ISDS provisions

In his column in the latest New Yorker James Surowecki looks at Investor-State Dispute Settlement (ISDS) provisions that feature in many bilateral and multilateral trade and investment agreements.  These provisions allow individual investors in some circumstances to seek redress against domestic governments not just in domestic courts, but before an international arbitration tribunal (most commonly the ICSID, which is based at the World Bank).

As Surowecki notes, “these provisions have been opposed by an unusual coalition of progressives and conservatives”.

Advocates argue that ISDS provisions help to encourage foreign investment.  For some of the opponents, that would almost be enough of an argument itself.  For them, foreign investment itself is threatening.   But plenty of people who are generally keen on pretty open foreign investment are also somewhat wary.  I reckon that regulatory obstacles, and screening regimes, in respect of foreign investment  in New Zealand should be materially reduced, but partly because I think foreign investment should be treated as similarly to domestic investment as possible, I’m not sure why we should be providing separate remedies, and separate quasi-judicial fora, for disputes taken by foreign investors.  If we do need greater protection for investors, and for citizens, against arbitrary actions of governments lets have that debate domestically, amend our domestic laws accordingly, and provide equal protection to all.

The first such ISDS provision apparently dates back only to a Germany-Pakistan agreement in 1959.  And, of course, a great deal of foreign investment happened before then – in fact, the whole first great age of globalisation, prior to World War One,  Huge amounts of debt and equity finance went abroad from Europe (the UK in particular) into colonies of settlement in particular.  That included countries with pretty good legal institutions from the start (such as New Zealand) as well as places like the new, and often shaky, states of central and south America.  And it wasn’t just colonies of settlement  –  destinations included Turkey, Persia and China.

Last week I was reading a fascinating older book about just these sorts of issues.  Finance, Trade, and Politics: British Foreign Policy 1815-1914 by D C M Platt, who went on to become a pretty eminent economic historian, looks in detail at how the British government dealt with the interests abroad of British lenders and investors (be they debt holders or concessionionaires or….).  The short answer is that, unless there were really pressing political considerations involved, or the initial obligations themselves arose out of an inter-governmental agreement, the British government took the stance, and held to it pretty firmly, that difficulties with foreign governments were mattered to be dealt with by the investors themselves in the courts, tribunals, and political processes of the country concerned.

The government, and Foreign Office officials, were constantly lobbied to provide additional support to British investors, and the pretty consistent response was “no”.  Governments were typically sympathetic, but they took the view that investors dealing in foreign countries needed to look after themselves.  This, recall, was the government of the strongest power at the time, the government of the country that was, by far, the largest source of foreign debt and equity finance.  And it was a great age of financial globalisation.  And not an ISDS in sight.  If the approach wasn’t followed perfectly, it still looks to me like a pretty good model, that worked pretty well.  Surowecki suggests that “in the old days, aggrieved American investors would call in the Navy to protect their interests”.  If so, it certainly wasn’t how the British did things.

A common argument from defenders of ISDS provisions is that very few claims are lodged, and in very few cases do ruling go against national governments.  But Surowecki notes that ‘nearly 100 have been filed in the past two years, as against some five hundred in the previous quarter century before that”, presumably partly a reflection of that fact that such provisions are becoming more common, but also (perhaps) of a greater degree of activism. He reports that investor-protection is an increasingly prominent part of US law-school curricula.

The other argument is that inclusion of ISDS provisions helps encourage foreign investment.  But the evidence I’ve read suggests, unsurprisingly, that this is true only for recipient countries that have had poor quality domestic legal systems.  For them, the offer of ISDS provisions is a credibility-enhancing device, designed to provide potential investors greater reason for confidence in the security of their investment.  The evidence also suggests that there are few or no gains in foreign investment flows between pairs of countries (eg US and UK) that already have perfectly good domestic legal systems.

From a New Zealand perspective, one argument might be “we have a good legal system, so there might be no gain, but there is no probable cost either”.  I’m not entirely convinced.  After all, Philip Morris is pursuing an ISDS case against Australia over plain-packaging of cigarettes, a remedy that would presumably not be open to them under Australian domestic law.  I’m not expressing (and don’t have) a strong view on that, as yet unresolved, case, but it seems to me that advocates of such ISDS provisions need to make a stronger case for why different remedies should be opened up to foreign investors, and why the domestic courts and domestic political process –  on which the rest of us must rely –  are not sufficient.  There may be such a case, but I’ve not yet seen it.

The unease should be heightened when we recognise the limitations of the ISDS process.  There are a couple of useful backgrounders on ISDS issues by Gary Clive Hufbauer on the Peterson Institute website (eg here).  Hufbauer is a supporter of ISDS provisions, but he draws attention to both the lack of appeal provisions in ISDS tribunals, and the lack of transparency (“ICSID does not require parties to post their briefs and arbitration decisions on the web so that the public knows the arguments and the rationale for any award”.   Appeal provisions are pretty fundamental to our system of justice.

Perhaps the argument for New Zealand signing up to such provisions, whether in TPP or other agreements, is that it helps New Zealand firms investing abroad.  But at a pragmatic level, the countries we are negotiating TPP with now almost all have pretty good domestic legal systems.  And why does the New Zealand government think it is part of its role to negotiate provisions to allow New Zealand investors more rights in respect of investment in overseas countries than those countries provide to their own domestic investors?   The hands-off approach was good enough for Palmerston, Gladstone, and generations of their contemporaries.

ISDS provisions are probably not the most important aspect of TPP, or other similar agreements.  But there doesn’t seem to be much else on offer.  Countries like New Zealand seem fairly certain to be losers from extended intellectual property protections, and the comments from John Key and Tim Groser still don’t suggest any prospect of great movement on dairy protectionism.  And if the strongest argument for TPP really is something like strengthening the US relative to China (a goal which I have no particular problem with),the longer-term success of any such strategy depends on perceptions of legitimacy.  Given the unease many people seem to feel about ISDS provisions, which can look (whether or not they are) like something that is “designed to put corporate interests above public ones”, and the limited evidence of any real economic gains from such provisions, it isn’t obvious why ISDS provisions serve the interests of ordinary citizens or governments, in democratic countries with robust legal and political systems. In the words of a contributor at Forbes, (not, probably, high on Jane Kelsey’s regular reading list) ISDS provisions seem disconcertingly like a “subsidy to business that comes at the expense of domestic investment and the rule of law”

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