An Honest Debate on Investor-State

In a recent speech titled “Debating TTIP,” new EU Trade Commissioner Cecilia Malmström called for a more “honest debate” on TTIP and trade negotiations more generally. One aspect of her remarks was investor-state dispute settlement (ISDS). On this point, she said:

When it comes to investment, honesty means making sure people understand that there [are] already 1400 EU agreements, that there are 3000 globally, that they have been around since the 1950s and that they are a German invention. What TTIP could do is allow us to improve them. It means acknowledging both their weaknesses (we don’t want tobacco plain packaging cases) and their benefits (we don’t want EU jobs lost because of expropriation.)

Honesty has certainly been in short supply on this issue. It is worth using her brief comments as a starting point for a discussion.

First of all, just about everyone who follows this issue understands that there are thousands of agreements and they have been around for a long time. That is not in question. What is in question, however, is whether these agreements are good or bad. What benefits do they offer? What are the costs? There is no question we have had these agreements for a while; it is less clear that we should keep them.

These agreements originated in a different era. It was the end of colonialism, and many emerging states were nationalizing industries. The agreements were, in large part, a response to that problem.

For many years thereafter, the agreements were obscure and mostly unused (in terms of investor-state litigation). Not surprisingly, they were uncontroversial during this period.

ISDS gives big corporations special rights that ordinary people do not have.

But then the litigation began (and recently, it exploded), and with it came a backlash. The implications of these agreements had been unclear at the time of signing; now people understood what the agreements meant and how they could be used. The concerns that resulted should not have been surprising.

What this means is, we should now have the public debate we never had at the beginning about the value of these agreements.

That leads to a second point, on the substance of the agreements. Commissioner Malmström refers to the “weaknesses” and “benefits” of these agreements. To assess this, we need to understand the obligations the agreements impose on governments.

One obligation is not to discriminate against or among foreign investors. That provision is fine in principle, subject to precise drafting. There are not many objections to the idea of non-discrimination. But in terms of honesty, supporters of ISDS need to stop pretending that non-discrimination is the main component. As an example, here is President Obama speaking on the issue recently:

Really what we’re trying to get at here is making sure that foreign companies are not treated differently than domestic companies. That’s the primary concern, is a discriminatory application of rules in ways that are arbitrary.

… overall, the principle that we should make sure that U.S. companies, when they invest or export to other countries, are abiding with their safety rules but that those public health and safety rules are not being discriminatorily applied or a ruse in order to keep us out.

Again, if non-discrimination were the only issue, there would be little or no concern. But the truth is, the provisions go beyond non-discrimination in ways that have become a problem.

To take one example, these agreements usually have a provision setting out an amorphous obligation often referred to as “fair and equitable treatment.” It has various conceptions, but no matter how it is drafted, it is extremely open-ended. As long as it remains in any form, there will be potential complaints against measures such as tobacco plain packaging, which Commissioner Malmström says she does not want challenged. (President Obama refers to this measure as well.) When the agreements go beyond non-discrimination in this way, there is an opportunity for companies to challenge a wide range of government action or inaction they are unhappy with, even where the government is not discriminating against foreigners. This provision needs to be taken out.

Finally, most people would agree that when private property is expropriated, there should be compensation, and there are provisions in investment agreements requiring this. One thing to note in this regard is that expropriation has dropped precipitously since the 1970s; the problem is not what it once was. (These days, the biggest threat to economic welfare regarding foreign investment may be all the subsidies it receives, not governments taking it over!) Thus, while there may be benefits to be had here, their size is unclear. Commissioner Malmström talks about lost EU jobs as a result of expropriation. It would be interesting to see an accounting of this. Just how many EU jobs have been lost in recent years?

Nevertheless, assuming there is still a problem with expropriation, the real question is about how best to ensure that compensation is given. In this regard, it may be most effective to encourage improvements to domestic laws and regulations in the few countries where expropriation without compensation still takes place.

In general, trade liberalization helps consumers, often at the expense of corporations, who are now forced to compete in a more robust market. By contrast, ISDS does the opposite: It gives big corporations special rights that ordinary people do not have. And to be honest, that makes trade negotiations look bad, and is a big reason they are struggling to find support in Europe these days.

Simon Lester is a trade policy analyst at the Herbert A. Stiefel Center for Trade Policy Studies at Cato Institute