A Tale of Two Treaties: a Study of Nafta and the Usmca's Investor-state Dispute Settlement Mechanisms

• Jurisdiction: United States,Federal
• Citation: Vol. 35 No. 2
• Publication year: 2021

A Tale of Two Treaties: A Study of NAFTA and the USMCA's Investor-State Dispute Settlement Mechanisms

Jerry L. Lai

A TALE OF TWO TREATIES: A STUDY OF NAFTA AND THE USMCA'S INVESTOR-STATE DISPUTE SETTLEMENT MECHANISMS

Introduction

The United States-Mexico-Canada Agreement (USMCA)¹ has recently replaced the North American Free Trade Agreement (NAFTA) as the premier trade agreement between the three largest economies of North America.² The new treaty entails important changes to NAFTA's existing dispute settlement provisions, notably the near-abolition of the latter's controversial investor-state dispute settlement (ISDS) mechanism. Taken as a whole, the USMCA's ISDS mechanism strikes a balance between the need to facilitate cross-border investment, especially between Mexico and the United States, and the need to minimize the controversies that surround ISDS in academic and political circles.³ This balance in turn helps encourage economic development across North America, by insulating the USMCA from political risks associated with ISDS that have frustrated other multilateral free-trade and investment regimes across the globe. As a result, the USMCA may prove to be a viable template for ISDS in the future.

The main body of this Comment will proceed as follows. Part I will present an overview of the existing ISDS mechanisms in NAFTA as illustrated by case studies. Part II will discuss the ISDS mechanism and other relevant clauses in the USMCA, examining the renegotiation process and major changes made compared to their NAFTA predecessors. Part III will analyze the possible impact of the new mechanism on cross-continental investment. Finally, Part IV will explore the viability of the USMCA mechanism as a template for future agreements, as well as potential points of contention that may require redress down the road.

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I. Investor-State Dispute Settlement in NAFTA: An Overview

NAFTA's principal dispute settlement mechanisms are found in Chapters 11, 19, and 20 of the treaty. Chapter 11 contains the ISDS mechanism;⁴ Chapter 19 provides an alternative to domestic courts for settling antidumping and countervailing duty (AD/CVD) cases,⁵ while Chapter 20 applies to disputes over the interpretation or application of the agreement.⁶

A. NAFTA Chapter 11 Provisions

NAFTA Chapter 11 allows investors from one NAFTA country ("NAFTA investors") to sue the government of another NAFTA country ("host NAFTA country") for alleged breach of its obligations under the treaty. This arrangement is designed to provide investors with an impartial tribunal to hear their grievances,⁷ while at the same time sparing their home countries the burden of taking up their case and the risk of diplomatic escalation.⁸ The main investor protections offered by Chapter 11 are as follows:

• National treatment: a host NAFTA country cannot grant NAFTA investors and their investments less favorable treatment than that granted to domestic investors and investments;⁹
• Most-favored-nation treatment: a host NAFTA country cannot give NAFTA investors and their investments less favorable treatment than that accorded to domestic investors and investors from any other non-NAFTA country;¹⁰
• Minimum standard of treatment: a host NAFTA country must, at minimum, treat NAFTA investors and their investments in accordance with international law, in a fair and equitable manner with full protection and security;¹¹
• Ban on performance requirements: a host NAFTA country cannot

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impose specific performance requirements, such as technology transfer or minimum domestic content, on a NAFTA investor or investment;¹²
• Free transfer of funds: a host NAFTA country must freely permit all monetary transfers relating to an investment of a NAFTA investor without delay;¹³
• Safeguard against expropriation: a host NAFTA country cannot directly or indirectly expropriate, or implement a measure tantamount to expropriation against, the investment of a NAFTA investor, except for a public purpose and on a lawful, non-discriminatory basis. In such cases, fair compensation must be offered to the investor in question.¹⁴

A NAFTA investor who accuses a host NAFTA country of breaching its obligations under Chapter 11 may, after giving sufficient notice,¹⁵ submit a claim to arbitration under one of the following mechanisms:

• The Convention of the International Centre for the Settlement of Investment Disputes (ICSID Convention);¹⁶
• The United Nations Commission on International Trade Law (UNCITRAL) Rules; or
• Domestic courts of the host NAFTA country.¹⁷

A final tribunal award is enforceable in domestic courts.¹⁸ Appeals can be made to a domestic court, but the appellate court cannot rule on simple errors of fact or law, or replace the tribunal's decision with its own.¹⁹ Opportunity for appeal is therefore limited.

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B. Chapter 11 Case Studies

While Chapter 11's ISDS mechanism is not exactly innovative,²⁰ it has remained, since its inception, one of the most controversial aspects of NAFTA.²¹ Over the past two decades, the Chapter has received heavy criticism as well as support from legal, academic, and political spheres across the continent.

Critics of Chapter 11 have long slated the ISDS mechanism as primarily concerned with protecting investors at the price of weakening NAFTA countries' ability to legislate or regulate in the public or national interest.²² Three cases, Metalclad Corp. v. United Mexican States, Ethyl Corp. v. Government of Canada, and Clayton/Bilcon of Delaware v. Government of Canada, are often used to illustrate this point.

1. Metalclad Corp. v. United Mexican States

Metalclad Corporation (Metalcald), an American company, sued Mexico under Articles 1105 (minimum standard of treatment) and 1110 (safeguard against expropriation) of NAFTA for preventing the company from opening an already-built hazardous waste facility.²³ The ad hoc tribunal ruled against Mexico, stating it had violated both articles because (1) Mexico failed to provide a transparent and predictable business environment;²⁴ (2) the Mexican federal government made false representations which Metalclad relied upon;²⁵ and (3) the local government's refusal to grant a construction permit and refusal to promulgate an ecological decree over the landfill site was improper.²⁶

The tribunal notably stated its decision was not affected by Article 1114, which allows a host NAFTA country to impose restrictions on investments from another NAFTA country for environmental reasons, since Mexico had permitted

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the construction of the facility to go ahead in the first place.²⁷ In the end, the tribunal awarded Metalclad more than $16 million in damages.²⁸

The decision was controversial for three main reasons. First, it maintained an unusually strict standard for transparency under NAFTA Article 102, by requiring a host NAFTA country to pre-emptively determine its regulatory positions and clarify any potential points of misunderstanding—lest it breaches the "fair and equitable" requirement in Article 1105.²⁹ Second, it defined "expropriation" under Article 1110 more broadly than prevailing international customs.³⁰ Third, the decision curtailed the ability of NAFTA host countries to enact environmental regulations vis-a-vis NAFTA investments, notably by bypassing an in-depth discussion on Article 1114.³¹

Mexico appealed the award to the Supreme Court of British Columbia ("BCSC").³² In 2001, the BCSC overturned the tribunal's ruling on Article 1105 and found the tribunal overreached in finding Mexico's misrepresentations towards Metalclad amounted to indirect expropriation under Article 1110.³³ However, the BCSC refused to do the same regarding the tribunal's "extremely broad" definition of expropriation; it also declined to qualify the tribunal's dismissal of Mexico's argument based on Article 1114 as "patently unreasonable."³⁴ In the end, the BCSC granted a partial award to Metalclad.³⁵

The Metalclad saga attracted considerable notice and debate over the course of the case. Activist groups, international organizations, and even government agencies across the continent condemned the tribunal's award as abuse of the ISDS mechanism, an attack against domestic environmental legislation, and an infringement of national sovereignty.³⁶ Both the governments of Canada and

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Quebec joined Mexico's appeal as intervenors to argue the tribunal's interpretation of Chapter 11 was overbroad.³⁷

In response to the reactions towards the Metalclad case, the NAFTA Free Trade Commission issued a joint interpretive statement to clarify key aspects of Chapter 11 and allay growing public concern.³⁸ The statement echoed the BCSC's decision in affirming that "concepts of 'fair and equitable treatment' . . . do not require treatment in addition to or beyond that which is required by the customary international law," and that "nothing in the relevant arbitral rules imposes a general duty of confidentiality" on the disputing parties to a Chapter 11 arbitration.³⁹

The statement plugged some of the loopholes within Chapter 11 deplored by public opinion and the BCSC alike. Nevertheless it is important to note that while the statement spoke on specific arguments in Metalclad in favor of Mexico and the intervenors, it did not address the chilling effect created against domestic environmental legislation by investors abusing Article 1105 in the style of Metalclad.⁴⁰ Moreover, judicial review offers little recourse to the losing side of the original arbitration⁴¹ —even if the appellate court determines the tribunal had made errors of fact or law.⁴² Finally, the BCSC decision reduced the likelihood of judicial review becoming more effective in the future.⁴³ This means if a rerun of Metalclad occurs on a different aspect of the ISDS mechanism (or any other part of NAFTA), it is likely the appellate court would be equally, or perhaps even more incapable, of reviewing the tribunal's decision in a meaningful

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