsidies and national security could all be challenged. The 2015 model therefore carves them out [1].
• Capacity gap: India lacks enough domestic investment-arbitration experts, so it pays heavy fees to foreign counsel [4].

Reassembling: India's balancing act

• 2015 Model BIT: It uses an enterprise-based definition of investment, requires investors to exhaust local remedies, and limits tribunals to monetary compensation only [1].
• Over-correction: India terminated 77 older BITs but signed only 4 new treaties. Protection was withdrawn, not replaced [4].
• Recalibration: The UAE BIT pairs investor protection with the "State's right to regulate" [2].
• Global alignment: UNCITRAL Working Group III is drafting an appellate tribunal, mediation guidelines and a multilateral ISDS reform instrument [5].

Strong ISDS ──► investor confidence ──► FDI ↑
     │
     └──► arbitral claims ──► policy space ↓
Calibrated BIT = precise clauses + carve-outs + pre-arbitration consultation

Fig: The ISDS trade-off

Whether ISDS attracts FDI or restricts policy depends mainly on how the treaty is drafted. The revised Model BIT should have precise clauses and pre-arbitration consultation. It should also be backed by stronger domestic expertise and the New Delhi International Arbitration Centre, as the Standing Committee recommended [4]. That would let India draw long-term FDI while keeping its regulatory autonomy, in line with its 'first develop India' goal [3].