Export Processing Zones and Free Trade Agreements: Lessons from the North American Agreement on Labor Cooperation

• Author: Bryan D. Gerbracht
• Position: J.D. Candidate, The University of Iowa College of Law, May 2007
• Pages: 1030-1056

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I Introduction

With the recent ratification of the Dominican Republic-Central America-United States Free Trade Agreement (DR-CAFTA),¹ it is now possible to consider in earnest how this agreement will affect the participating countries. This Note is just one of many articles concerned with the potential impact of the DR-CAFTA,² and its focus is relatively narrow. Predicting the specific impacts of a free trade agreement is difficult,³ and unlike other analyses, this Note does not address its economic impact. Instead, this Note addresses the question of how DRCAFTA will affect the labor rights of export processing zone (EPZ) workers in Central America. Unlike the North American Free Trade Agreement (NAFTA), which does not contain a labor chapter⁴ (only a supplementary agreement known as the North American Agreement on Labor Cooperation (NAALC)⁵), Article 16 of DR-CAFTA contains specific provisions on labor.⁶ The inclusion of these provisions distinguishes the DR-CAFTA from NAFTA, although this distinction is minimized by the presence of the NAALC. This Note analyzes how the NAALC has affected labor rights and uses the NAALC experience and legal framework to examine the possible effects of the DR-CAFTA labor chapter.

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In order to consider the lessons of the NAALC⁷ and to apply them to the framework of the DR-CAFTA labor chapter,⁸ it is necessary to supply a context. For this reason, before considering the NAALC and DR-CAFTA, this Note provides a general explanation of EPZs: a general background of terms, the theory behind EPZ use,⁹ a brief history of EPZs,¹⁰ the Central American experience regarding EPZs,¹¹ and an analysis of EPZs.¹² The Note then considers labor problems associated with EPZs.¹³This context and analysis sets the stage for a discussion of the NAALC and the DR-CAFTA.

Next, this Note outlines and compares the legal frameworks of the NAALC and the DR-CAFTA. Additionally, this Note considers a report filed on September 30, 2003, pursuant to the procedures the NAALC created, to illustrate the strengths and limitations of the NAALC with regard to the labor rights of EPZ workers.¹⁴

In describing the DR-CAFTA labor chapter, the United States Trade Representative (USTR) made several assertions.¹⁵ First, it asserted that the agreement "includes unprecedented provisions that commit DR-Page 1032CAFTA countries to provide workers with improved access to procedures that protect their rights."¹⁶ Second, it claimed that DR-CAFTA protects labor more than U.S. free-trade agreements with Chile and Singapore, and will "ensur[e] effective enforcement of existing labor laws."¹⁷ These two statements provide the scope of this Note's analysis and should be kept in mind. As a trade agreement, the DR-CAFTA will undoubtedly produce tangible economic consequences for the participating countries. As a labor agreement, however, it is unlikely to live up to the Trade Representative's claims.

II Theory and History of Export Processing Zones (EPZS)

A Theory and Purposes of EPZs

At a policy level, EPZs are part of a country's trade policy and are designed to promote non-traditional exports by providing tax relief to export-oriented companies.¹⁸ In practice, they are "special industrial parks . . . within a country where foreign and domestic goods may enter duty free in order to be stored, distributed, combined with other foreign and/or domestic products, or used in manufacturing operations."¹⁹Thus, EPZs can be viewed as "small islands"²⁰ of liberalized trade that exist within a country that otherwise maintains restrictions on foreign trade.²¹ This "island" status promotes exportation of the goods produced within EPZs,²² as goods produced elsewhere in the country are subject to the country's import taxes and regulations if sold on the domestic market.²³ Additionally, the World Bank has noted that "[i]n many casesPage 1033 there is no limitation on foreign ownership of the firms or on the repatriation of the profits."²⁴

The World Bank has also said that "[t]here is an overall consensus on the primary goals of an export processing zone."²⁵ These goals are as follows:

1. Provide foreign exchange earnings by promoting non-traditional exports.

2. Provide jobs to alleviate unemployment or under-employment problems in the host country; assist in income creation.

3. Attract foreign direct investment (FDI) to the host country.

4. In the case of a successful EPZ foreign direct investment would be accompanied by technological transfer, knowledge spill-over and demonstration effects that would act as catalysts for domestic entrepreneurs to engage in production of non-traditional products.²⁶

Thus, there are multiple goals that a country pursues through the use of EPZs, but most observers consider EPZs to primarily be "source[s] of technological transfers and human capital development."²⁷ In spite of the majority view that these are the two primary uses of EPZs, labor development and economic development are not always complementary goals. As the experiences of Honduras and Costa Rica illustrate in the next section, EPZs can be utilized to provide employment opportunities. However, as wages increase, these opportunities decrease. Consequently, it is important to remember that EPZs are, first and foremost, elements of a country's economic policy²⁸ and do not guarantee long-term advancements for a country's labor force.

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B The Central American Experience with EPZs

In 1975, there were only two dozen countries that had some form of EPZs.²⁹ At that time, approximately 800,000 workers were employed worldwide in EPZs, but by 1986 the number had grown to 1.9 million.³⁰By 1990, the number of EPZ workers was estimated to be 3.5 million.³¹In 1997, there were 845 EPZs, with 22.5 million workers.³² This number increased to 3000 EPZs employing 37 million workers by 2002³³-of the 37 million workers, 30 million were Chinese.³⁴ In short, the number of EPZ workers worldwide is steadily increasing, and the region of Central America is not an exception to this trend.

In Central America, EPZs have been utilized for over forty years.³⁵The five Central American countries that have ratified DR-CAFTA³⁶ began their respective EPZ programs within a relatively short period of each other. The Dominican Republic was the first in 1965, followed by Guatemala, Honduras, and El Salvador in the early 1970s, and by Nicaragua in 1976.³⁷ Costa Rica, the only Central American country that has not ratified DR-CAFTA, began its EPZ program in 1981.³⁸

A few remarks must be made about each of the Central American countries' EPZ programs to illustrate the trend of sharp growth in the number of EPZ workers that almost all countries exhibit and to present a few of the methods these countries use to entice firms to operate within EPZs. The Dominican Republic is an exception to the general rule thatPage 1035 EPZ-produced goods are subject to the country's import taxes and regulations if they are sold on the domestic market.³⁹ An EPZ firm can sell 20 percent of its output in the domestic market and not be subject to import taxes.⁴⁰ This tax exception has proved to be a successful tool in creating EPZ employment, as the number of EPZ workers grew during the 1990s from approximately 126,000 to 200,000 by 2000.⁴¹

In Guatemala, there was only one EPZ in operation in 1991. Throughout the 1990s, a small number of workers were employed in EPZs. In 1998, there were only about 1400 EPZ-employed workers.⁴² In Guatemala, similar to the Dominican Republic, industrial firms in EPZs can sell 20 percent of their output to the domestic market; however, unlike the Dominican Republic, there must be authorization first, and the firms are still required to pay import duties on the goods.⁴³ These additional requirements seem to have limited the demand for workers in Guatemala, resulting in an EPZ worker population that is much lower than in most of the other Central American countries.

In Honduras, developing companies within the EPZ zones are exempt from income taxes for twenty years.⁴⁴ However, this tax holiday is not without strings attached-a zone developer must guarantee that at least 5000 jobs will be created within five years.⁴⁵ This stipulation has proved to be a successful policy decision, as there was a sharp increase in the number of EPZ workers during the early 1990s, growing from 19,000 workers in 1991 to over 61,000 in 1996.⁴⁶ For the year 2005, it is estimated that the number of EPZ workers in Honduras was 130,000.⁴⁷The experiences in Guatemala and Honduras suggest that EPZ firms are fully capable of providing jobs to the domestic population when the government does not limit the generous tax advantages EPZ firms enjoy. However, as discussed later in this Note, the problem for many workersPage 1036 is not acquiring employment within EPZs, but rather the working environment of those positions.

In El Salvador, with the exception of textile and garment firms, EPZ firms can sell up to 15 percent of their output to the country's domestic market.⁴⁸ Zone developers have income tax exemptions for fifteen years and municipal tax exemptions for ten years.⁴⁹ With EPZ incentives similar to the Dominican...