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EU Take On ISDS In Canada Talks Could Pose Hurdle for U.S.-EU Talks

Article from Inside US Trade, March 14, 2013 –

In the ongoing trade negotiations between the European Union and Canada on elements of an investor-state dispute settlement (ISDS) mechanism, the EU is taking a position on what government measures constitute indirect expropriation that would put it at odds with the United States if it were maintained in potential U.S.-EU trade negotiations.

The EU position would allow investors a relatively easier process for arguing that even measures applied to achieve legitimate policy objectives may constitute indirect expropriation. In contrast, Canada has proposed language that would provide the government with a stronger shield against investors seeking to make an indirect expropriation claim.

A direct expropriation is an affirmative taking of property wherein the government acquires title to or dominion over the property or enables someone else to do so. An indirect expropriation has the same effect but without the affirmative, deliberate expropriatory act.

Canada’s proposed language on what measures are safeguarded from indirect expropriation claims is closer to the relevant language in the U.S. model BIT than the text advanced by the EU.

These differences on indirect expropriation are evident in the investment chapter of the EU-Canada free trade agreement, according to a leaked copy first acquired by the Canadian newspaper La Presse and later obtained by Inside U.S. Trade. The investment chapter contains a multitude of bracketed text on a range of investment issues, denoting areas where the two parties disagree.

One U.S. investment expert said that if the EU were to bring this indirect expropriation language to the table with the U.S. as part of a U.S.-EU trade negotiation, the difference to the U.S. model bilateral investment treaty (BIT) language would be “more than technical.”

Another source went so far as to say the difference would constitute a “significant hurdle” in the talks. This source added that the EU is likely taking this investor-friendly approach because the European Commission only attained the competency to negotiate investment agreements under the Lisbon Treaty, which entered into force in 2009. Thus, it has little experience with litigation by investors charging indirect expropriation, according to the source. But there is an internal debate within the EU on whether the commission should maintain the stance it is currently taken or seek more protection from indirect expropriation law suits, one informed source said.

One expert also noted that the U.S. considers its model BIT language “quasi-sacred,” and speculated it would likely take a firm line to keep it intact in any negotiation with the EU. Another source predicted the U.S. would make a “hard sell” to retain its model BIT language in most areas.

But these sources cautioned that it is difficult to forecast U.S.-EU negotiating dynamics when the negotiations have not even been launched.

However, this source noted that it could be possible that U.S. business associations could create added pressure on the U.S. government to adopt the EU’s more investor-friendly language on indirect expropriation.

Stuart Trew, trade campaigner for the civil society group The Council of Canadians, noted that indirect expropriation is “one of the most used and abused of the substantive rights granted to corporations and investors” in both the North American Free Trade Agreement and most other bilateral investment treaties.”

Following a three-pronged definition of what government actions constitute indirect expropriation, the EU and Canada offer their language of what government actions are carved out and not considered to be indirect expropriation, according to the leaked draft text.

Canada’s paragraph is as follows: “Except in rare circumstances, such as when a measure or series of measures is so severe in the light of its purpose that it cannot be reasonably viewed as having been adopted and applied in good faith, non-discriminatory measures by a Party that are designed and applied to protect legitimate public welfare objectives, such as health, safety and the environment, do not constitute indirect expropriations.”

By contrast, the EU language takes a different approach. “Subject to the principle of proportionality, non-discriminatory measures of general application taken by a Party that are designed to protect legitimate public policy objectives do not constitute indirect expropriation if they are necessary and are applied in such a way that they genuinely meet the public policy objectives for which they are designed.”

The critical difference between the two bracketed proposals is the existence of the “necessary” requirement in the EU text that does not appear in Canada’s.

Investment experts predicted that a dispute settlement tribunal would likely view the necessity provision as an affirmative defense and place the burden of proof on the government to show that a given measure or series of measures were necessary to achieve a stated objective.

The term necessary has long proven to be a high hurdle to meet in the course of trade litigation, Trew and other investment experts agreed.

The inclusion of the necessity provision in the agreement stems from the EU’s “principle of proportionality.” That principle, enshrined in Article 5 of the Lisbon Treaty, dictates that any government involvement by the EU must be limited to what is necessary to achieve the objectives of that government action.

This creates a substantive difference between the EU and the U.S. model BIT, sources noted, which does not require the government to prove a measure is “necessary” to defend itself from indirect expropriation litigation.

The U.S. model BIT language defines government measures that do not constitute indirect expropriation as follows: “Except in rare circumstances, non-discriminatory regulatory actions by a Party that are designed and applied to protect legitimate public welfare objectives, such as public health, safety and the environment do not constitute indirect expropriations.”

The only substantive difference between the U.S. model BIT language and the Canadian proposed language on indirect expropriation is that Canada cites an example of the “rare circumstances” under which even a measure that is meant to achieve legitimate policy objectives could be considered indirect expropriation.

In contrast, the U.S. model simply includes the “rare circumstances” exemption without elaborating what that would constitute.

Canada defines this exemption as non-discriminatory measures so severe in the light of its purpose that it cannot be reasonably viewed as having been adopted and applied in good faith. Experts agreed that Canada’s wording on “good faith” imposes a high standard for a rare circumstance, given that it would be difficult to prove malicious intent on the part of a government.

But they disagreed on whether its inclusion would create a significant negotiating rift between the U.S. and Canada in the course of the Trans-Pacific Partnership (TPP) negotiations.

Experts that saw little problem pointed out that Canada’s good faith example of rare circumstances is preceded by the phrase “such as,” meaning that there could be other rare circumstances in which a measure would not be considered indirect expropriation.

Another expert noted that panels could consider the good faith test just one of several rare circumstances, ostensibly making that definition as broad as the U.S. model BIT, which does not enumerate any instances of rare circumstances.

But another source disagreed and said that the significance of the “such as” language would largely be determined in the course of arbitration. He said that tribunals tend to consider such language in context, meaning that the fact that Canada felt compelled to give one definition of rare circumstances could in essence make this example the standard.

In any case, several experts agreed that to the extent there are any differences between the U.S. and Canadian language on indirect expropriation, Canada is unlikely to press the issue against the U.S. in the course of the TPP talks. They said Canada is much more focused on policy issues like procurement.

Trew did note that Canada and the EU are seeking to make the ISDS more transparent. If they are successful in reaching an agreement, it is conceivable that Canada could persuade the U.S. to adopt those changes in an effort win over TPP countries that are skeptical of ISDS, such as Australia.