Privatization, Free Trade and the Erosion of Government Authority

1. Privatization, Free Trade and the Erosion of Government Authority Jennifer Gerbasi Presented to Economic Policy Institute Washington, D.C. April 2003 Overview Market Structuring Role of Local Government Democratic Deficit Created by Free Trade Agreements Implications for Privatization Cornell University, 305 West Sibley Hall, Ithaca, NY 14853 607/255-6647 * jcg28@cornell.edu

2. Market Structuring RoleThe Subtext • Government needs to actively shape the market • Government sets the proconditions and presuppositions of markets • Define property rights • Create a framework for bargaining • Balance public and private interests • Respect a process for dispute resolution

3. Market Structuring RoleSpecific to Privatization • Privatization requires government intervention into the administration of markets – undermines market independence • Ensure competition, and attention to public values • The contract negotiation by the government is key • Monitoring, reliability, quality • Access, process transparency, public participation • Government is the primary actor in privatization

4. Free Trade Regime Goals • Inhibit government manipulation of the market • Perceived barriers to the flow of money and goods • Rely on market disciplines to make businesses efficient • Regulations, guidelines and rules are viewed as non-tariff barriers to trade and unnecessary • Increase Foreign Direct Investment (FDI) • Rise above the politics of place

5. Free Trade Regime Mechanisms • Eliminate local requirements for contracting • Limit purchasing criteria to quality and quantity • Eliminate practices that favor public provision

6. Recent Trade Agreements • North American Free Trade Agreement (1994) • New Investor Rights - Chapter 11 • World Trade Organization (1995) • Binding/Financial Penalties • General Agreement on Trade in Services (1996) • Liberalizes Services • Free Trade Area of the Americas • Extends the above to all 34 north, central and south American countries excluding Cuba.

7. FTAs Erode State and Local Government Authority • Replacing democratic voice and participation with enhanced investor rights • Change in property rights limits the framework for bargaining and security in contract negotiations • Limiting the expression of collective preference through state and local legislation • Undermining judicial authority by substituting private tribunals for the public courts

8.  Investor rights Foreign Investors are on par with nations • Investors • Enforce treaty obligations in investor-state disputes that traditionally were nation-nation • Do not need the approval of their home nation • Comment on Proposed Legislation • Defined: • An investor is any person or entity with a financial interest in the property including individual shareholders and lenders

9.  Investor Property Rights Under free trade agreements property includes: • market share • market access • future profits Compensation could be awarded when a regulation interferes substantially with the enjoyment of property Not considered “property” in the US.

10. Partial Takings • US companies would not get compensation if: • Owners equally impacted • Other uses of the property • Rationally related to a legitimate public purpose • Compensated only for: • physical occupation or • Close to 100% of the property value was lost • Mexico customarily subjugates private rights to the public good

11.  Preemption of Legislative Authority • Harmonization • Precautionary Principle • The choice of mechanism or law must be the “least trade restrictive”

12.  US Laws/CourtsIrrelevant Foreign investors can challenge US laws in secretive international tribunals • The federal government is a party • The state or locality is not privy • The investor and country choose the law (usually international) • No deference is given to precedence in the national courts or previous tribunals

13. Democratic Deficit • No effective mechanism for citizen input/debate • Citizen voice shared by foreign investors • Investor needs placed above public values and accountability • Government action can be interpreted as a barrier to trade • Tribunals preempt legislation and court system

14. Methanex v. US Example 1 • Facts: • California well water was contaminated • Studies showed it was MTBE • It is used to make gas burn cleaner • MTBE is carcinogenic • There are substitutes • Government Reaction: • Courts award $50 million to municipalities for ground water contamination • California banned its use as of 2003

15. Resulting NAFTA Challenge • Canadian manufacturer claims: • Loss of Profit/Market Share • Discrimination in favor of domestic products • Other countries find no leakages • California should enforce LUST laws more stringently rather than ban MTBE • Damages requested: • $970 million US

16. UPS v. Canada Example 2 Facts: • The Canadian Royal Post delivers parcels on letter routes. • The government owned corporation parallels the US Postal Service Government Action: • No new action. Traditional role.

17. Resulting Challenge UPS, a United States corporation, claims: • This constitutes an unfair cross-subsidy • Public is competing unfairly with the private firm Damages Requested: • Equal access to letter carriers or • Cash awards equal in value to the subsidy

18. Business Construction Distribution Educational Environmental Health Tourism Recreational Cultural Transport Traditional Government Services Liberalized by GATS

19. Market StructuringRole Threatened • Subsidies to government services must be extended to foreign investors • Zoning may be challenged • Licensing may be harmonized • No residency requirements • No performance requirements • Bonds may be prohibited • Tax revenues may be affected

20. Free Trade Agreements Create a Governance Deficit • Need a balance between governance and economic development goals. • Market solutions to public goods require government intervention • Free trade agreements strip state and local governments of that authority

21. Metalclad v. Mexico Example 3 Facts: • Metalclad got Federal and Regional government approvals to build a toxic waste processing plant • The EIS said the ground water would be affected Government response: • The local government denied permit • The area was designated a nature preserve

22. Resulting Challenge Metalclad claimed: • Expropriation of investment • Unfair treatment Award: The full cost of the completed building - $16.8 million US Decided

23. Free Trade Agreements Erode Local and State Government Authority. “If you are worried over state sovereignty, my advice to you is ‘Get over it.’” US Trade Representative Negotiator David Price

24. FTAs Erode State and Local Government Authority 1. Foreign Investors on par with Nations 2. Redefinition of takings to include regulatory takings and provide compensation for loss of potential profits and market share. 3. Substitution of private tribunals for public courts 4. Preemption of sub-national legislative authority

25. The Loewen Group, Inc. v. United States challenge is an example of this threat. Loewen, a Canadian funeral home, has been granted standing by a NAFTA tribunal to sue the United States for requiring a bond before the appeals process. Loewen was found guilty of illegal competitive tactics and was fined $400 million punitive damages award in the Mississippi Supreme Court. Mississippi requires that appellants post a bond (equal to 125%) for the award that would be due if the appeal fails. Loewen settled the case for $175 million. Still dissatisfied with the outcome, in 1998 Loewen turned to the NAFTA process for relief. Loewen is claiming that the actions of the awarding jury and the court have been influenced by their status as a foreign company, and therefore are challenging the damages award. If Loewen is successful, there will be broad implications for all U.S. courts. If the NAFTA tribunal protects Loewen by declaring the Mississippi law invalid, then the impact of NAFTA will be that • International Institute for Sustainable Development, 2001. Public Rights, Public Problems: A guide to NAFTA's controversial chapter on investor rights. World Wildlife Fund, Canada. • investors will not be required to exhaust remedies before going to arbitration, • investors can go through the court system and then challenge it if not satisfied, • the court decisions will not be given weight by the tribunal or considered in their deliberations, • no civil dispute with a foreign investor can be considered settled until a tribunal has also considered it. • The U.S. court system could be circumvented entirely. These are not changes to the treaty, but a lenient interpretation that mirrors the lack of deference integral to the treaty. The way the treaty is written the arbitration panels are under no requirement to give the court or the state laws deference. A single foreign shareholder, without the consent of the company or country of origin, could claim an investment loss and challenge the legitimacy of the American court system. The courts would lose their ability to interpret the law for foreign cases. There would be two standards for disputes, one for foreigners set by NAFTA, and the traditional U.S. law for domestic companies and investors.