Another ISD Follow Up

Since I seem to only blog about investor-state dispute related issues, I thought I pass along a recent UNCTAD policy note about reforming the ISD system.

UNCTAD's summary of the report's key findings:

Concerns with the current ISDS system relate, among others things, to a perceived deficit of legitimacy and transparency; contradictions between arbitral awards; difficulties in correcting erroneous arbitral decisions; questions about the independence and impartiality of arbitrators; and the length and the costs of arbitral procedures. These challenges have given rise to a broad discussion about the need to reform the current system of investment arbitration. To give shape to this debate, the Note puts forward five main reform paths:

1. Promoting alternative dispute resolution.
2. Tailoring the existing system through individual IIAs.
3. Limiting investor access to ISDS.
4. Introducing an appeals facility.
5. Creating a standing investment court.

Each of the five proposed reform options comes with its specific advantages and disadvantages and responds to the main concerns in a distinctive way. Some of the options can be implemented via actions by individual governments, while others require joint action by a larger group. The options that require collective action would go further in addressing the existing problems, but would also face more difficulties in implementation. The Note calls for a multilateral policy dialogue on ISDS to search for a consensus about the preferred course for reform and ways to put it into action.

A Bunch of Acronyms and Some Trade Politics

Last February Sarah and I* speculated in a short National Interest article that a EU-US trade deal (Transatlantic Trade and Investment Partnership, or TTIP) could put pressure on the recent prevalence of investor-state dispute clauses (ISDs):

While ISD clauses are widespread, they usually exist within the context of treaties between states characterized by economic asymmetries. For instance, of the more than 2000 bilateral investment treaties (BITs) worldwide, none exist between two advanced industrial countries. The United States generally embraces investor-state dispute clauses; both their model free-trade agreement (FTA) and BIT contain such language. However, it is far from certain that a US-EU treaty would include an ISD clause. Generally, advanced industrial countries have shown they are more interested in promoting legal regimes that protect "their" multinationals while they are less willing to cede jurisdiction over investment disputes in which they might be defendants.

Today, via Simon Lester, we see that the EU is not super-thrilled with the idea of having an ISD in TTIP that is typical of US ISDs, although it's tough to know from the formal language exactly what the EU is after. Or as Lester puts it: 

What are the authors saying here? Are they saying: 

1. Investment protection and investor-state will only be included if high EU standards for investment protection, as opposed to the weaker U.S./Canadian standards, are met? 

or are they saying: 

2. Investment protection and investor-state will only be included if the usual provisions are weakened so as to ensure that public policy objectives can be pursued? 

I don't know the answer (perhaps Sarah could chime in?), but it seems clear that any ISD in TTIP will have to be different than that in the model US bilateral investment treaty. So far our article is holding up pretty well.

Meanwhile, Eyes on Trade doesn't like Obama's secrecy on another potential trade deal, the Trans-Pacific Partnership (TPP)**. They also nail the reason for the secrecy:

So why keep it a secret? Because Mr. Obama wants the agreement to be given fast-track treatment on Capitol Hill. Under this extraordinary and rarely used procedure, he could sign the agreement before Congress voted on it. And Congress’s post-facto vote would be under rules limiting debate, banning all amendments and forcing a quick vote.

Eyes on Trade think all of this is severely crippling democracy. In a way it is, it by "democracy" you mean legislators favoring parochial interests over the good of the nation as a whole. The Congress has often given the President fast-track authority. Clinton had it for part of his terms. George W Bush had it for most of his. The reason for this is so that individual Congresspeople can't fiddle with the deal in order to privilege local constituencies after its been agreed to by the negotiators of both sides. It's basically a legal way to curtail rent-seeking exceptions and other Congressional shenanigans. These are generally questionable on welfare grounds when things like tax bills are being debated, but when negotiating a trade deal they can be deadly: each new Congressional exception has to be approved by the foreign party, which will likely demand further concessions in exchange, which would have to be approved by Congress in turn, etc. Each iteration of this lowers the chance of any deal being reached. Fast track authority cuts that process out. Interested groups can still lobby the US Trade Representative, and Congress still has to approve any deal, so it's not exactly undemocratic. But fast track makes the policy process more efficient.

Obama hasn't been given fast track authority. Democrats have typically been skeptical of trade deals -- remember that renegotiating NAFTA was a big issue during the 2008 Democratic primary -- and Republicans seem intent on blocking anything Obama chooses to do on grounds of principle. It doesn't seem to have been a major priority for Obama until now, as he's preferred to focus on health care, immigration, and other issues first. But without fast track trade deals are much more difficult to complete. So much so that foreign countries often prefer not to negotiate at all because they know that whatever agreement they reach will end up being altered by Congress. Given that, what's the point of negotiating in the first place?

Although they are fairly obscure these issues are quite important. I continue to think there's a decent chance that Obama gets fast track, and if he does that some deals will get done. The business community is very interested in seeing agreements made, so they will likely push the GOP to give in to Obama. Democrats are a bit less enthusiastic, but are more likely to give Obama authority than they would be to lengthen Romney's leash. And if Sarah and my article is correct, there are not many important interest groups that oppose a EU-US deal. The TPP makes sense in a number of ways as well.

All of this remains to be seen of course, but I'm still pretty optimistic that we'll see some movement on trade during Obama's second term.

*Really Sarah. She knows much more about ISDs than me and wrote that part of the article more or less on her own.

**Yes I know. TPP and TTIP and ISDs, oh my.

A BIT (sorry) More on ISDs

A nice discussion of my article with SBD at The National Interest has taken place in comments at the International Economic Law and Policy Blog, mostly centering on the question of investor-state dispute (ISD) clauses in trade deals. A bit wonkish (okay very wonkish), but potentially very important as well.

Mark Kantor, who is affiliated with Georgetown and Columbia Universities, has disagreed with our take on ISDs, which is that a US-EU trade deal could precipitate a general decline in their usage. He raises some very good points; you should read them. He may very well be correct. (Although he's wrong to say that we don't take into account recent US and EU ISD behaviors, including the inclusion of ISDs in the model BITs of the US and EU; in fact we mention that specifically.)

But I'm not quite ready to give up our claim just yet. Via Nathan Jensen, here's a recent report in Columbia FDI Perspectives by Joachim Karl of UNCTAD demonstrating, among other things, the increased costliness to governments (including those of developed economies) of ISDs. One highlight:

Governments face a dilemma. While many governments consider ISDS a key element of international investment protection, ISDS is becoming increasingly risky. For one, governments’ risk of being sued by foreign investors is growing. Second, when a dispute arises, the defence requires enormous resources; if a case is lost, damages can be very high. Third, governments live with an unpredictable arbitration practice without having the legal safety net of an appellate body like in the WTO. Fourth, complex domestic legal issues reaching beyond international investment law are examined by international arbitrators. Fifth, as more disputes are directed against countries with highly developed domestic judicial systems, governments need to ask themselves how positive discrimination of foreign investors in respect of ISDS can be justified.

Karl notes that many countries are in something of a holding patterns regarding ISDs: not ready to do away with them, but not exactly expressing enthusiasm for them either. He also notes that the US is one of the leaders in restrictions to and regulations of ISDs. As such, if the US decides to de-emphasize ISDs it could provide momentum for a more general movement in that direction. the Here's part of the crux:

Overall, the existing ISDS system is no longer recognized as an indispensable core part of IIAs. Discontent is not limited to a few developing countries, but has spread to G-20 countries, including some of the BRICs. Further momentum could jeopardize the ISDS system as a whole.

We suggest that, for political reasons, a US-EU FTA/BIT could be part of that momentum if it excludes an ISD, and there are good reasons to believe that it might. In fact, that is our argument.

We could be wrong, but it's nice to know that we're not the only ones thinking along these lines.

What Might a US-EU FTA Mean for International Investment Treaties?

In a previous post, Will discussed how a potential US-EU free trade agreement might effect widespread trade liberalization through inclusive institutions such as the UN. Indeed, many commentators are wary of the possible deal, believing it to signal the end of inclusive negotiations that characterize the WTO (though Will provides a nice counter to such alarmist claims).

A ratified US-EU FTA also has the capacity to change international investment law quite fundamentally. At stake is whether an agreement would have an investor-state dispute clause (ISD). Unlike traditional dispute settlement mechanisms, ISDs allow firms to sue states directly, usually within the context of an international arbital board such as the International Centre for the Settlement of Investment Disputes (ICSID). ISDs are controversial primarily because there is a widespread fear that MNC with deep pockets will engage in litigation wars of attrition. Furthermore, when investors can sue states directly, governments no longer have access to diplomatic tools to smooth over disputes. And, to the extent that the long term viability of open goods and capital markets requires some flexibility to deal with domestic push-back, the removal of states as arbiters of which investment disputes are worth pursuing and which are better left ignored could have lasting negative implications for the political viability of economic openness.

Unlike some other aspects of FTAs, ISDs can actually become salient issues. In South Korea there were a series of protests against the ISD provision of the recently ratified US-South Korea FTA. Other countries, including India, South Africa, and Australia, have recently decided to nullify portions of trade and investment treaties that include ISD provisions. Still, ISDs are widespread. The model US Bilateral Investment Treaty includes an ISD provision and ISD clauses are standard in US FTAs. However, the types of treaties that contain ISD clauses tend to be signed between states characterized by economic asymmetries.* BITs are a prime example - while over 2000 such treaties exist, there are no BITs between two advanced industrial economies.

So, the question then is whether a US-EU FTA agreement will include an ISD clause. Generally, advanced industrial countries have shown they are more interested in promoting legal regimes that protect "their" MNEs while less willing to cede jurisdiction over investment disputes in which they might be a defendant. For instance, Australia has decided to drop ISD clauses from its BIT and FTA regime after it was sued by Philip Morris; Philip Morris used Australia's BIT with Hong Kong to establish ICSID jurisdiction. Given growing dissatisfaction with the costs of ISD, it will be interesting to see if such clauses would persist if the US and EU decide to not subject themselves to such extra-territorial juridical measures.

My quick, speculative take is that ISDs will be less widely used in the future. As advanced industrial economies begin to receive more FDI from emerging economies with which they have such dispute clauses, they will seek to extract themselves from such agreements. Moreover, a movement away from ISDs may be a good thing. First, ISDs tend to create duplicated layers of juridical authority that generate confusion. Second, as mentioned above, ISDs make it harder for governments to intercede in investor-state disputes in ways that allow for flexibility necessary to maintain broad coalitions of support for deep economic integration. Finally, there is some evidence that states with ISDs tend not to pursue meaningful domestic legal reforms, and thus ISDs can contribute to the persistence of partial economic reforms that ultimately impede broad-based growth.** Removing ISDs may help overcome some of these problems.

*An important semi-exception is that NAFTA includes ISD provisions. However, this clause remains quite controversial in Canada. Canada has not yet ratified the ICSID convention, reiterating the extent to which countries are quite resistant to ceding final arbital authority to an international tribunal. Additionally, the US-Australia FTA suggests, but does not require, dispute settlements between investors and states.
** A place to start reading about this: Ginsburg, Tom (2005) "International Substitutes for Domestic Institutions: Bilateral Investment Treaties and Governance" International Review of Law and Economics 25:107-123.