The Mechanisms of Trade Agreements - NAFTA & the FTAA

"A well-executed communications program"

First of all, let's get something clear. NAFTA is not a free trade agreement. Neither was the FTA. Prior to the signing of the FTA, 80% of trade between Canada and the US was already free of tarriff or non-tarriff barriers. This had been achieved through the multilateral GATT negotiations. Even more surprising is that the Canadian government that initiated the talks had campaigned in 1984 against free trade. The leader of the Progressive Conservative party, Brian Mulroney, was speaking in Thunder Bay in 1983, when he said, "Free trade with the United States is like sleeping with an elephant. It's terrific until the elephant twitches, and if the elephant rolls over you are a dead man."

And yet, just a couple of years later a leaked internal memo told a very different story about the government's plans:

Our communication strategy should rely less on educating the general public than on getting across the message that the trade initiative is a good idea. In other words, a selling job. The public support generated should be recognized as extremely soft and likely to evaporate rapidly if the debate is allowed to get out of control, so as to erode the central focus of the message. At the same time a substantial majority of the public may be willing to leave the issue in the hands of the government and other interested groups, if the government maintains communication control of the situation. Benign neglect from a majority of Canadians may be the realistic outcome of a well-executed communications program (James Winter, The Silent Revolution University of Ottawa Press, Ottawa, 1990, pp. 46-47).

Readers of newsletter #1 might recognize that the arrogance that produced this memo is still alive and well in the Canadian government fifteen years later. While "benign neglect" might make for efficient governance, it does not make for particularly representative governance. So, when did the government change its mind? And why did the Canadian government enter into negotiations on a "free trade" agreement between nations that already had more or less free trade?

The argument was that an FTA would improve our productivity, lower unemployment, and produce a higher standard of living. Amazingly, this has not happened, in spite of the glowing reviews of corporate executives. Net job creation has been essentially zero. The job gains of the late 1990s barely made up for the job losses of the early 1990s. The unemployment gap between Canada and the US has widened, not narrowed. The growth in trade has had as much to do with a falling Canadian dollar than with the removal of trade restrictions which, in any case, were negligible to begin with. And even so, a huge proportion of trade between the countries is intrafirm; that is, among divisions of the same companies. Productivity hasn't improved. Incomes are stagnant. Cultural protection clauses in the Agreement haven't protected Canadian culture.

Gordon Ritchie, a principal Canadian architect of the FTA, had this to say about negotiating with the US: "The American position was simple: if you want to sell in our markets, you have to play by our rules. If our rules give our own producers an enormous home advantage, that is just too bad. It would be unthinkable, politically, for us to propose that we change any of these laws in any respect just to accomodate Canada" (Gordon Ritchie, Wrestling with the Elephant McFarlane Walter & Ross, Toronto, 1997, p. 84). The fact is that FTA, and NAFTA after it, are concerned primarily with promoting economic integration through investment, trade in services, and dispute settlement measures. Indeed, most of the stated objectives of the NAFTA Agreement are already secured through the GATT Agreements (please refer to Newsletter #2 for a more detailed look at these Agreements). Each section of the NAFTA Agreement starts with a stated intention to adhere to relevant existing GATT Agreements, so what was the need for another agreement? As Ritchie explained, "the most important American objective was to force Canada to abandon the right to regulate foreign investment, long a thorn in the American side" (Ritchie, p. 85). Canada, for its part, claimed to seek freedom from "increased protectionism, particularly through non-farriff measures" (William A. Orme, Jr., Understanding NAFTA University of Texas Press, Austin, 1996, p. 42). Tarriff and non-tarriff barriers to trade are also included in NAFTA, to be sure, but the real meat and potatoes of the agreements lie elsewhere. A quick look at the details of NAFTA will help to establish the special sections that go significantly beyond GATT.

The NAFTA Agreement

National Treatment

Of course, like the WTO, the general principle underlying NAFTA is National treatment, which is defined in NAFTA as "treatment no less favorable than the most favorable treatment accorded by such state or province to any like, directly competitive or substitutable goods, as the case may be, of the Party of which it forms a part" (NAFTA, Chapter 3, Article 301, from www.dfait-maeci.gc.ca). That is, a Member of NAFTA cannot discriminate between domestic products and imported products.

Most Favoured Nation Treatment

Also embedded in the agreements of NAFTA is the principle that the best treatment afforded to any NAFTA Party must be afforded to all such Parties. National Treatment and MFN Treatment are both understood to be compliant with existing GATT rules.

Standstill Obligations

Another principle of NAFTA is the Standstill Obligation. This means that once a Party has agreed to the terms of NAFTA, that Party agrees not to subsequently adopt any laws or regulations that violate the terms of the agreement.

There is no Roll-Back obligation built into the NAFTA agreement, aside from the timetables that have been established for Parties to implement the agreement. However, don't be surprised to find a strong push during the FTAA talks (see below) towards further liberalization.

Chapter Six: Energy and Basic Petrochemicals

This chapter expressly prohibits any restrictions on imports or exports of oil and petrochemicals among the NAFTA Parties. This means that if Canada is experiencing an energy shortage, it will not be allowed to restrict exports to the US. The only exception to this rule is for reasons of national security, an excuse that the US has historically used to justify a variety of trade distorting behaviours, including subsidies and unilateral trade measures.

Not surprisingly, the agreement still allows Parties to "allow existing or future incentives for oil and gas exploration, development and related activities in order to maintain the reserve base for these energy resources" (NAFTA, Chapter 6, Article 608, from www.dfait-maeci.gc.ca). Indeed, in the first two years after the FTA was signed, two megaprojects were undertaken in Canada primarily to serve export markets in the US (Steven Shrybman, "Selling the Environment Short," Trading Freedom Between the Lines Press, 1992, p. 41). Is it a coincidence that massive public subsidies to the private profit of foreign investors are still allowed in an Agreement that is supposed to "liberalize" trade and investment flows?

Investment

This chapter establishes that Parties must apply National Treatment and MFN Treatment to investors and their investments of any Party to the Agreement; that is, a Party cannot treat foreign investors any less favourably than it treats domestic investors, and a Party cannot treat foreign investors from one Party any less favourably than it treats foreign investors from another Party. It also establishes that Parties are not allowed to establish any performance requirements on foreign investors, including export requirements, domestic content requirements, restrictions on the volume and value of its exports, technology transfer requirements (isn't this one of the stated reasons for investment liberalization?) or any restrictions on the transfer of profits, dividends, payments or proceeds. The removal of performance requirements contradicts Canada's historical use of such requirements to encourage foreign firms to invest in such a way that they produce jobs for Canadians. This scheme, called Import Substitution Industrialization (ISI), formed the cornerstone of Canadian industrial development for most of the twentieth century. While it has not been without some serious problems, including high levels of foreign ownership, simply eliminating investment restrictions would only exacerbate the worst problems of ISI without offering any tangible benefits in its place. (See Gordon Laxer, Open for Business Oxford University Press, Don Mills, 1989; and Glen Williams, Not for Export 3rd. Edition, McClelland and Stewart Inc., Toronto, 1994 for more detailed arguments along these lines.)

Settlement of Disputes between a Party and an Investor of another Party

Most of NAFTA 'merely' reconfirms and builds on agreements already established in the GATT, but Chapter Eleven, Section B may be considered a centerpiece of the Agreement. It is also considered the most acrimonious by people and groups that are opposed to the current makeup of the Agreement. It establishes the right of Investors (i.e. corporations) to directly challenge Parties (i.e. governments) for violation of the Investment Agreement through a binding tribunal. Investors of a Party can only challenge another Party through this Section - that is, a corporation cannot challenge its own government. The NAFTA Chapter 11 Dispute Settlement process is also very secretive; the Globe & Mail's editorial board calls the Chapter 11 process a "cone of silence" ("NAFTA cone of silence," editorial, Globe & Mail, Aug 26, 1998). Further, the Section only applies to Investors; non-profit organizations, NGOs, etc., are not permitted to issue challenges through this mechanism.

A few recent examples may help to establish the significance of this Section.

PCBs

On July 21, 1998, S.D. Myers Inc. issued a challenge against the Government of Canada. Myers is a waste treatment company that set up an operation in Canada in 1995 for exporting PCBs to its treatment facility in Tallmadge, Ohio. In 1990, Canada established regulations prohibiting the export of PCBs to any country other than the US (and then only on US EPA approval), but then in 1995 passed an interim order that changed the regulations so that PCBs could not be exported anywhere. PCBs are a banned substance; Myers' US market for stored PCBs was drying up and it was looking for new markets to exploit. Canada's Defence was that since Canada was a signatory of the Basel Convention on hazardous waste (which specifies, among other things, that signatories cannot trade hazardous materials with non-signatories), and the US was not, it had to issue the interim order until the US ratified the Convention. Myers incorporated its Canadian division and then heavily lobbied for the right to export PCBs to Ohio (the Canadian division would make money simply through transporting the PCBs). The EPA issued an order allowing the import of Canadian PCBs by Myers, with the proviso that the PCBs be disposed of in an environmentally responsible manner. The Canadian government took the stand that Canadian PCBs should be disposed of in Canada, in agreement with the Basel Convention ("In a NAFTA Arbitration Under the Uncitral Arbitration Rules S.D. Myers, Inc. (Claimant) -and- Government of Canada (Respondent) Partial Award" www.dfait-maeci.gc.ca). The result of this decision "was to prohibit S.D. Myers from conducting business in Canada" (Notice of Intent to Submit a Claim to Arbitration Under Section B of Chapter 11 of the North American Free Trade Agreement, S.D. Myers Inc (Investor) v. Government of Canada (Party), from www.dfait-maeci.gc.ca), a charge that was partially upheld by the tribunal.

MMT

On September 10, 1996, Ethyl Corporation of Richmond Virginia issued a challenge against the Government of Canada. Among other activities, Ethyl manufactures a gasoline additive called MMT, which is designed to increase the level of octane in unleaded gasoline. Ethyl Canada imports MMT from Ethyl Corporation and then sells it to various purchasers in Canada. There is some indication that MMT poses a danger to human and animal health, but not enough for Health Canada to recommend banning the product. In addition, the Canadian auto industry claims that MMT damages emission control monitoring systems in new cars. MMT is banned in several American states, including California. When the Canadian government banned the additive on the grounds of its "potential negative effect on the health of Canadians caused by possible interference of MMT on automobile computer systems which monitor tailpipe emissions" ("In the Matter of an Arbitration under Chapter Eleven of the North American Free Trade Agreement between Ethyl Corporation (Claimant/Investor) and The Government of Canada (Respondent/Party)", www.dfait-maeci.gc.ca), Ethyl called the ban "expropriation" and demanded that it be compensated US $200,000 by the Canadian Government for its lost business. Afraid of losing an embarrasing tribunal, Canada settled with Ethyl, publicly apologizing for the ban, paying Ethyl US $13 million in damages, and reversing the ban. Not surprisingly, once the MMT ban was lifted, automakers started complaining that they would not be able to meet Canada's new emissions standards. They also "suggested" that the Canadian government shoud compensate them for their additional expenses they would have to incur as a result of this change ("Automakers seek lifting of pollution controls," The Toronto Star, July 24, 1998).

Metalclad

In October of 1996, Metalclad Corporation issued a challenge against the Government of Mexico. Metalclad wanted to operate a hazardous waste treatment facility in the state of San Luis Potosi. A Mexican company called COTERIN owned the land and had requested a licence to operate a hazardous waste facility there. The Federal government of Mexico authorized COTERIN to operate the facility, and the State government granted a land use permit, but the municipal government refused to issue a municipal permit. Metalclad purchased this company with the proviso that either a municipal permit be granted or a court rule that a municipal permit not be required. Then, Metalclad proceeded to construct the facility without waiting for the permit issue to be resolved. Metalclad attempted to open the facility, but demonstrations shut the opening down, and it has not operated since that time. The municipality upheld the refusal to permit the operation on the grounds that the facility had been built before a permit was issued, there were environmental concerns, and a majority of the municipality's citizens opposed the facility. Metalclad claimed that this amounted to expropriation and demanded to be compensated. Metalclad claimed that Mexican federal and state authorities led the company to believe that municipal consent would not be required. A NAFTA tribunal was formed, and awarded Metalclad US $16 million in damages. An appeal to the British Columbia Supreme Court amended the original damages to 75% of US $16 million ("Reasons for Judgment of The Honourable Mr. Justice Tysoe," May 2, 2001, www.dfait-maeci.gc.ca).

Environment

At the same time that NAFTA was drafted and signed, Canada the US and Mexico also put together the North American Agreement on Environmental Cooperation, a non-binding agreement that is supposed to protect environmental regulations from NAFTA. However, the Agreement is an exercise in the triumph of form over content. Article Three establishes that the Agreement can not be used to enforce continental standards: "Recognizing the right of each Party to establish its own levels of domestic environmental protection and environmental development policies and priorities, and to adopt or modify accordingly its environmental laws and regulations, each Party shall ensure that its laws and regulations provide for high levels of environmental protection and shall strive to continue to improve those laws and regulations" (North American Agreement on Environmental Cooperation, Part Two, Article Three, from www.cec.org).

Part Six is a long list of limitations on what a Party can do to enforce environmental rules on another Party. A Party cannot: enforce the environmental law of another Party, enforce its own environmental law in another Party, allow a person in its jurisdiction to challenge the environmental law of another Party, or use the Agreement to affect the existing environmental law of another Party (see North American Agreement on Environmental Cooperation, Part Six, from www.cec.org). Essentially, none of the measures that are central to the enforcement and dispute settlement measures of NAFTA are embodied in the Environmental Agreement. It's hard to avoid the conclusion that this Agreement was tacked on at the last minute to assuage public concerns that NAFTA would pressure Parties to undermine their own environmental laws. To be sure, this Agreement does absolutely nothing to prevent Parties from doing just that. In any case, the Commission for Environmental Co-operation (the watchdog organization of the Environmental Agreement) was reined in by 1998 in order to "limit its ability to embarrass member countries." The argument was that it is too difficult to compare environmental standards between different jurisdictions ("NAFTA watchdog leashed," Globe & Mail, July 2, 1998), an obviously lame excuse.

Article 1114 of Chapter Eleven (the Investment Chapter) also includes a paragraph on the environment that is telling. "The Parties recognize that it is inappropriate to encourage investment by relaxing domestic health, safety or environmental measures. Accordingly, a Party should not waive or otherwise derogate from, or offer to waive or otherwise derogate from, such measures as an encouragement for the establishment, acquisition, expansion or retention in its territory of an investment of an investor. If a Party considers that another Party has offered such an encouragement, it may request consultations with the other Party and the two Parties shall consult with a view to avoiding any such encouragement (NAFTA Part Five, Chapter Eleven, Article 1114, Section 2, from www.dfait-maeci.gc.ca). Note that this is non-binding. It establishes that Parties should "consult" in order to "avoid" encouraging trade on the basis of weak standards.

What's next: the FTAA

George Bush (Sr.) announced his hemispheric trade goals in June of 1990. At the same time that he launched an initiative to draft NAFTA, he also called for an "Enterprise for the Americas" to unite "the port of Anchorage to Tierra del Fuego" in a hemispheric free trade area (John Cavanagh, "Free Trade as Opportunity," Trading Freedom Between the Lines Press, Toronto, 1992, p. 1). In the wake of the signing of the FTA, Mexico initiated talks with the US for another bilateral agreement. In what University of Toronto economist Sylvia Ostry called "damage containment" to prevent a "hub-and-spoke approach" to trade agreements with the US as the hub, Canada was forced to join the NAFTA talks (Sylvia Ostry, "The NAFTA: Its International Economics Background," Steven J. Radell, ed., North America Without Borders University of Calgary Press, Calgary, 1992). With fast track authority in the US Congress (that is, Congress would have to either ratify the NAFTA in its entirety or reject it in its entirety; it would not be allowed to recommend changes), the NAFTA negotiating team hammered out a trilateral agreement that was ratified by the governments of all three countries.

After NAFTA, US President Bill Clinton attempted to secure fast track authority to negotiate a Free Trade Area of the Americas (FTAA) by 2005, in accordance with an agreement by the 34 Members of the Organization of American States (OAS) in 1994. Clinton made the mistake of making noises about the failure of the NAFTA side agreements on labour and the environment to enforce standards, and division between the Democratic president and the mainly Republican Congress blocked the granting of fast track authority. Without it, any multilateral agreement would be open to subsequent change by Congress, and negotiations would grind to a halt. In the meantime, other OAS countries have pursued bilateral trade agreements, playing the same game against the US that the US had played against Canada through its early negotiations with Mexico (see "U.S. finds itself out of loop on trade," Globe & Mail, May 15, 1997). Mexico itself is fast turning into a hemispheric trade hub, having negotiated agreements with Chile, Bolivia, Colombia, Venezuela, Costa Rica, and Nicaragua. Mexico is also negotiating with the EU. "We are very, very active. We will negotiate with anybody who wants to negotiate with us," said Mexican Trade Minister Herminio Blanco in 1999 ("Wheeler-dealer Mexico irks Ottawa", Globe & Mail, April 15, 1999). Some analysts believe that Brazil, the premier government in MERCOSUR, a trade bloc of Latin and South American countries, is emerging as a viable counter to US dominance of the region ("Clinton blind-sided," Hamilton Spectator, October 20, 1997).

Of course, these governments are simply beating the US at its own game. They are pursuing exactly the kinds of trade agreements that the US has been trying to secure through its own involvement in various trade talks. The underlying assumptions behind the trade agreements are no different. The election of George W. Bush has rekindled interest in the FTAA initiative that his father launched ten years ago. If Bush Jr. can obtain fast track authority in Congress, then an FTAA could be a reality by 2005. We can expect that the US will continue with its long time insistence on including prohibitions on non-tarriff barriers, investment barriers, performance requirements, and service exceptions from any future trade regime.

Ryan McGreal
May 19, 2001

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