Background
With a booming economy1 and a seemingly insatiable demand for power, Turkey long ago recognized the need for foreign private capital in its power sector - domestic resources meet only 38% of demand. Thus, in 1994, the government implemented a broadly-approved legislative scheme for privatization. However, as of the end of the second quarter of 1999, there were planned solicitations for 16,000 MW of BO, BOT and Transfer of Operation rights (TOR) deals, of which 4,780 MW TOR awards are pending, and only 5,300 MW worth of BO's had been awarded. Yet even the few BO's awarded had to be put on hold because of legal uncertainties. In August, the Turkish Parliament attempted to resolve these legal uncertainties once and for all by amending the Turkish Constitution.
Electricity Projects before the Amendment
Before the Constitutional amendments, power projects in Turkey had encountered two major obstacles. First, BO, BOT and TOR financiers were unable to submit to international arbitration for the settlement of disputes. Second, approval of the high administrative court, the Danistay, was mandatory and its opinion was binding. These two problems plagued privatization of the electricity markets, despite many attempts by Parliament to circumvent them.
For example, since Turkey is party to a Bilateral Investment Treaty with the United States, US investors have recourse to third party arbitration for the settlement of disputes arising under contracts made in Turkey. However, in March 1996, the Constitutional Court ruled that under the Turkish Constitution, foreign investment in public utilities involves concessions, not contracts. This meant that because concessions are subject to administrative law, the Danistay is the final arbiter of disputes arising thereunder.
In addition, because concessions are subject to administrative law, they had to be submitted to the Danistay for mandatory and binding approval. This approval process resulted in very long bureaucratic delays. Moreover, the opinions of the Danistay were unpredictable and frequently political in nature.
To encourage investment in the Turkish energy market, the parliament tried to legislate around the Constitution. In June 1996, the Ministry of Energy and Natural Resources (MENR) introduced the BO Decree. This piece of legislation attempted to remove from BOT deals the sections which were seen as concessionary. After the Chamber of Electrical Engineers (CEE) successfully challenged the BO Decree, a BO Law was passed which established that generation and sale of electricity was not a concession but a licensed activity. This law provided for international arbitration and stipulated that title to the plant remained with the investors after the license period, a 20 year maximum, expired. Again the CEE successfully challenged the constitutionality of the BO Law. The Constitutional Court ruled in favor of the CEE on the grounds that the law was unconstitutional because it allows the executive branch to override the judiciary in the constitutional review process.
In a 1998 decision, the Danistay allowed for arbitration of the private parts of a BOT, but not the concession. Compromises like this one helped some internationally financed projects to reach closure, but the pro-privatization government knew it had to take more serious action. The government realized that the only way to make public utility deals more appealing to international financiers was to amend the Constitution.
1999 Constitutional Amendment
On August 13, 1999, the Parliament, by a vote of 448 to 45 amended the Turkish Constitution to make public utility financing more favorable to investors abroad. The amendments should ease access to project financing and provide more rapid approval for BOO, BOT, and TOR projects.
Article 47 of the Constitution was amended to specifically allow for privatization of public services. The amendment provides that Parliament may take action to privatize public services when public interest is in favor of privatization. The amendment provides further that Parliament can regulate which services can be privatized.
This amendment creates a constitutional basis for privatization. Now, challengers of privatization cannot use constitutional ambiguities to block important privatization projects in the Constitutional Court, because the constitution itself allows for privatization. Under this amendment, Parliament could potentially pass a law stating that the contracts involved in energy projects are private contracts not concessions, thereby keeping them out of the jurisdiction of the Danistay.
Perhaps the most important amendment was the amendment to Article 125. Under this amendment, the Constitution now states that parties to a contract regarding public services can resort to international arbitration if the concession involves a foreign element. The significance of this change is discussed below.
Proponents of the legislation had to make a major concession to get the amendment to pass. Opponents of the amendment forced the addition of the term "foreign element" to the amendment, which could be problematic. Under the amendment, contracts between a foreign element and the Turkish state or a government agency may resort to international arbitration, but contracts between Turkish entities and the state may not. Turkish entities are still under the jurisdiction of the Danistay.
The definition of "foreign element" is critical here. The addition of this term may be problematic because the foreign element requirement describes the party who has entered into the concessionary contract with the Turkish state or government agency. Many power deals are implemented through companies incorporated in Turkey with foreign partners. These entities may not have an adequate "foreign element" to be eligible for international arbitration. It is yet to be seen how this issue will play out. Parliament is set to draft implementing legislation when it comes back into session at the end of October. Hopefully the implementing regulations will clarify how much of a foreign element is necessary for a concessionary contract to be eligible for international arbitration.
The final amendment that was passed reduces the role of the Danistay in the approval of public utility contracts. Article 155 was amended to state that the Danistay shall only give an opinion on these contracts and that the opinion shall not be binding. Previously the Danistay had exclusive control over the language of private sector contracts relating to public utilities. Danistay approval was mandatory and binding. Now the Danistay is to review cases and give opinions on them, but these opinions are not binding on other governmental agencies. For example, MENR and the Danistay had a strong disagreement over government default provisions. Now, the amendment seems to give MENR the power to overlook Danistay opinions so that MENR development contracts could detail risk allocation more adequately. Finally, the amendment to article 155 requires the Danistay opinion to be completed within 2 months of submission. This change will significantly reduce the bureaucratic delays in the Danistay, which had been so prevalent. Developers and financiers alike have cheered the reduced role of the Danistay.
Ramifications of the Amendments
It is still too early to tell what the long term impact of these amendments will be, but for now, a few things are clear.
- Developers who have signed contracts with no dispute resolution clause in Turkey should consider entering into separate agreements with MENR to allow for international arbitration. After negotiating with the agency, the new agreements should be sent to the Danistay for approval.
- The main political criticism of the pro-privatization government is that it is selling Turkey to the West by selling off important public utilities. Prime Minister Ecevit responds that while he understands the criticism, these are crucial reforms which will allow Turkey's economy to open up to the world and prosper.
- These amendments evidence the government's strong commitment to privatization. Even if obstacles remain, investors should take some comfort in the fact that the government has made a commitment to solve problems in the energy sector.
- This is a good time to invest in Turkish power. Turkey has a booming economy, a growing demand for energy, and a pro-privatization government.
The government of Turkey and international investment banks are optimistic that these changes will increase interest in Turkey, especially in the power sector where funds are sorely needed. The demand for power remains acute in Turkey and the government is more than willing to spend money to supply that demand. Hopefully the 1999 amendments will make investors just as willing to invest in Turkey. The future of Turkey's power market will become more definite when Parliament passes implementing regulations in late October. *
Endnotes
- Turkey has the highest growth rate of any OECD country. Turkey's 1997 GNP was US$196 billion, an 8% gain over 1996, while the 1998 GNP was US$206 billion, a 5% increase from 1997.