Sleeping with an elephant a canadian defence against 21st century u s protectionism by Matthew T Simpson

SLEEPING WITH AN ELEPHANT: A Canadian Defence Against 21st Century U.S. Protectionism

Matthew Thomas Simpson Hobart and William Smith Colleges April 6, 2004

ÂŠ Matthew Thomas Simpson, 2004

“Living next to you is in some ways like sleeping with an elephant. No matter how friendly and even-tempered is the beast, if I can call it that, one is affected by every twitch and grunt.”*

Canadian Prime Minister Pierre Elliott Trudeau, March 26, 1969

This was said at a time of heightened nationalistic sentiment in Canada which gave rise to one of the most prolonged periods of protectionism in Canada’s history.

TABLE OF CONTENTS CHAPTER I – INTRODUCTION........................................................................... 6 CHAPTER II – FREE TRADE .............................................................................. 8 Twentieth Century Challenges to Free Trade...........................................................................................13 The Free Trade Response ...........................................................................................................................14 Contemporary Free Trade .........................................................................................................................17

CHAPTER III – HISTORICAL UNDERPINNINGS OF CANADA–U.S. TRADE RELATIONS....................................................................................................... 19 CHAPTER IV – NAFTA...................................................................................... 23 History of NAFTA .......................................................................................................................................23 Factors Influencing the Negotiation of NAFTA ........................................................................................24 Asymmetry of Power ................................................................................................................................24 Political Institutions and Domestic Environments....................................................................................25 U.S. ...........................................................................................................................................................25 Canada ......................................................................................................................................................26 Key Elements of NAFTA ............................................................................................................................27 Tariff Elimination .....................................................................................................................................27 Non-tariff Barriers ....................................................................................................................................28 Rules of Origin .........................................................................................................................................28 Safeguards ................................................................................................................................................28 Investment ................................................................................................................................................29 Environment .............................................................................................................................................29 Impact of NAFTA........................................................................................................................................29 Trade.........................................................................................................................................................29 Jobs ...........................................................................................................................................................30 Conclusion ....................................................................................................................................................30

CHAPTER V – U.S. PROTECTIONISM ............................................................. 32 Steel Industry ............................................................................................................................................33 Global Response to U.S. Steel Tariffs ......................................................................................................34 Softwood Lumber .....................................................................................................................................36 Global Response to U.S. Softwood Lumber Duties .................................................................................36 Farm Subsidies .........................................................................................................................................38 Global Response to the Farm Bill .............................................................................................................39 The Byrd Amendment ..............................................................................................................................40 Global Response to the Byrd Amendment ...............................................................................................41 Trade Issues Today .....................................................................................................................................43

CHAPTER VI – CASE STUDY – KYOTO PROTOCOL..................................... 45 Background ..................................................................................................................................................45 Canadian Domestic Politics Surrounding the Kyoto Protocol ................................................................47 Canadian Media ........................................................................................................................................49 Canadian Public Opinion ..........................................................................................................................50 Canada – U.S. Politics .................................................................................................................................51 U.S. Rejection of Kyoto ...............................................................................................................................52 Responses to U.S. Rejection of the Kyoto Protocol...................................................................................53 Impact of the U.S. Rejection of the Kyoto Protocol on Canadian Investors ..........................................54 Canadian Energy and Chemical Sectors ...................................................................................................55

CHAPTER VII – ANALYSIS............................................................................... 60 The Two Conclusions ..................................................................................................................................60 Canada is in A Unique Position ................................................................................................................60 U.S. Protectionism is in Opposition to the Spirit of International Agreements. .......................................64 Availability of Recourse and Remedy........................................................................................................67 NAFTA or WTO?.....................................................................................................................................67 NAFTA Chapter 11 – Investor to State Dispute Resolution .....................................................................67 NAFTA Chapter 11 – Background ...........................................................................................................67 Outline ......................................................................................................................................................68 Protectionism as Expropriation under NAFTA Chapter 11 ......................................................................70 Proposed Amendment to NAFTA Chapter 11 to Include Domestic Investors ......................................73 Applicability of the Proposed Amendment to the Kyoto Protocol Case Study ......................................76

CHAPTER VIII – CONCLUSION........................................................................ 77 WORKS CITED .................................................................................................. 80 APPENDIX I – GENERAL COUNTRY DATA .................................................... 90 APPENDIX II – ECONOMIC RATIONALE OF FREE TRADE ........................... 91 APPENDIX III – TRADE DATA .......................................................................... 94 APPENDIX IV – NAFTA JOB LOSS.................................................................. 98 APPENDIX V – U.S. PROTECTIONIST TREND................................................ 99

ACKNOWLEDGEMENTS I would first like to thank my Honours Advisor, Professor Christopher E. Gunn. His thoughtful criticism and scholarly vision broadened the scope of my work, and his subtle, yet effective encouragement kept me on-time and well motivated. I have also benefited greatly from conversations with several faculty members of Hobart and William Smith Colleges including, but not limited to: Tom Drennan; Judith McKinney; Paul A. Passavant; and JoBeth Mertens who inspired me to a deeper level of analysis. Lastly, I am truly indebted to Feisal Khan and Jennifer Tessendorf whose advice and faith have both been indispensable. I wish to thank my family and friends. Discussions with Steven Higgins have challenged my ideas while Nancy Pattersonâ&#x20AC;&#x2122;s skilful editing has clarified my arguments and improved my vocabulary. Tara Van De Mark deserves true recognition for tolerating late night discussions of economic theory and fragmented ideas, all the while supporting my hopes and dreams for this paper, not once wavering in her dedication. Finally I thank both my Father, Tom Simpson, whose support of my dreams never shone as brightly as in the editing stage of this work, and my Nan, Rosalys Lawrason, whose unwavering love guides and motivates me each and everyday. To them, I dedicate this paper with love.

CHAPTER I – INTRODUCTION The colourful description by former Prime Minister Pierre Elliott Trudeau to an American audience in 1969 is reflective of the reality of the relationship between Canada and the United States (U.S.). The interconnectedness and the interdependence of Canada and the U.S. reflect one of the longest-standing peaceful relationships in modern history. Canada and the U.S. have become each other’s largest trading partners, a relationship built out of proximity, raw materials, labour and respect. The relationship has been successful despite the large asymmetry of power that exists. This asymmetry, alluded to by Prime Minister Trudeau, has caused great difficulty for Canadian firms some thirty years later – the “twitch and grunt” can be felt and heard today in the protectionist policies of the U.S. in the 21st century. On March 29, 2001, the elephant twitched and passed gas when President George W. Bush withdrew the U.S. from the Kyoto Protocol. On March 22, 2002, the elephant trumpeted through the Canadian forest when the U.S. Department of Commerce imposed an average 29 percent tariff on Canadian softwood lumber products and producers. These protectionist actions, as well as several others, have adversely affected the global community in general, and Canada, a party to the North American Free Trade Agreement (NAFTA), specifically. It is the purpose of this paper to address the protectionist actions of the United States in the 21st century, analyze their effect on Canadian investors, and review the

available remedies. i I will assert that U.S. protectionism is in direct contravention to the spirit and intent of NAFTA, and that protectionist action should be considered tantamount to expropriation, thereby justifying the use by Canadian investors of NAFTA Chapter 11, as found and as amended, as a method of recourse. In order to do this I will establish the need for qualified free trade and identify the importance of a fresh discussion of Canada-U.S. trade. ii I will then highlight recent cases of U.S. protectionist actions, followed by a more detailed discussion of my primary case example, the U.S. withdrawal from the Kyoto Protocol. Finally, I will argue for a more aggressive use of NAFTA Chapter 11 in its present form and with a proposed amendment to include domestic investors. By providing domestic investors the opportunity for compensation for the protectionist action of a NAFTA partner, this amendment will act not only as a mechanism for recourse, protecting those adversely-affected investors, but ultimately, as a deterrent to NAFTA partners from protectionist conduct.

According to NAFTA Chapter 11, â&#x20AC;&#x153;a foreign investor is defined as any person or company who makes an investment into another NAFTA Party. Investments are broadly defined and include the traditional FDI, as well as all types of financial investments, shareholding, secured debts and so onâ&#x20AC;? (Mann 9) ii Protectionist actions should not be eliminated totally, as there are fundamental political and social goals that may be achieved through conduct deemed by others as protectionist. As an alternative, I argue for qualified free trade which allows for certain protectionist acts and provides for remedy for those adversely affected by such acts.

CHAPTER II – FREE TRADE The foundation of international free trade theory is the concept of comparative advantage as first described by David Ricardo in 1817 during the era of classical political economy. In general, the theory states that although one country may be more productive in every agricultural and industrial activity, trade will still take place if the internal production cost ratios are different from country to country (Rutherford 84). Thus, a country has a comparative advantage over another country in the production of a good if it can produce that good at a lower opportunity cost than another country (Kennedy 393). i Critical to Ricardo’s development of the concept of comparative advantage was the work of scholars such as Thomas Mun (1664) and Adam Smith (1776), who were the first to discuss the existence of benefits to trade based on concepts of cost advantage. These works attacked the then current mode of economic thinking, mercantilism. According to the mercantilists, protectionist policies were necessary, as the “bringing about and maintaining an excess of exports over imports…was the only way for a country without gold and silver mines to increase its stock in the precious metals” (Kuhn 322). The free trade theorists found this protectionist approach wanting, and advanced the free trade theory that would eventually displace the mercantilist paradigm. Arguing against the mercantilists, Thomas Mun wrote of the value of free trade and the negative result of government intervention in the market. Mun argued that free markets on their own generate efficiency and that any attempt to interfere with the natural

In a two good market the opportunity cost of production is defined as the amount of good B that must be given up in order to produce one more unit of good A (Kennedy 393).

working of the market, notwithstanding potential short-run benefits, would be devastating in the long-run: “The sum of all that hath been spoken, concerning the enriching of the Kingdom, and th’ encrease of our treasure by commerce with strangers, is briefly thus… so much treasure will only be brought in and carried out of a Commonwealth, as the Foraign Trade doth over or under balance in value. And this must come to pass by a Necessity beyond all resistance. So that all other courses (which tend not to this end) howsoever they may seem to force money into a Kingdom for a time, yet are they (in the end) not only fruitless but also hurtful: they are like the violent flouds which bear down their banks, and suddenly remain dry again for want of waters” (Mun 87-88). For Mun, the balance of trade exists as a natural, optimal equilibrium, and any attempt to alter that equilibrium in the search of a surplus in the balance of trade will prove to be hurtful in the end. Like Mun, Adam Smith, in his treatise An Inquiry into the Nature and Cause of the Wealth of Nations, wrote of the benefits of a free market and the natural correction mechanisms that are in place within that market. These mechanisms ensure that global demand will be met with adequate supply, independent of government interaction: “We trust with perfect security that the freedom of trade, without any attention of government, will always supply us with the wine which we have occasion for: and we may trust, with equal security that it will always supply us with all the gold and silver we can afford to purchase or to employ” (Smith 404). Smith argued that under perfect competition the market will self-adjust to a point of equilibrium, aided only by what Smith referred to as the “invisible hand.” In light of such an equalizing force, Smith was adamant that any attempt by a government to

interfere with the market would be ineffectual or worse, detrimental to the well-being of those involved. Smith used this concept to attack the mercantilist theories that the restriction of trade is necessary to ensure a balance of trade surplus. According to Smith, “when the quantity [of gold and silver]…exceeds the effectual demand, no vigilance of government can prevent their exportation” (404). Smith added that “it would be equally impossible to prevent their importation if the supply fell short of the effectual demand” (404-5). Thus Smith concluded that the mercantilists’ efforts to control the market through government intervention were futile; naturally equalizing forces of the market would operate without regard for any attempt to tilt the field one way or another. Smith also established the “absolute advantage” principle to demonstrate that there were gains from trade. By extending the concept of the division of labour between men to a division of labour between countries, Smith argued that a country should only import those goods for which the foreign country has an absolute advantage, and therefore can produce at a lower cost. Following Smith, David Ricardo formulated the theory of comparative advantage to explicitly disprove theories of protectionism, while implicitly making an argument for free trade. Ricardo explained that free trade makes it possible for the consumption of more goods, regardless of whether trading partners are more or less economically advanced (Buchholz 67). “Under a system of perfectly free commerce, each country naturally devoted its capital and labour to such employments as are most beneficial…It is the principle which determines that wine shall be made in France and Portugal, that corn

shall be grown in America and Poland, and that hardware and other goods shall be manufactured in England” (Ricardo 81). Ricardo based his conclusions on the postulates that first, capital and labour move freely within a country and, second, that capital and labour are immobile between countries. Jacob Viner, a leading mid-twentieth century proponent of the doctrine of comparative costs articulated: “The doctrine of comparative costs maintains that if trade is left free each country in the long run tends to specialize in the production of and to export those commodities which could be produced at home only at a comparative disadvantage in terms of real costs, and that such specialization is to the mutual advantage of the countries participating in it” (438). In the late nineteenth century a neo-classical paradigm emerged from the works of Alfred Marshall and Francis Edgeworth and was furthered by Eli Heckscher, Bertil Ohlin, and Paul Samuelson during the first half of the twentieth century. Two propositions emerged from the theory of international trade from this paradigm that provided the basis for much of the trade theory that exists today. Deepak Nayyar of the University of Delhi advanced that the first of the propositions, known as the “gains from trade” proposition, “establishes that free trade, via the equalization of domestic and international prices, will ultimately result in the optimal functioning of the market” (Nayyar 4). According to Paul Samuelson: “…when trade has opened up, and when each country concentrates on its area of comparative advantage, everyone is better off. Workers in each region can obtain a larger quantity of consumer goods for the same amount of work when people specialize in the areas of competitive advantage and trade their own production for goods in which they have a relative disadvantage. When borders are

opened to international trade, the national income of each and every trading country rises” (558). For Marshall, the “gains from trade” were analogous to consumer surplus, and could be computed by adding up what a country would have been willing to pay if it had bought the good from a foreign producer (Kuhn 352). ii Further: “In a world where countries enter into international trade on a voluntary basis, each partner must derive some benefit to be in the game. The very existence of trade, then, becomes proof of its mutual benefit, irrespective of how the gains from trade are distributed between countries” (Kuhn 352). Ultimately, the economic basis of the “gains from trade” proposition combined with the assumption of perfect competition establishes that free trade would be optimal (Nayyar 4). “In a two commodity model, perfect competition ensures an equalization of the domestic price ratio with the marginal rate of substitution in domestic production. Free trade ensures an equalization of the domestic price ratio and the international price ratio” (Nayyar 4). From this it is suggested that, in terms of resource allocation, free trade will enable the economy to operate with technical efficiency in production. Given, “well-behaved utility functions,” free trade, through its equalization of domestic and international prices, “would also enable the economy to optimize consumption through trade, by equalizing the marginal rate of substitution in consumption and the international price ratio, in terms of utility maximization” (Nayyar 4). Thus, the argument for free trade is advanced by evidencing that free trade is efficient.

See Appendix II for a graphical representation of the gains from trade.

The second proposition emerging from the neo-classical paradigm is the factorprice equalization theorem (also known as the Heckscher-Ohlin theory of trade). Bertil Ohlin suggested that when specialization and trade begin, “each region will tend to produce goods requiring large quantities of the factors with which it is well endowed and to produce few, if any, goods requiring large quantities of the factors which are scarce” (Kuhn 361). Thus it is argued that because each country will be permitted to produce that for which it is well endowed, free trade ensures equality in the market.

Twentieth Century Challenges to Free Trade The early challenge to the doctrine of free trade was grounded on the recognition that there are two critical assumptions underlying the classical theory of free trade: first, that market price reflected social costs and, second, that a country’s trade in a good was not large enough to influence world prices (Nayyar 5-6). It was argued that if these assumptions did not hold, then free trade could not ensure both efficiency and equality of trade, and the equilibrium would be unattainable. A second round of challenges to the theories of free trade arose in the 1950’s, as less developed countries (latecomers to industrialization), expressed a desire to accelerate their “catching-up” process (Nayyar 6). For these countries, the argument against free trade was based on the predictability of market failure. It had two dimensions: 1) It was argued that “there were significant positive externalities in any process of industrialization which were difficult to identify, let alone capture” (Nayyar 6); and 2) It was argued that, “imperfections in factor markets, both labour and capital, would preempt the realization of potential comparative advantage in manufacturing” (Nayyar 6).

The Free Trade Response The response to this challenge of the assumptions of free trade came from the neo-classical economists. It was argued that “[a]t one level, [the neo-classicalists] accepted the infant industry argument, or the optimum tariff argument, as the basis of justifiable departures from free trade but reduced the validity of such arguments to a very demanding set of conditions” (Nayyar 6). According to Nayyar: “The belief in free trade is almost a sacred tenet in the world of orthodox economics. Yet, from time to time, the profession of economics has recognized that there are reasons which may justify departures from free trade. Economic theory has analysed these exceptions to the rule, mostly in response to developments in the real world which have challenged or questioned the free trade doctrine” (Nayyar 7). The acceptance that there are times when a divergence from free trade is acceptable was embraced by Adam Smith, who himself was not an unqualified free trader. Smith explicitly isolated two cases in which barriers on imports were justified. The first was when considering an industry that may serve a purpose in the defence of a country. Smith argued that “defence…is of much more importance than opulence” (Smith 352). Smith’s second case “is an application of the principle that normally competitive conditions should not be distorted by government intervention” (Kuhn 329). Thus it is, at times, necessary to intervene into the trade market when distortions occur as a result of government action. iii

iii

This will be an important exception later in this paper as it will become the foundation of the argument for Canada’s utilization of NAFTA as a means of correcting the distortions that result from U.S. intervention into the free market by protectionist conduct.

Free traders also argued that “market prices did not measure social costs, whether on account of a divergence arising out of market failure or on account of a distortion arising out of government intervention, the optimum policy intervention is one which is applied at the point at which the divergence or the distortion arises” (Nayyar 6-7). In other words, it was argued that despite their acknowledgement of the potential for market failure, “as a rule, intervention in the form of trade policies would be sub-optimal” (Nayyar 7). To make this argument, pro-free traders set out to attack the proposed alternative to free trade, a system of managed or strategic trade in which government regulation of the markets was thought to ensure an advantageous position for the nation. For example Paul Krugman argues that: “Gains from intervention are limited by uncertainty about appropriate policies, by entry that dissipates the gains, and by the general equilibrium effects that insure that promoting one sector diverts resources from others. The combination of these factors limits the potential benefits of sophisticated interventionism” (Krugman, “Passé” 143). One negative aspect of state intervention is the economic losses associated with government subsidies and tariffs. Adam Smith argued against any form of state intervention in trade markets as “taxes imposed with a view to prevent, or even to diminish importation, are evidently as destructive of the revenue of the customs as of the freedom of trade” (439). State intervention, therefore not only inhibits free trade, but hurts the revenues of the country imposing the tariffs. Paul Krugman and Maurice Obstfeld further argue that “a tariff causes a net loss to the economy…it does so by distorting the economic incentives of both producers and

consumers. Conversely, a move to free trade eliminates these distortions and increases national welfare” (219). Interfering with the incentives for producers and consumers by distorting price levels, state intervention generates a second level of economic loss that negatively affects the economy of that state. Additionally, state intervention is flawed as there is an inherent inability of multiple states to coordinate their efforts. “Differences in goals between countries often lead to conflicts of interest. Even when countries have similar goals, they may suffer losses if they fail to coordinate their policies” (Krugman, Obstfeld 7). This inability to co-operate often results in retaliation, which, if the situation is not dealt with swiftly, results in a trade war. Robert E. Baldwin states that “other countries are very likely to retaliate with their own protective actions if a country tries to improve its trading terms by imposing higher tariffs and export taxes” (810). This retaliatory response is based on current game theory accounts, specifically the tit-for-tat strategy, which is ultimately good for neither state, as the optimal price level (and therefore supply and demand), are distorted, causing loss to both economies. The final argument in the critique of strategic or managed trade is that the state is never be able to act free of political influences. Krugman and Obstfeld summed it up well when they argued that: “Economists can sometimes show that in theory a selective set of tariffs and export subsidies could increase national welfare, but in reality any government agency attempting to pursue a sophisticated program of international trade would be probably captured by the interest groups and converted into a device for redistributing income to politically influential sectors” (221).

Thus we must assume that “governments do not necessarily act in the national interest…instead they are influenced by interest group pressures” (Krugman, “Passé” 142).

Contemporary Free Trade The debate within political economy as to what “sort of economic and social systems are desirable as well as politically sustainable at home and how such systems can be reconciled with global economic pressures,” resulted in a “crude consensus” from the end of WWII to the oil crisis in the 1970’s (Grinspun and Cameron xi). The “consensus held that a sustainable market economy is necessarily a mixed economy…The conviction deepened that a pure market economy produced intolerable costs both in equity and in efficiency, which in turn generated social unrest and political conflict” (Grinspun and Cameron xi). This mixed economy promoted relative stability and growth in domestic markets, which in turn made it possible to trade in relatively open markets (Grinspun and Cameron xi).

It “combined a mild form of Keynesian demand management with a

welfare state, tolerance of trade unions, labour legislation, pegged currencies under the Bretton Woods system, and gradually expanding, but not perfectly free, trade” (Grinspun and Cameron xi). The domestic social and political environments of industrialized nations were altered as a result of advances in technology, the rising cost of labour, the economic slowdown of the late 1970’s, and other elements being brought to the forefront by globalization (Grinspun and Cameron xiii). The push for privatization of the Reagan and Thatcher administrations opened the door for business, as transnational corporations

(TNCs) developed and expanded, exploiting the loopholes of laissez-faire, and caused a dramatic schism in the distribution of the benefits of international trade, tilted in favour of the larger countries that were the capital and territorial base of the TNCs. This progress of globalization and the expanding free trade meant that national powers of regulation were diminished; for the first time in history larger TNCs were actively participating (directly or indirectly) in trade negotiations. In light of this altering of the balance of power in the global market, there exists a need for new regulation to play a vital role in shaping the evolution of the global economy. Ideally, the sole purpose of this regulation is to ensure that global free trade develops in a manner consistent with the general well being of the global community, and not solely in the interest of the TNCs. While free trade is ultimately more beneficial than a restrictive trade policy, Joseph Stiglitz and others argue that we cannot stand by and let the global market develop â&#x20AC;&#x153;willy-nillyâ&#x20AC;? (Stiglitz 21). The argument for change in the dispute resolution process of NAFTA as discussed later in this paper is an example of this need for regulation in the global economy (or in this case the North American economy). The aim is to ensure that those with greater power at the beginning of the evolutionary process do not exploit their advantage, causing the distribution of benefits to be awkwardly skewed in favour of one country, while its trading partners are forced to try to catch up in perpetuity. Regulation of international markets is needed to ensure that the best interest of the global community is accounted for, and to control those whose asymmetrical strength would allow them, when unchecked, to exploit the system.

CHAPTER III – HISTORICAL UNDERPINNINGS OF CANADA–U.S. TRADE RELATIONS In the early nineteenth century trade between the United States and what was then referred to as British North America was limited by Britain's preferential system. i Britain dismantled its mercantile system after 1846, and in 1854 Britain and the U.S. signed the Elgin-Marcy Treaty, a reciprocal trade agreement affecting agricultural products and raw materials. The onset of the American Civil War imperilled these growing linkages and Federalist suspicions of Britain's pro-Confederate sympathies were intensified by the Confederate use of British North America (Canada) as a base for raids on federal shipping and border settlements. After 1865, similar concerns were aroused north of the border as Irish Fenians raided Upper Canada (Ontario) and New Brunswick from U.S. bases. Meanwhile, in 1866 protectionist elements in the U.S. Congress successfully agitated against renewal of the Elgin-Marcy treaty which had been suspended by the American Civil War. Economic relations progressed in a positive direction between 1867 and 1960, although not without periods of friction and debate among Canadians over long-term costs and benefits. Canadian efforts to renew reciprocal trade after 1870 were rebuffed, and in 1879 Canada adopted a "National Policy" instituting protective tariffs for industry and constructing an "all-Canadian" railway to the Pacific Coast. Despite these elements of friction, Canada-U.S. trade increased and by the mid-1920s surpassed Anglo-Canadian i

The following summary of Canadian U.S. relations is derived from Taylor, Graham D. “The Readers Companion to American History – Canada/US relations.” College.hmco.com. Houghton Mifflin. 05 Feb. 2004 <http://college.hmco.com/history/readerscomp/rcah/html/ah_014000_canadausrela.htm>.

commerce. Meanwhile, American direct investment in Canada's resource and manufacturing sectors grew, stimulated in part by Canada's National Policy tariffs, to the point that American investment exceeded British investment by 1930. The trade rivalries incidental to the Great Depression temporarily slowed the trend toward closer economic ties, but reciprocal trade agreements in 1935 and 1938 significantly reduced commercial barriers in agriculture and natural products. Canada's postwar World War II participation in the 1947 General Agreement on Tariffs and Trade (GATT) led to mutual reductions of tariff restrictions on industrial products. Proposals for a Canada-U.S. customs union were debated in 1948, but these were not pursued. During the 1960s these close political and economic linkages came under critical scrutiny. The U.S. government objected to Canadian trade with Communist China and Cuba and many Canadians opposed the arming of missiles located in Canada with nuclear warheads. During the Vietnam War, Canadian leaders criticized U.S. foreign policy and allowed American draft resisters to reside in Canada. Friction widened into a more general critique within Canada of the degree of American influence, both culturally and economically. By the mid-1970s, concerns of threatened American domination of Canadian energy resources and industry and the pervasiveness of the U.S. media in Canada, led to measures designed to limit foreign investment (particularly in the media, oil, banking, and airline sectors), to develop trade links beyond North America, and to establish an arm's-length posture toward the United States. ii After 1984, relations became less contentious; Canadian producers were ready to accept the benefits of free trade. â&#x20AC;&#x153;Producersâ&#x20AC;&#x2122; willingness to adopt free trade had been ii

Following the quotation by former Canadian Prime Minister Pierre Elliott Trudeau found at the introduction to this paper, nationalistic sentiment became a dominant thread in Canadian political and economic ideology.

heavily conditioned by four decades of positive experience in negotiating agreements dedicated to a much more modest objective: gradual liberalization within the framework of a multilateral, rules-based regime” (Hart). By successfully establishing and developing this system from the 1940s through to the 1980’s, a foundation was laid for the “more radical quest for free trade with the United States and, increasingly, with others, that has dominated Canadian trade policy since the mid 1980s” (Hart). In 1989 the Canada-U.S. Free Trade Agreement (CUFTA or FTA) took effect. The debate in Canada over this agreement reflected the historical ambivalence of Canadians toward the United States. While supporting collective security and acknowledging mutual cultural and political traditions, as well as the economic benefits of access to U.S. markets and capital, Canadians remained wary of the prospects of close integration with their neighbour. In 1994 Canada, the United States and Mexico signed NAFTA, what was then the largest free trade agreement in the world. Currently Canada and the U.S. are each other’s largest trading partners; however, “while the United States dominates Canada’s export portfolio, Canada is only moderately more important to U.S. exporters than are the United States’ other major trading partners” (Canadian Standing Committee on Foreign Affairs and International Trade, hereafter CSC, 14). iii Further, notwithstanding the strong growth in trade between the two countries, the importance of that trade is declining in the general North American context (CSC 15). In light of the history of the relationship between Canada and the U.S., the question presents itself as to why Canada felt the need to push for a more open trading

iii

See Appendix III – Trade Data, for a statistical representation of these asymmetries.

relationship with the U.S. Opportunities for such a relationship had presented themselves historically, so why did Canada finally decide to chart this course in the late 1980’s? Paul Wannacott suggests there were three factors influenced this decision. Firstly, Wannacott argues that there arose a growing realization of “how difficult it is for Canadian manufacturing to achieve large-scale, efficient production without access to a large market” (Wonnacott 57). Secondly he suggests that there was a general “changing character of the Canadian economy and of its international trading relationships” (Wonnacott 58). Finally Wonnacott argues that Canadians pursued a free trade agreement with the U.S. because of the fear that “protectionism in the United States threatens existing Canadian trade” (Wonnacott 58). Thus according to Wannacott, “the Canadian initiative was inspired both by a hope for a better trading relationship, and a fear that things might get worse” (Wonnacott 58).

CHAPTER IV – NAFTA “NAFTA was and is portrayed by its proponents as a means of accelerating integration on the North American continent in a way which is consistent with the political and social interests of a variety of disparate groups, including the business community, labor unions and environmentalists” (Abbott 4). “The NAFTA is politically justified by its attention to interests which are more difficult to address at the WTO multilateral level” (Abbott 4). The North American Free Trade Agreement is the foundation that defines the current Canada-U.S. relationship. Canada sought a treaty that would protect it from protectionist actions by the United States; the U.S. desired certainty in the availability of resources and a secure North American market.

History of NAFTA The Canadian U.S. Free Trade Agreement came into effect on January 1, 1989. CUFTA provided for the gradual elimination of tariffs and reductions in non-tariff trade barriers on goods and incorporated a more effective dispute settlement processes (Douglas). On January 1, 1989, all tariffs on Canada and U.S. origin goods were eliminated, with the exception of a limited number of over-quota tariffs associated with tariff quotas on some agricultural products (Douglas). These tariff quotas replaced earlier non-tariff measures and were to be implemented by both the U.S. and Canada in 1995 as part of the outcome of the Uruguay Round of multilateral trade negotiations.

CUFTA was incorporated into NAFTA on January 1, 1994. One of the main changes from CUFTA is that NAFTA expands the free trade area to include Mexico, and added free trade sectors not covered under CUFTA such as investment, trade in services, intellectual property, competition, the cross-border movement of business persons, and government procurement (Douglas). In addition to the main text, NAFTA includes two supplemental agreements on environmental and labour issues that address cooperative efforts to reconcile policies and procedures for dispute resolution between member countries.

Factors Influencing the Negotiation of NAFTA ASYMMETRY OF POWER Returning to the quotation by former Prime Minister Pierre Elliott Trudeau, we recall the analogy of sleeping with an elephant. Trudeau graphically referenced the great asymmetry of power that exists between Canada and the U.S. According to a report issued in 2002 by the Canadian Standing Committee on Foreign Affairs entitled “Partners in Integration,” “the weight of the elephant is massive” (CSC 6). Stephen Clarkson suggested “in terms of power, whether you want to use the word ‘domination’ or ‘hegemony’ or ‘influence’ or ‘asymmetry,’ it’s obvious that the difference between Canada and the United States is enormous” (qtd. in CSC 6). The existence of such a dramatic asymmetry of power is not something to be brushed aside, as it has the ability to pervade every aspect of the two countries’ relationship. One area where the asymmetry manifests itself is the American trend to protectionist tendencies and the concern this raises in Canada, issues that will be addressed in Chapters V and VI.

POLITICAL INSTITUTIONS AND DOMESTIC ENVIRONMENTS From the outset NAFTA negotiations were bitterly controversial in all three countries. For the purpose of this analysis we will focus on the political debates that occurred in the United States and Canada, leaving out Mexico.

U.S. Conflict arose within the U.S. from the beginning of the negotiating process. When President Salinas of Mexico approached President George H. W. Bush to pursue a bilateral trade agreement in 1990, the U.S. representatives were reluctant as they were in the process of negotiating the Uruguay Round of trade negotiations. Pressure from Republican leaders to speed up the negotiations and not wait until the end of the 1994 Uruguay Round eventually won out, and President George H. W. Bush was persuaded to proceed. iv A large factor in the negotiating and ratification process of NAFTA within the U.S. was the self-interest of Congress. Members of Congress were divided by their personal interest in appeasing their constituents as a means of maintaining their office. The executive branch was also “mollifying the Congress on specific issues sufficiently to obtain negotiation authorization, and using the congressional pressure to justify the demands that it would make on Mexico as the price for the free trade agreement”(Cameron and Tomlin 73). Ultimately the sales pitch for NAFTA revolved around the expected increase in trade-related jobs. NAFTA was promoted “as an agreement that would produce hundreds of thousands of trade-related jobs in the countries. It would accomplish that goal by exporting primarily raw U.S. materials and

The issue of fast track authority played a large role in the timeline of events with respect to the U.S. decision to negotiate. For the purpose of this paper I will not divert our focus to tackle this issue.

components to Mexican assembly plants, where they would be made less expensively, and then shipped back for U.S. consumption” (Craver).

CANADA Canada was also a reluctant partner at the start of the NAFTA negotiations. As Cameron and Tomlin point out: “Canadian trade and investment ties with Latin America and Mexico have been weak historically, providing little commercial incentive to enter into free trade negotiations with the Mexicans” (Cameron and Tomlin 63-64). In addition, the government was not eager to reopen the bitter national debate that had occurred over Canada’s bilateral free trade deal with the United States. “The main fear [for Canadians], instead, was that closer integration with the American economy would threaten Canada’s European-style social-welfare model, either by leading certain practices and policies (such as the generous minimum wage) to be regarded as directly un-competitive, or else by pressing down on the country’s base of corporate and personal taxes, thereby starving public-spending programmes of resources” (“Free Trade on Trial”). In the end, however, “Canada entered NAFTA because key policy makers believed [Canada] had little choice if it was to protect its interests in the North American Market” (Cameron and Tomlin 64). Despite the concerns of the Opposition and a divided public, the Canadian Parliament approved NAFTA during the final days of former Prime Minister Brian Mulroney’s government, but the proclamation of NAFTA remained to the next government. Then newly elected Prime Minister Jean Chrétien was initially hesitant in proclaiming NAFTA into effect on January 1, 1994, having campaigned against its implementation, unless it included a method for resolving disputes and defining subsidies and dumping that were

more equitable to Canada. “The mechanism for resolving disputes under the [CUFTA] is often lengthy and costly, draining away resources from businesses that should be focusing on research and development, marketing and retooling” (The Liberal Red Book). Prime Minister Chrétien argued for a “more effective dispute process, one that arrives at decisions faster and leaves no room for foot dragging if the Americans don’t like the decisions” (Ferguson, “NAFTA: Canada’s Concerns”). Ultimately Chrétien gave in to American pressure to ratify the agreement and issued a unilateral federal declaration on December 2nd, 1993 proclaiming NAFTA. “The deal is not perfect, but I am very satisfied with the progress we have made” (Ferguson, “Not Perfect”). A high ranking liberal official echoed the Prime Minister’s sentiment, “our conditions were basically satisfied, we stood up to the Americans and our concerns were addressed” (Ferguson, “Not Perfect”). Chrétien’s unilateral proclamation of NAFTA was not without criticism, however, as Federal Conservative party members criticized Chrétien for his impulsiveness. “Progressive Conservative MP Jean Charest, a cabinet minister in the government that negotiated the deal and rushed it through the Parliament in Brian Mulroney’s final days in power, said ‘The Liberals broke a record of taking only 27 days to break a major campaign promise” (Ferguson, “Not Perfect”).

Key Elements of NAFTA TARIFF ELIMINATION Central to NAFTA was the elimination of tariffs. This element focused primarily on Mexico as it was required to eliminate tariffs on nearly half of all industrial goods

imported from the U.S. The effect of this provision on Canada was limited as most Canadian trade with the U.S. was already duty-free as a result of CUFTA and there was relatively little trade between Canada and Mexico. NAFTA called for all tariffs to be eliminated on all North American industrial goods within 10 years and tariffs on farm goods within 15 years (Cobb).

NON-TARIFF BARRIERS NAFTA removed most (but not all) import licenses on U.S. exports to Mexico which had been acting as quotas. This had little effect on Canada as this provision paralleled existing arrangements in CUFTA. NAFTAâ&#x20AC;&#x2122;s failure to remove all non-tariff barriers continues to this day.

RULES OF ORIGIN The architects of NAFTA set out to clearly establish rules of origin, in the interest of removing any debate as to whether a good can be subjected to tariffs. The agreement laid out that tariffs were to be reduced on goods made in North America with substantial North American content. This ensured that foreign goods could not be shipped into the territory of one partner, and then traded to another without tariff.

SAFEGUARDS NAFTA incorporated a safeguard measurement stating that a tariff can be reimposed for up to four years if imports seriously threaten a specific industry. This was heavily conditioned on the requirement that a partner taking safeguards must compensate the country whose exports are affected (Cobb).

INVESTMENT All firms of a member state were given most favoured nation status and were required to be treated the same as a domestic firm. Further, all firms were given direct access to remedy for expropriation through NAFTA Chapter 11.

ENVIRONMENT A tri-national environmental commission was installed after the environmental side agreement was signed, to oversee the adherence to environmental laws and imposes sanctions if a country does not enforce its own laws.

Impact of NAFTA “NAFTA in operation has proved no less controversial than NAFTA before ratification, for both supporters and opponents of free trade liberalization have cited experience with the agreement to justify their positions.” Gary Hufbauer and Jeffrey Schott (qtd. in Craver). “As far as economic effects are concerned, the right question to ask of NAFTA is simply whether it indeed succeeded in stimulating trade and investment. The answer is clear: it did” (“Free Trade on Trial”)

TRADE The growth of trade between the three member countries of NAFTA has been substantial since 1994. Trade grew from $306 billion in 1993 to almost $621 billion in 2002 (constant) (Hall). U.S. exports have increased by 95 percent to Mexico and 41 percent to Canada while Mexico’s exports to the U.S. grew by 195 percent and Canada’s to the U.S. grew by 61 percent (constant) (Hall). v

See Appendix III for Canada-U.S. trade data.

JOBS Despite the dramatic increase in the flow of goods and services across the borders, critics attack NAFTA on the basis that it has failed the “working man.” The argument is based primarily on estimated job losses. In a 2003 study entitled “The High Price of Free Trade,” the Economic Policy Institute (EPI) estimated “net U.S. job losses under NAFTA at 879, 280 after adjusting for jobs gained” (Hall). vi While this number may on the surface look high, the EPI acknowledged that the “job losses are modest relative to the size of the economy” (Hall). Job losses attributable to NAFTA are in actuality much less than anticipated. According to Gary Hufbauer, “it’s a fair statement that 80 percent to 85 percent of the manufacturing job losses would have happened regardless of NAFTA because U.S. manufacturers had to lower costs to compete in a global environment. NAFTA simply accelerated the pace of that manufacturing exodus, and China further accelerated it to accentuate the jobs backlash we are seeing now” (qtd. in Craver). Thus, while some job loss can be attributed to NAFTA, the actual number of jobs lost because of the agreement is much smaller than that originally asserted by NAFTA opponents.

Conclusion NAFTA has garnered unwarranted criticism. On balance, it appears that very little of the job loss can be attributed to NAFTA itself, nor can it be blamed for the overall decline in North American employment which resulted from a shift away from the manufacturing sector. What has happened is that NAFTA has become the scapegoat for those politicians and analysts who are trying to explain the downturn in their vi

See Appendix IV for NAFTA job losses

economies. An article in the Economist tackled this issue and presented a logical explanation: “One theme is common to all three [countries]: a tendency to blame NAFTA in particular, and international integration in general, for every economic disappointment of the past ten years, however tenuous the connection might be” (“Free Trade on Trial”). The article then proceeded to suggest why this disenchantment with NAFTA specifically, and free trade generally, has become such an issue in the U.S: vii “America’s evident disenchantment with liberal trade has less to do with the economic depredations of the 1990’s – when the economy boomed, in fact – than with a political failure to make the case for free trade against its increasingly well-organize opponents” (“Free Trade on Trial”). I conclude that despite this criticism, NAFTA is a positive influence on its signatories and every effort should be made to work within the framework of the agreement to remedy the issues at hand, rather than abandoning the agreement altogether.

vii

I would suggest the same argument holds for Canada as well.

CHAPTER V – U.S. PROTECTIONISM “The most serious threat to the world economy – and to our domestic economy – is the swelling tide of protectionism.” W. Allen Wallis, U.S. Under Secretary for Economic Affairs, (qtd in Altschiller 71). “While the measures designed to protect selected U.S. firms raise their incomes, they reduce the incomes of American firms and individuals that serve foreign markets. Consumers who buy protected products must pay higher prices and face a reduced range of choices. The benefit for the protected firms and industries, then, comes at the expense of consumers in general and firms that export.” Gene Smiley (Smiley). “We can shut out part or all foreign competition, but we would pay a price for doing so – perhaps a rather large price.” Alan Greenspan, Chairman of the Federal Reserve Bank (Greenspan). “Our administration will be creative. We’re committed to protecting our environment and improving our economy, to acting at home and working in concert with the world. This is an administration that will make commitments we can keep, and keep the commitments that we make.” President George W. Bush (United States Office of the Press Secretary (hereafter USOPS), “Bush Discusses Climate Change”) A protectionist is defined as an “advocate of government economic protection for domestic producers through restrictions on foreign competitors” (Merriam Webster). Former Under Secretary for Economic Affairs W. Allen Wallis defined protectionism as any measure that gives a domestic producer an artificial advantage over foreign producers (qtd. in Altschiller 72). Central to each definition is that protectionist actions artificially alter the market equilibrium (described by Smith in Chapter II), providing an advantage

for domestic producers at the expense of foreign producers, in the interest of the protection of domestic markets. The spring of 2002 was one of the most protectionist periods in U.S. history. On March 6th 2002 President George W. Bush caused tariffs ranging from 8 to 30 percent to be imposed on steel imported from other industrialized nations. On March 22nd, 2002 the President slapped “prohibitory” tariffs on Canadian softwood lumber, igniting a maelstrom. In May 2002, the President signed a $180 billion (USD) farm bill, providing $10 billion of annual subsidies to America’s already heavily subsidized corporate farms. These three actions, coupled with the passing of the Byrd Amendment (which transferred duties collected from anti-dumping cases to U.S. firms), indicate a significant upswing in the 21st century protectionist policies of the United States, and thereby an increased threat to Canadian (and other foreign) investors. i

STEEL INDUSTRY On March 6th, 2002 the U.S. imposed duties of up to 30 percent on imported steel. ii The administration defended its move by suggesting that it was imposing a safeguard measure to protect its domestic steel industry from a recent surge of steel imports that had caused serious damage to the industry. President Bush justified his administration’s actions with respect to global trade by arguing “an integral part of our commitment to free trade is our commitment to enforcing trade laws and to make sure that America’s industries and workers compete on i

See Appendix V for a graphical representation of the historical downward trend of U.S. protectionism since the 1930s. The protectionism actions of the 21st century are clearly inconsistent with this pattern. ii Details of the plan included: a 30 percent tariff on tin mill steel, flat steel products, hot rolled bar and cold finished bar; a 13 percent tariff on carbon and alloy fitting and flanges; a 15 percent tariff on stainless steel rods and bars, and rebar; and an 8 percent tariff on steel wire (Antosh). The tariffs were to be scaled down over a three year period, while the permitted quotas were be increased.

a level playing field” (qtd. in Fournier). President Bush suggested that the “relief will help steel workers, communities that depend on steel, and the steel industry adjust without harming our economy. These safeguards are expressly sanctioned by the rules of the World Trade Organization (WTO), which recognizes that sometimes imports can cause such serious harm to domestic industries that temporary restraints are warranted. This is one of those times” (USOPS, “President Announces Temporary Safeguards for Steel”). Not everyone was in favour of the tariffs as U.S. steel consumers faced rising prices. Gary Hill, the president of National Metalwares, a tubular steel product maker, said “we’re going to be at a 20 to 25 percent cost disadvantage to offshore manufacturers who may now choose to target the U.S. market…and our customers may wind up under attack from offshore competitors now too” (qtd. in Deutsch). Treasury Secretary Paul H. O’Neil was also opposed to the tariffs. During an off-the-record discussion O’Neil was quoted as saying that imposing tariffs would cost more jobs in the United States than it would save, and risked America’s interest as the world’s leader in promoting free trade (Kahn and Stevenson).

GLOBAL RESPONSE TO U.S. STEEL TARIFFS Following the U.S. announcement of tariffs on steel imports, both the EU and Japan responded with retaliatory tariffs. In the case of Japan, a 100 percent retaliatory tariff was imposed on U.S. steel, the first time in history Japan had taken such an action in any trade dispute (Beams). The EU, on March 27, 2002, adopted safeguard measures on steel to prevent the flood of steel imports being diverted into the EU from those countries affected by the U.S. tariffs. The EU threatened to target the imports of

industries in key swing states for the 2004 presidential election (“EU adopts temp. measures”). EU Trade Commissioner Pascal Lamy lambasted the U.S. for what he called unfounded, unnecessary, and unfair U.S. trade actions. He said the U.S. action “has forced us to take temporary steps to look after EU industry, and EU workers. But we have done this without indulging in protectionism. Unlike the U.S., we will keep our markets open to imports from the rest of the world. These limited and carefully crafted measures have one simple goal, to prevent a flood of diverted steel coming into the EU market” (qtd. in “EU adopts temp. measures”). The Policy Director of the UK Steel Association responded angrily when notified of the U.S. tariffs: “Tariffs at 30% are nothing short of outrageous protectionism. They break the WTO agreements and fail to tackle the root cause of the U.S. steel industry’s problems” (“UK steel industry reacts”). Finally, Brazil entered the fray when Brazilian President Fernando Henrique Cardoso explained, “the path to strengthening multilateral trade is not the path of protectionism…and it is certainly not the path of discretionary antidumping or agricultural subsidies used in scandalous proportions to impede free competition” (qtd. in Rich). In July of 2003 the WTO ruled on a complaint filed by the EU, Asian Pacific nations, Brazil, Norway, and Switzerland, finding that the U.S. measures were illegal. In November 2003 the WTO appellate body, on appeal by the U.S., upheld the original decision. The panel ruled that the U.S. safeguards were unjust because steel imports to the U.S. were not surging, and therefore were not presenting a danger to the domestic industry (“U.S. faces sanctions”).

On December 4th, 2003, following the WTO appellate ruling, U.S. President George Bush announced that he was ending the temporary steel safeguard measure as they had “achieved their purpose, and as a result of changed economic circumstances, it is time to lift them” (USOPS, “President’s Statement on Steel”). No mention was made of the WTO ruling in the President’s release.

SOFTWOOD LUMBER On March 22nd 2002, the U.S. Department of Commerce imposed average total duties of 29 percent on imports of Canadian softwood lumber into the United States. iii The Department alleged that Canada was subsidizing the softwood lumber industry by charging low fees to log public lands and allow its producers to sell their lumber in the United States at below market prices (“U.S. imposes 29% duty”). They argued that low stumpage or timber cutting fees were subsidies that maintained artificially low Canadian lumber prices and threatened the U.S. industry (Cordon). U.S. lumber companies initiated the case but many lumber-intensive industries complained that prices will rise (a group of lumber customers in the housing industry claimed that the duties would raise the cost of a new home by $1,500 (Antosh)).

GLOBAL RESPONSE TO U.S. SOFTWOOD LUMBER DUTIES The battle over softwood lumber between Canada and the U.S. has been long and arduous. Immediately following the U.S. decision to levy tariffs of up to 29 percent against Canadian lumber, Canadian International Trade Minister Pierre Pettigrew

iii

The Commerce department set a 19.3 percent duty to punish Canada for the subsidies and a second tariff averaging 9.7 percent on six individual Canadian softwood lumber firms for dumping. The tariffs on dumping ranged from 15.8 percent for Weyerhaeuser to 2.3 percent for West Fraser (“US imposes 29% duty”).

requested the creation of a panel under NAFTA to investigate whether the duties are consistent with American obligations under international trade law. iv In a separate proceeding, on August 29th, 2003, the WTO ruled against the U.S. duties on softwood lumber from Canada. Less than a month after the WTO ruling, the NAFTA panel released its decision on September 6, 2003, ruling that the U.S. must reconsider its determination to impose tariffs on softwood lumber imports from Canada (“U.S. must redo tariffs”). This was the third decision the U.S. has lost in the dispute. Specifically, the “NAFTA panel said it was ‘particularly troubled by the extensive lack of analysis undertaken by the U.S. before making a determination that was based on ‘considerable speculation and conjecture’” (O’Neil and Hamilton). Private corporations have also moved into the fray over softwood lumber. Canfor Corp. made an effort in 2002 to collect millions of dollars in damages from the U.S. over punishing lumber duties, filing a notice of arbitration and settlement claim under NAFTA Chapter 11. Canfor claimed damages of not less than $250 million USD, saying U.S. conduct in the longstanding softwood lumber dispute violated NAFTA prohibitions against arbitrary, unfair and discriminatory treatment (Greenwood). The Canfor claim has yet to be adjudicated. In December of 2003 the U.S. issued a proposal which was promptly rejected by Canadian lumber producers as being an insufficient compromise on the American’s part. On January 12, 2004, Canada’s International Trade Minister Jim Peterson met with U.S. Trade Representative Robert Zoellick and Commerce Secretary Don Evans and turned

This paper will establish that there is an alternate mechanism available to Canadian investors through NAFTA Chapter 11 (as amended).

down the U.S. proposal in support of the position of the Canadian firms (“Dispute settlement”). Most recently, on March 22nd, 2004, the WTO rejected the U.S. claims that the U.S. softwood lumber industry faces injury from a potential surge of Canadian exports (“Canada Won’t Respond Yet”). In response to the ruling, Canadian Trade Minister Jim Peterson said he would delay a counter-offer to the U.S. proposal, made in December of 2003, until a NAFTA panel had made their decision in a related case in late April (“Canada Won’t Respond Yet”).

FARM SUBSIDIES In May of 2002, the U.S. implemented a $180 billion “Farm Security and Rural Investment Act of 2002” (Farm Bill). v According to President Bush, “[t]he bill is generous, and will provide a safety net for farmers. And it will do so without encouraging overproduction and depressing prices. It will allow farmers and ranchers to plan and operate based on market realities, not government dictates” (USOPS, “President Signs Farm Bill”). Critics of the bill say it is an “unmitigated disaster,” claiming it is an example of “partisan politics at its worst” as it gives too much support to large farms and perpetuates the welfare state of farming, all the while devastating third-world farmers and sending the wrong message to the international community about the commitment of the U.S. to free trade (Stein). Opponents of the bill also highlight the marked shift in agricultural policy that the bill suggests, both in terms of the President reversing his stance on a campaign v

The main provisions of the bill included subsidy payments to large cotton and grain farmers, conservation payments to save wetlands, preserve farmland and improve water quality and soil conservation on farms, food stamps as part of the nutritional components of the bill, a new $1.3 billion national dairy program, and a food labeling program requiring all meat and fish to be labeled with its country of origin (Becker, “Accord reached”).

issue, as well as a defined movement away from the market liberalizing movement of the 1996 Farm Bill, aimed at weaning the agricultural industry from government subsidy (Kirchhoff).

GLOBAL RESPONSE TO THE FARM BILL The Farm Bill was a source of international consternation for its sheer size and impact on global agriculture markets. A statement made by the 18-nation Cairns Group of agricultural countries, explained that “[a]t $180 billion over the next decade, the sheer size of the package will hurt farmers round the world” (qtd. in Beams). With respect to the global implications of such a large subsidy, a group of developing nations came together and forced the issue at the WTO trade talks in Cancun. “Brazil, along with China, India, South Africa, and a dozen other developing nations, altered the global trading balance last year when they banded together at the trade talks in Cancun, Mexico, as a bloc, determined to reduce rich-nation farm subsidies. They argued that the subsidies not only hurt their exports but also ruined the livelihoods of their poor peasants and farmers, creating huge social and political problems in addition to the economic ones” (Becker, “Battle is looming”). Brazil brought a case challenging the cotton subsidies in the Farm Bill before the WTO, accusing the U.S. of breaking trading rules by giving American cotton growers and agribusiness $1.54 billion in annual subsidies (Becker, “Battle is looming”). “The Brazilians say that the overproduction caused by American subsidies is destroying their export markets and undermining the livelihoods of their farmers” (Becker, “Battle is looming”).

Former Canadian Prime Minister Jean Chrétien, in speaking of the Farm Bill, called into question the U.S. commitment to international free trade: “It makes no sense. You cannot say, ‘I’m a free trader’ and increase subsidies by 80% as they have done in the farming community there. It is kind of stupid” (qtd. in Fife). Further, Prime Minister Chrétien pointed out that “75% of U.S. farm subsidies benefit only 10% of U.S. farmers, most of whom are wealthy landowners such as Ted Turner, the vice-chairman of AOL Time Warner Inc” (qtd. in Fife). The EU used the Farm Bill as an opportunity to exonerate themselves from their protectionist history, and highlight the American position as the world’s largest agricultural subsidizer. Franz Fischler, former Agriculture Minister for the EU, said that American farmers now receive subsidies 10 times greater than European farmers and that they can no longer use Europe as their scapegoat in the global battle over farm subsidies (Becker, “Europe’s Farm Minster”).

THE BYRD AMENDMENT The Byrd Amendment proposed by Senator Robert Byrd (D-WV) was passed by Congress in late 2000, and required that duties collected from anti-dumping cases be transferred to U.S. firms that were hurt by specific foreign trade practices. Proponents of the amendment said it was necessary as it imposed a higher price on dumping. Senator Byrd said the payout “‘is a matter of justice’ since it gives the money to the injured parties” (Greene). A co-author of the legislation, Senator Mike DeWine of Ohio, said that the law “provides a much needed incentive for foreign companies to operate under a free and fair market system” (Greene).

Critics of the amendment argue that it will harm U.S. exporters and American consumers by raising prices, increasing the incentive for U.S. firms to seek additional trade protections, and hampering efforts to reduce trade barriers around the world (Schavey). Most damaging to foreign trade, perhaps, is the suggestion that the Byrd amendment will give U.S. businesses more of an incentive to seek relief from foreign competition through the application of anti-dumping laws. “U.S. firms already have an incentive to seek protection, because a favorable ruling would make their goods and services more competitive and imported goods and services less competitive. But the windfall in revenue they will receive from the new protection…will encourage them to seek the additional protection” (Schavey). These fears that U.S. firms would increase their efforts to pursue anti-dumping cases have proven valid. According to documents filed with the WTO, between January 1 and June 30, 2001, “companies in the United States filed suit to initiate anti-dumping investigations 39 times. During the same period one year earlier, only nine probes were launched” (Greene). Thus, after the passage of the Byrd Amendment, U.S. firms filed countervailing duty suits with renewed vigour, zealously trying to take advantage of the opportunity to not only attack their foreign competitors, but also to benefit financially from their competitors loss.

GLOBAL RESPONSE TO THE BYRD AMENDMENT Within six months of Congress’ passing of the Byrd Amendment, a joint action of eleven countries had been presented in front of the WTO court of appeals calling into question the legality of the law. One of the key points of contention was that the amendment promoted the dragging out of trade dispute resolutions: “The affected

domestic producers will have a vested interest in receiving funds and this will impede any resolution of such trade disputes” (“WTO panel finds”). On September 16, 2002, the WTO panel ruled that the amendment violated the U.S. obligations under the WTO (“WTO panel finds”). On January 16, 2003, the WTO appeals panel, on appeal by the U.S. of the September 16, 2002 ruling, declared the Byrd Amendment illegal and called on Congress to repeal it as a first order of business (Klatt). Leading this charge was the EU. “The Byrd Amendment is not a U.S.-EU problem, but a U.S.-rest-of-the-world problem,’ said EU Trade Commissioner Pascal Lamy when the case was filed in July [2001]. ‘Our unprecedented joint action will send a very clear signal to the U.S. of the need to repeal legislation that so clearly flies in the face of the letter and spirit of WTO law” (Greene). Canadian Forest Minister Mike de Jong echoed Lamy’s comments, suggesting the law comes into conflict with America’s international obligations: “We have been arguing that a law that allowed American industry to profit by protectionism is not only wrong, but fundamentally inconsistent with international treaty obligations…” (qtd. in Lavoie). Most recently, eight countries requested a meeting to be held, by January 15, 2004, to ask the WTO for the authorization to retaliate against the U.S. in an amount greater than $700 million U.S., calculated as the amount disbursed by the U.S. government since the legislation was adopted (“Dispute Settlement”). As of March 15th, 2004, the U.S. had yet to implement the WTO’s ruling and remove the amendment (Sen).

Trade Issues Today In light of these protectionist actions by the United States and the responses from their global trading partners we can see a marked shift in the nature of trade disputes from the time of the Mercantilists and Adam Smith. During the 18th and 19th centuries the primacy of importance was placed on the nation state; at the start of the 21st century this focus has changed, where the primacy of importance is now placed on specific industries. While governments are still the primary negotiators of the 21st century, they are now greatly influenced by the interest of their domestic industries. There has been much debate as to the motivations behind the dramatic increase in U.S protectionism. Some argue free trade doctrine and globalization are outdated and the U.S. is simply charting a new and proper course. Others suggest that the Republican dominated U.S. government is appeasing the interests of its big business contributors, placating them with protectionist legislation. Others still suggest that the protectionist actions are part of Karl Rove’s master plan to get President Bush re-elected in 2004, by seducing swing states through protection from international competition. As David Ignatius of The Washington Post said, “You increasingly get the sense that what really matters in Washington these days is the 2004 electoral map in Rove’s head. If a decision looks like it will expand the number of states that will vote Republican, then it’s good” (Ignatius). Regardless of the motivation behind these efforts, however, one thing that is clear is that the protectionist action of the U.S. “has resulted in a marked sharpening of

trade tensions within the global communityâ&#x20AC;? (Beams). What is arguably domestic policy within the U.S. is viewed as protectionism in foreign countries and gives rise to responses that are economic in structure. Trade, however, is not the only international issue causing friction between the U.S. and its trading partners. The next section explores U.S. behaviour on an issue with both environmental and economic implications: the Kyoto Protocol. This exploration will reveal that the U.S. decision to withdrawal from the Kyoto Protocol is a protectionist action, one which will have a negative affect on Canadian investors.

CHAPTER VI – CASE STUDY – KYOTO PROTOCOL Background The Kyoto Protocol to the United Nations Framework Convention on Climate Change (Kyoto Protocol) is designed to strengthen the international response to climate change. Adopted by consensus at the third session of the Conference of the Parties (COP3) in December 1997, it contains legally binding emissions targets for Annex I (developed) countries for the post-2000 period (Williams). i Greenhouse gas emissions began in the Industrial Age and have increased since that time through the expansion and development of the industrial base in developed countries. By promising to arrest and reverse the upward trend in greenhouse gas emissions, the Kyoto Protocol aims to move the international community one step closer to achieving the Convention’s ultimate objective of preventing "dangerous anthropogenic [man-made] interference with the climate system" (Williams).

There are five main elements to the Kyoto Protocol (see “A guide to the Climate Change Convention”): a) Commitments - At the heart of the Kyoto Protocol lie it’s legally binding emissions targets for Annex I Parties. All Parties are also subject to a set of general commitments; b) Implementation – To meet their targets, Annex I Parties must put in place domestic policies and measures that cut their greenhouse gas emissions. The may also offset their emissions by increasing the removal of greenhouse gases by carbon sinks. Supplementary to domestic actions, Parties may also use the three mechanisms – joint implementation, the clean development mechanism, and emissions trading – to gain credit for emissions reduced (or greenhouse gases removed) at a lower cost abroad than at home; c) Minimizing impacts on developing countries - The Kyoto Protocol and its rulebook include provisions to address the specific needs and concerns of developing countries especially those most vulnerable to the adverse effects of climate change and to the economic impact of response measures. These include the establishment of a new adaptation fund; d) Accounting reporting and review - Rigorous monitoring procedures are in place to safeguard the Kyoto Protocol’s integrity, including an accounting system, regular reporting by Parties and in-depth review of those reports by expert teams. e) Compliance - A Compliance Committee, consisting of a facilitative and an enforcement branch, will assess and deal with any cases of non-compliance.

Developed countries commited themselves to reducing their collective emissions of six key greenhouse gases by at least 5% within a prescribed time. ii The six gases are to be combined in a "basket", with reductions in individual gases translated into "CO2 equivalents" that are then added up to produce a single figure (Williams). Each countryâ&#x20AC;&#x2122;s emissions target must be achieved by the period 2008-2012, calculated as an average over the five years. "Demonstrable progress" towards meeting the target must be made by 2005. iii Countries have a degree of flexibility in how they make and measure their emissions reductions. In particular, an international "emissions trading" regime will be established allowing industrialized countries to buy and sell emissions credits amongst themselves. They will also be able to acquire "emission reduction units" by financing certain kinds of projects in other developed countries through a mechanism known as Joint Implementation (Williams). A "Clean Development Mechanism" for promoting sustainable development will enable industrialized countries to finance emissionsreduction projects in developing countries and receive credit for doing so (Williams).

This group target will be achieved through cuts: of 8% each by Switzerland, most Central and East European states, and the European Union (the EU will meet its target by distributing different rates among its member states); 6% each by Canada, Hungary, Japan, and Poland; Russia, New Zealand, and Ukraine are to stabilize their emissions; Norway may increase emissions by up to 1%; Australia may increaase emissions by up to 8%; and Iceland may increase emssions by up to 10% (Williams). It should be noted, however, that actual emission reductions required to meet the Kyoto Protocol will be much larger than 5 percent. Compared with emissions levels projected for the year 2000, the richest industrialized countries (OECD members) will need to reduce their collective output by about 10%. This is because many of these countries did not succeed in meeting their earlier non-binding aim of returning emissions to 1990 levels by the year 2000; emissions in fact rose since 1990. While the countries with economies in transition have experienced falling emissions since 1990, this trend is now reversing (Williams). Therefore, for the developed countries as a whole, the 5% Protocol target represents an actual cut of around 20% when compared with the emissions levels that are projected for 2010 if no emissions-control measures were adopted (Williams). iii Cuts in the three most important gases â&#x20AC;&#x201C; carbon dioxide (CO2), methane (CH4), and nitrous oxide (N20) - will be measured against a base year of 1990 (with exceptions for some countries with economies in transition) (Williams).

The Kyoto Protocol will advance the implementation of existing commitments by all countries. Under the Kyoto Protocol, both developed and developing countries agree to; take measures to limit emissions and promote adaptation to future climate change impacts; submit information on their national climate change programmes and inventories; promote technology transfer; cooperate on scientific and technical research; and promote public awareness, education, and training (Williams). The Kyoto Protocol also reiterates the need to provide "new and additional" financial resources to meet the "agreed full costs" incurred by developing countries in carrying out these commitments (Williams). The Kyoto Protocol will enter into force 90 days after it has been ratified by at least 55 Parties to the Convention, including developed countries, representing at least 55% of the total 1990 carbon dioxide emissions from this group.

Canadian Domestic Politics Surrounding the Kyoto Protocol Debate and turmoil raged within Canada surrounding the decision to sign the Kyoto Protocol. First to criticize the Kyoto Protocol was the Canadian province with the most to lose: Alberta. With an export dependent economy specializing in the production of natural gasses and high-carbon emitting industry, Alberta expressed deep concern about the economic ramifications of the Canadian endorsement of the Kyoto Protocol. Quickly the issue turned political as Alberta’s Premier Ralph Klein (a Conservative) castigated the ruling Federal Liberal Party for acting unilaterally without the consent of the provinces, and threatened that Alberta would not “roll over and accept another unilateral shafting by a Liberal PM – nor should they” (“Chrétien’s Kyoto Emissions”). 47

He took his argument one step further, aiming straight for the Achilles heel of the Liberal Party with a comment threatening separation from Canada: “Alberta Premier Ralph Klein said…that Ottawa’s agreement to sign the Kyoto Protocol will so cripple his province and the country that Albertans would be forced to consider outright independence” (Francis). Those sympathetic to environmental issues have done their best to paint the dispute as a battle of good versus evil: “Eco-commentators have been having a field day trying to boil this down to a fight between filthy rich Alberta versus Chrétien and the rainforests” (“Chrétien’s Kyoto Emissions”). As the Federal Government’s intention to ratify the Kyoto Protocol crystallized, more provinces joined Alberta in dissent. “The federal Kyoto policy has soured relations between the federal government and provinces and industry” (Lampert). Further, it was argued that: “The federal government pursued the Kyoto policy without a proper consultation process with the provinces. B.C., Alberta, Saskatchewan, Ontario, Nova Scotia, and Newfoundland have all expressed strong concerns about Kyoto, but the federal government failed to respond to their legitimate request for consultation” (Lampert). This feud reached its zenith when on October 28th, 2002, at the Joint meeting of Provincial Energy and Environment Ministers, when a statement was released to the federal government with a series of principles they would like to see included in a Canadian National Climate Change Plan. The list of twelve principles ranged from respecting the sovereignty of provinces and territories and maintaining the economic competitiveness of Canadian business and industry, to continuing the demand for recognition of clean energy exports. The provincial leaders concern that much of the implementation costs of a federal program would fall to provincial budgets, highlighted

the perceived impact of climate change legislation on the provincial and territorial governments. Ultimately the provincial and territorial leaders won a majority of their soughtafter concessions. Prime Minister Chrétien indicated “he had no problem with nine of the 12 principles agreed upon by the provinces, and might even be able to reach a compromise on two more” (O’Neil, Paraskevas and Lindgren). In the Canadian tradition, a compromise was reached with Chrétien incorporating several of the provinces’ principles were incorporated into the Federal government’s “Climate Change Plan for Canada,” the official document laying out Canada’s intention to ratify the Kyoto Protocol.

CANADIAN MEDIA The Canadian media also lashed out at the Kyoto Protocol. In November of 2002, National Post columnist Tim J. Hearn roasted the federal government for its lack of an implementation plan and unwillingness to afford the issue the due process it deserves: “The federal government seems bound and determined to ratify quickly and at any cost, without having a realistic plan for implementation and without truly informing Canadians of the implications. They have blocked the strenuous debate that such a decision demands….in August the Prime Minister [Chrétien] announced that he was going to ratify no matter what” (Hearn). Diane Francis of the National Post trained her sights on the EU, arguing the Kyoto Protocol was an insidious means by which the EU was trying to reduce the North American advantage brought to it by cheap energy prices and thereby level the international trading field. Francis argued: “The way I see it, this is all about the

Europeans (mostly France), who love Kyoto because they have few, if any reductions to make because they have lacked NAFTA’s competitive advantage of plentiful energy. Europeans want North Americans to do what they have had to do: Go nuclear and quadruple energy and gasoline prices” (Francis). Francis accused Chrétien of being a fall guy “for the Europeans who see Kyoto as a way to level the economic playing field by removing cheap energy as the engine of economic growth for the NAFTA region” (Francis). She then extended her reach to Quebec separatists, who, according to Francis, were employing a similar strategy as the EU: “Similarly, the Quebec separatist government wants Canada to sign Kyoto because Bernard Landry, the Premier, sees it as a way to level the economic playing field within Canada by removing cheap energy as the engine of economic growth for the part of Canada outside Quebec” (Francis). iv

CANADIAN PUBLIC OPINION In December of 2002, a Canadian polling company EKOS conducted several polls seeking to measure the Canadian public support for the Kyoto Protocol. Despite falling numbers from a similar poll conducted in May of 2002, an overwhelming majority of Canadians (62 percent) support Canada’s ratification of the Kyoto Protocol (“Kyoto: Six Months Later”). Further, when asked if they would still support the Kyoto Protocol if it caused a 1 percent drop in their future standard of living, 89 percent of those aware of the Kyoto Protocol said yes (“Kyoto: Six Months Later”). When the impact was increased to a 5 percent drop in future standard of living, a strong 79 percent still indicated they would support the Kyoto Protocol (“Kyoto: Six Months Later”). iv

In the mid-nineteen hundreds, the Quebec government negotiated a contract with the territory of Labrador wherein Quebec could import hydro-electric power at a fixed price with no limit as to time or quantity. Quebec therefore stands to gain a great deal in terms of provincial competitive advantage if the rest of Canada is forced to incur higher energy costs while Quebec remains locked into the Labrador agreement. The agreement has been challenged in the Supreme Court of Canada and survived.

Canada – U.S. Politics Canada refused to sign the Kyoto Protocol until it was assured that the U.S. would do the same. Canada was concerned that if it moved first on greenhouse gas legislation, and the U.S. chose not to follow suit, Canada would be exposed and Canadian industries would be put in a position of economic disadvantage when compared to their U.S. counterparts (Eggertson). Pressured by provincial leaders who feared for their economies, Natural Resources Minister Ralph Goodale confirmed on November 13, 1997, that Canada would in fact not sign the agreement until the U.S. had done the same. Goodale said, “what we want to have before we take that position [mandating that the U.S. must sign first] is first of all the Canadian implementation plan settled…and then a very clear indication that the United States is also part of the game” (Eggertson). A year later Environment Minister Christine Stewart reiterated the Canadian position that the U.S. would have to take the first step so as not to “disadvantage Canada’s competitive place in the world” (Duffy). From Goodale’s position we can see that not only was the U.S. signing of the agreement critical, but also a commitment to be “part of the game,” a statement implying that Canada would not move until they were fully satisfied that the U.S. would not only sign, but also ratify and implement the Kyoto Protocol. v

As of the print date for this paper the Canadian Government had yet to implement any structured policy in the interest of achieving their Kyoto targets. Progress was made on February 3rd, 2004, however, when Prime Minister Paul Martin reconfirmed Canada’s commitment to the Kyoto Protocol and initiated several million dollars of funding for the expedition of implementation and compliance. This came as somewhat of a surprise to observers as Martin had long been less supportive of the Kyoto Protocol than his predecessor Jean Chrétien, and many thought he would waver on the subject. This lack of an implementation plan is one of the largest criticisms of Canada’s ratification of the Kyoto Protocol as it does not allow industries and consumers alike to prepare for or even clearly anticipate the costs of adherence to the Kyoto Protocol.

Eventually, the U.S. under the Clinton administration did in fact sign the Kyoto Protocol and the condition precedent to Canada’s signing was in place.

U.S. Rejection of Kyoto On March 29th, 2001, President George W. Bush backed the United States out of the Kyoto Protocol. President Bush argued that the Kyoto Protocol signed by his predecessor President Bill Clinton was “fatally flawed” and bad for the U.S. economy: “[w]e believe that we ought to all work together to reduce greenhouse gasses. However, the protocol that I inherited is not the proper way to proceed. We share the goals but the methodology needs to be assessed” (“Kyoto Climate Deal Hopes Grow”). President Bush had several specific criticisms of the Kyoto Protocol. First he argued that its compliance obligations were unevenly distributed as developing countries were exempt. “We recognize the responsibility to reduce our emissions. We also recognize the other part of the story – that the rest of the world emits 80 percent of all greenhouse gases. And many of those emissions come from developing countries” (USOPS, “President Bush Discusses Climate Change”). The second, and perhaps the more telling critique of the Kyoto Protocol issued by President Bush was that the restrictions placed on the U.S. were unfair, and that they would lead to a “negative economic impact” on the U.S.. “Kyoto is in many ways, unrealistic. Many countries cannot meet their Kyoto targets. The targets themselves were arbitrary and not based upon science. For America, complying with those mandates would have a negative economic impact, with layoffs of workers and price increases for consumers” (USOPS, “President Bush Discusses Climate Change”).

In light of these two concerns President Bush backed the U.S. out of the Kyoto Protocol, arguing it was a decision with which the American public would agree: “when you evaluate all these flaws, most reasonable people will understand that it’s not sound public policy” (USOPS, “President Bush Discusses Climate Change”). vi It is interesting to note that in 2002, despite the federal rejection of the Kyoto Protocol, the New England Governors made an agreement with the Eastern Premiers of Canada to reduce carbon emissions to Kyoto required levels in 10 years. Other states have also taken regulatory action contrary to that of the Bush administration, as California has passed a bill requiring reduced carbon emissions from cars, while Colorado has passed a bill mandating that 10 percent of the state’s electricity come from renewable sources by 2010 (Sullivan).

Responses to U.S. Rejection of the Kyoto Protocol A chorus of indignation was heard around the world when the Bush administration announced it was rejecting the Kyoto Protocol. Criticism ranged from that of French Environment Minister, Dominique Voynet, who said that “Mr. Bush’s unilateral attitude is entirely provocative and irresponsible” (qtd. By LaGuardia and Harnden), to Charles Secrett of Friends of the Earth International who said of President Bush: “This ignorant, short-sighted and selfish politician, long since firmly jammed into the pockets of the oil lobby, clearly could not care less” (qtd. By LaGuardia and Harnden ). The EU took a more nuanced position, calling for the U.S. to reconsider its position vi

Polling numbers have since indicated otherwise. A Harris Poll released October 23, 2002 indicated that 54% of national adults think the American position of rejecting the Kyoto Protocol was wrong while only 30% answered it was the right position (“Harris Poll # 0415574”). A second poll released the same day suggested that 73% of national adults approve of the international agreements in Kyoto and Bonn (“Harris Poll # 0415573”).

and live up to its responsibilities as a global power. Margot Wallstrom, European Commissioner for the Environment, said “The European Union urges the U.S. to reconsider its position. All countries have to act, but the industrialized world has to take the lead” (qtd. In “U.S. attacked as EU ratifies”). Much of the concern surrounding the U.S. rejection was focused on the viability of the Kyoto Protocol without U.S. involvement. “The Kyoto Protocol was framed around the good intentions of many countries, but is worthless without the involvement of the U.S.” (“Fed: Countries wrong”). As the largest polluter in the world, accounting for approximately a third of all greenhouse gas emissions, many feel that the U.S. rejection will not only kill the Kyoto Protocol, but also set back the efforts that were made over the seven year negotiating period of the Kyoto Protocol in the interest of recognizing greenhouse gas emissions as a global problem. The fallout of the global criticism of the U.S. action may well be an area of concern for the U.S. Possible retaliation by the U.S. trading partners has many in exportrich industries nervous, as a trade war would be devastating to the economy: “For those in the U.S. with substantial export business, threats to use international trade treaties and conventions to attack U.S. products because of the U.S. failure to ratify Kyoto represent an additional worry” (Sullivan). This retaliatory response is that which Krugman and Baldwin spoke of in the discussion of the benefits of free trade in Chapter II of this paper.

Impact of the U.S. Rejection of the Kyoto Protocol on Canadian Investors “[Canada] will also be the only nation in the Western Hemisphere – in which 90 percent of our trade occurs – to be constrained by Kyoto. The United States will not ratify. How can we compete when our largest trading partner 54

operates without the same constraints as Kyoto puts on us?” (Hearn). “Our argument to the EU is that Canada’s situation has changed enormously with the U.S. decision – more than any other country.” Sue Kirby, Assistant Deputy Minister, Natural Resources Canada (qtd. in Fairley 23). One of the more challenging aspects of this analysis has been to identify unique costs to Canadian investors that will result from the U.S. rejection of the Kyoto Protocol. Two reasons give rise to this challenge. First and perhaps most importantly, is the fact that there has yet to be any implementation of the Kyoto Protocol in Canada and therefore there is no substantial data to generate an empirical analysis of a direct financial effect on Canadians. Second, at this stage in the implementation process there is no way to accurately hypothesize how many jobs will be gained or lost in Canada because of the signing of the Kyoto Protocol. Even if we were able to identify the total number of jobs lost under the Kyoto Protocol, we would then have to determine the link between total lost jobs and the U.S. rejection of the Kyoto Protocol, to isolate those jobs uniquely affected by the U.S. action. Therefore, in order to establish a negative effect on Canada due to the U.S. rejection of the Kyoto Protocol, we turn to a third avenue of analysis, the impact on foreign direct investment (FDI) in Canada.

CANADIAN ENERGY AND CHEMICAL SECTORS The U.S. decision to pull out of the Kyoto Protocol placed Canadian investors in a position where their competitive advantage will be compromised and therefore their ability to attract FDI will be reduced. This detrimental effect of the U.S. rejection on Canadian investors can be clearly illustrated by a discussion of the concerns of those involved in the Canadian Energy and Chemical sectors.

“Many chemical industry executives say that ratifying Kyoto would penalize Canadian chemical plants that export to the U.S. – which is opting out of Kyoto – and eliminate hopes for growth in Canada,” thus the “added costs of compliance will hurt Canada’s ability to compete with the U.S.” (Fairley 23). There exists an overwhelming, apocalyptic fear within the Canadian energy and chemical industries as to the effect the Kyoto Protocol will have on profitability and competitiveness; the production processes of these industries are greenhouse gas intensive, and are in direct competition with U.S. industries. As Andre Plourde, a professor at the University of Alberta School of Business, explains, “[a]ll else being equal, the larger the policy-induced cost differences, the larger the competitiveness effects, and the more likely are production related activities to migrate toward the lowercost jurisdictions” (57). One of the largest fears is that Canadian firms will be forced to move to the U.S. to take advantage of the more profitable economic climate in a Kyoto-free country. “The first blow will strike the energy sector – raising costs for resource businesses who will likely pack up and move south to the U.S., a country which has vowed to reject Kyoto” (“Chrétien’s Kyoto emissions”). Specific examples of this threat can already be identified. Gwyn Morgan, CEO of EnCana Corp., said that “ratification of the Kyoto Protocol would have severe economic consequences in Canada” (qtd. in Pitts). In light of these consequences, he added, “EnCana may move its investments to the U.S.” (qtd. in Pitts). Further, Grand Prairie, Alberta, county councillor Richard Harpe fears that the Kyoto Protocol will result in the migration of northern Alberta oil-refining jobs to the U.S. “I think the raw resources will be developed at any cost, but its going to be the

refining and processing of those resources that is going to go wherever the labour is the cheapest and the economic climate is most favourable” (qtd. in Talbot). While some firms contemplate moving south of the border, others are altering their plans to build in Canada. In 2003, TrueNorth Energy was forced to defer construction indefinitely of its C$3.5 billion Fort Hills Oil Sands project in Alberta after determining it to be too risky, “due largely to rising costs and the uncertainty around Canada’s implementation of the Kyoto Protocol” (Merolli). Canadian National Resources Ltd. (CNRL) said the ratification of the Kyoto Protocol could force them to reassess the risk in Canada, and could “threaten plans for a $4 billion heavy oil production project and a related $4 billion upgrader. CNRL executive Murray Edwards said the company is looking at the impact of Kyoto on the projects, and the upgrader could be moved to the U.S.” (Stott). For those investors that choose to stay in Canada, serious concerns are arising about their ability to attract FDI. “The oilpatch is worried Kyoto will divert investment dollars to other countries that aren’t bound by the deal, including the United States” (Varcoe). Canadian Energy Pipeline Association President Robert Hill said “the pipeline industry, which needs C$10 billion in capital investment over the next decade, fears Kyoto will chase those dollars to the United States” (Park). Scott Simpson of the Vancouver Sun argued that “capital markets are abandoning companies in the industry because of confusion about the [Kyoto] protocol’s implications for them. When the equity markets can’t relate to the actual numbers, to the assertions of the political leadership, the equity markets say ‘I can’t understand so I won’t write the cheque’” (S. Simpson). In 1999, Imperial Oil President Bob Peterson said that there will be “real

economic consequences to Canada of attempting to meet the Kyoto targets. The cost of basic necessities will rise. Unemployment will be higher. Investment levels will be lower” (qtd. in Stevenson). Jeffrey Lipton, Chief Executive of Nova Chemicals Corp., has been a long time opponent to the Kyoto Protocol. In a May 2002 article, Lipton was quoted as saying that “Canada’s ratification of [Kyoto]…would decimate the country’s $10 billion-a-year petrochemical industry” (Scotton). Lipton suggested that with the adoption of the agreement, investment in Canada would dry up and be redirected to the U.S.: “We’re competing with companies that are based in the U.S.…that don’t have to live up to the Kyoto protocol. It would put us at a great competitive disadvantage and…put our operations in some question” (Scotton). Lipton later suggested that the burden initially borne by the industries would subsequently be put on the taxpayers, as “the industries will either not invest, and eventually disappear, or they [Ottawa] may be under some huge tax pressures to offset those additional costs” (Scotton). In a submission to Canada’s Innovation Strategy Commission, the Canadian Chemical Producers Association called for the federal government to “commit to continual improvement in the investment environment while avoiding circumstances which create serious investor uncertainty” such as the Kyoto Protocol (“Submission”). The association suggested that the debate surrounding the implementation of the Kyoto Protocol is causing “enormous damage” to Canada’s ability to attract FDI as a result of the U.S. rejection and subsequent decision to implement a less restrictive approach. They said the Kyoto Protocol “creates perceptions among investors that Canada’s climate change policy is likely to have a considerably greater impact upon competitiveness than the policies being implemented by major competing jurisdictions, including the United States and Mexico” (“Submission”).

Further, “A number of our member companies state that if Kyoto is ratified without an implementation plan that fully addresses competitiveness issues, new investment will not take place in Canada and even existing investments will be at risk” (“Submission”).

CHAPTER VII â&#x20AC;&#x201C; ANALYSIS Two conclusions may be drawn from the issues identified in this paper. First, Canada is in a unique position with respect to U.S. protectionism, as its partnership in NAFTA, when honoured, limits its responses to those that are consistent with free trade. Canadian investors are forced to incur greater costs associated with U.S. protectionism, relative to other countries, and Canadian firms have limited opportunities for remedy. Second, U.S. protectionism is in opposition to the spirit of international agreements such as NAFTA and the Kyoto Protocol, and violates American obligations under the former. From these two conclusions it becomes clear that there exists a need to defend Canadian investors from U.S. protectionism, and to identify the means by which a defence can be mounted. This paper advances a two-pronged approach to the analysis of the availability of recourse and remedy: a) NAFTA Chapter 11 is available as a mechanism to provide relief to investors that are affected by U.S. protectionist actions, of which the decision to withdrawal from the Kyoto Protocol is an example, and that this relief is founded on the principle of expropriation; and b) that NAFTA Chapter 11 should be amended to permit the availability of the mechanism for remedy against U.S. protectionism to both foreign and domestic investors.

The Two Conclusions CANADA IS IN A UNIQUE POSITION Canada is in a unique position with respect to U.S. protectionism. On the global scale the defence against protectionism is the threat of retaliatory sanctions. Much like

the concept of mutually assured destruction during the Cold War, the financial threat to one’s own citizens of a “tit-for-tat” response has deterred protectionism. “Deterrence via manipulation of economic interdependence is somewhat like nuclear deterrence in that it rests on a capability for effective damage and credible intentions” (Nye 186). The current U.S. administration, however, has shown a degree of contempt for the potential responses to their protectionist actions, and not been deterred from such actions. i By taking the protectionist actions described earlier, the U.S. has forced the hand of its trading partners, giving them no other option but to respond. Those countries outside of NAFTA have been able to return the U.S. volley of protectionism with trade sanctions of their own, which, when large enough, have posed a significant threat to the financial wellbeing of the U.S. ii Canada’s unique position derives from its participation in NAFTA. Paradoxically, despite the original thoughts of Canadians that a free trade agreement would protect them from an increase in U.S. protectionism, the opposite has in fact been true; free trade agreements have permitted an increase in the U.S. level of protectionism. Such a fear was expressed during the development stage of NAFTA by a Liberal insider associated with the negotiation of the free trade agreements, who was quoted as saying, “[t]hese laws [free trade] have become an increasingly aggressive instrument for i

A brief discussion of game theory is relevant at this point. In a typical game theory model the assumption must be made that your opposition will act rationally. Models such as the Cournot equilibrium or Nash equilibrium assume the other firm’s choice is fixed at that which will achieve the highest return for itself. From this assumption, the initial firms decision is based on maximizing its return given the other firm’s behaviour. Applying this theory to the issue at hand, foreign countries have been able to assume in recent history that the U.S. would act in a manner consistent with its overall economic self interest. In other words, it could be logically assumed that the U.S. would not act in a manner inconsistent with its own economic interests. The recent actions of the U.S., however, have altered this assumption. The U.S., in cases such as the steel tariffs and farm bill, has been motivated by political forces rather than economic ones, forcing foreign trading partners to redefine the equilibrium. No longer can it be assumed that the United States will act in its own economic interest; rather it will act in its own domestic political interest (see Varian Ch. 28). ii See discussion of global perception to U.S. protectionism in Chapter V above.

unilateral unfair American trade actions that are highly protectionist in nature” (Ferguson, “NAFTA: Canada’s Concerns”). The article quoting the insider went on to argue that, “[s]ince the Canada-U.S. deal took effect, January 1, 1989 there has been an upswing of increasingly aggressive American unfair trade actions against Canada” (Ferguson, “NAFTA: Canada’s Concerns”). In order to explain this paradox we must consider the ability of Canadian investors to respond, prior to and after the signing of NAFTA. Prior to NAFTA, Canada was able to respond to U.S. protectionism with retaliatory sanctions and tariffs. “Canada often prevailed in a number of disputes with the United States because Canada was willing to threaten retaliatory actions such as tariffs and restrictions that deterred the United States” (Nye 186). Following the proclamation of NAFTA, Canada, unlike other countries affected by U.S. protectionism, is no longer able to respond to such actions in a similar manner; any meaningful direct sanctions on U.S. exports would be a violation of NAFTA. The obvious critique of this position is that although NAFTA may have tied Canada’s hands with respect to responding to U.S. protectionism, Canada has nonetheless been exempt from the majority of U.S. protectionist actions because of NAFTA protections. My response to this critique is that although Canada may well be exempt from the direct impact of a protectionist action, it is not necessarily exempt from the repercussions of that action. For example, while it is entirely true that Canada was exempt from the U.S. steel tariffs as a result of NAFTA, it does not follow that Canada was exempt from the repercussions of these actions. Due to its smaller size and resources, the Canadian steel market is reliant on the U.S. steel market to set the price of

steel. Thus when the U.S. undertakes a protectionist action and subsidizes its steel industry through import restrictions and tariffs, U.S. steel industries are able to sell at a lower price, while the Canadian industries, without any change in their revenue structure, must now compete at a lower market price. The Canadian steel industry is thus negatively affected by U.S. protectionism as evidenced by tariffs, despite being exempt from the direct act of protectionism. The uniqueness of Canadaâ&#x20AC;&#x2122;s position is further compounded when one considers the financial costs incurred by Canadians as a result of U.S. protectionism. As stated above in the discussion of the affects of the U.S. rejection of the Kyoto Protocol, there are specific costs forced on Canadian industries by the Kyoto Protocol. In addition to these costs, however, there is also a great degree of cost, unique to Canada, resulting from the dispute resolution process. While the EU, Brazil, or Japan fight the U.S. in the WTO courts, they can use their retaliatory sanctions to cover the financial burdens imposed on them by the U.S. protectionism. Canada, on the other hand, is unable to do this because of NAFTA and therefore the costs to Canadians of U.S. protectionism are wholly incurred by Canadians, even if the U.S. actions are ultimately overturned. The NAFTA and WTO dispute resolution processes can take a great deal of time, during which Canadian consumers and industry are being forced to bear the brunt of the costs of U.S. protectionism. By dragging out the dispute resolution process, the financially stronger U.S. is able to break down smaller Canadian firms through administrative and legal costs, in many cases crippling the Canadian firm. As David Emerson, president of the Canadian Softwood Lumber Company Canfor said, â&#x20AC;&#x153;[The Americans] want us to negotiate from our kneesâ&#x20AC;? (Emerson).

The conclusion to be drawn from this analysis of the uniqueness of the Canadian position with respect to responding to U.S. protectionism is that Canadian investors require a mechanism that will protect them from the protectionist actions of the U.S. while maintaining Canada’s obligations within NAFTA. Before we identify the mechanism, however, there is a second conclusion to be reviewed.

U.S. PROTECTIONISM IS IN OPPOSITION TO THE SPIRIT OF INTERNATIONAL AGREEMENTS. Relying on examples of U.S. protectionism (the withdrawal from the Kyoto Protocol; the U.S. Farm Bill; the softwood lumber duties; steel tariffs), we can conclude that U.S. protectionism is in opposition to spirit of two (but not limited to two) international agreements. First, with respect to NAFTA, it is clear that the U.S. protectionist actions are a violation of the principles which underlie the agreement. iii In the NAFTA preamble, the signatories laid-out the themes which bind the agreement. Three of these commitments are directly related to the issue at hand. Firstly, the parties resolved to: “strengthen the special bonds of friendship and cooperation among their nations” (“NAFTA Preamble”). It is clear that the U.S. actions in no way strengthen the bonds of cooperation with Canada as they are in direct opposition to the best interests of Canadians. The U.S. actions have weakened the bonds of friendship between the two countries and have thus reduced Canada’s willingness to cooperate. Second, the members of NAFTA resolved to “contribute to the harmonious development and expansion of world trade and provide a catalyst to broader international iii

It is important to note that the argument can be made that the U.S. is invoking one of the safeguard measures designed to allow NAFTA members to protect their industries in time of need. With respect to the current situation, if the U.S. were in fact invoking the safeguard measure under NAFTA, they would be required to compensate Canada for the financial consequences they have incurred.

cooperation” (“NAFTA Preamble”). The U.S. actions can be seen as a violation of this commitment, as, notwithstanding the negative affects of their actions on Canada and the resulting surfeit of ill will, U.S. protectionism has sparked outrage from other trading partners such as Japan and the EU. This outrage has impinged on the “harmonious development and expansion of world trade,” and hindered “broader international cooperation” (“NAFTA Preamble”). The final relevant component of the NAFTA preamble is a resolution of the parties to “reduce distortions to trade” (“NAFTA Preamble”). U.S. protectionism is a violation of this commitment as their actions increase the distortions to trade by increasing the asymmetry of power on the North American continent and isolating their trading partner north of the border. A second international agreement, to which U.S. protectionist actions are directly contrary, is the Kyoto Protocol. The U.S. has undermined and potentially eliminated the most substantial greenhouse gas emissions initiative in history. iv While the Kyoto Protocol handed to the Bush administration may conceivably have been a bad deal to sign, it is the symbolism of the agreement that is important, not necessarily the science. For the first time since the beginning of the industrial revolution, the industrialized nations came together united by the cause of reducing the global levels of greenhouse gas emissions. It was therefore critical for the U.S. to stay at the negotiating table and rework the agreement until it was more reasonable in terms of its expectations. President George W. Bush did the exact opposite. He kicked his chair away from the table and decided to back out of the Kyoto Protocol, bringing with him the largest iv

At the time this paper went to print Russia had not yet ratified the Kyoto Protocol. The significance of this is that without Russian ratification, the Kyoto Protocol would cease to exist by virtue of the stipulation that 56% of greenhouse gas emissions must be represented (Williams).

individual share of total global greenhouse gas emissions and potentially killing the Kyoto Protocol. This outright rejection was a slap in the face to the international community. If, in the new best case scenario, the Kyoto Protocol is able to survive and all the industrialized nations of the world (except the U.S.) begin to implement its requirements, the U.S. will be able to exploit their position outside of the Kyoto Protocol, and benefit economically. Unlike previous environmental agreements such as the Montreal Protocol, there is no pre-existing enforcement mechanism in the Kyoto Protocol. v The U.S. is therefore able to back out and to not comply with the Kyoto Protocol at no economic cost. The U.S. is now in a position to exploit their potentially lax environmental regulations and attract FDI looking for the least expensive place to produce. Having concluded that Canada is in a unique position with respect to U.S. protectionism and that U.S. actions are in opposition to, and therefore a threat to international agreements and the global community, it can be postulated that there exists the need for a mechanism designed to defend Canadians against the protectionist actions of the U.S. in the 21st century. To identify this mechanism we need to consider what dispute resolution process is relevant to this situation and identify the way in which the U.S. actions are in fact a violation of the prevailing agreement.

The issue with the Kyoto Protocol is similar situation to the Montreal accord dealing with CFCâ&#x20AC;&#x2122;s in the early 1990s, except MontrĂŠal had a mechanism built in to protect member nations from the negative consequences of membership resulting from the predatory or protectionist actions of non-member countries. Specifically this mechanism was able to prevent China from selling fridges with Freon to U.S., as it was illegal to sell products not meeting the standards of the accord in the markets of member countries.

Availability of Recourse and Remedy NAFTA OR WTO? The two predominant trade agreements binding the U.S. and Canada are NAFTA and the “Final Act” of the WTO. Both provide a dispute resolution mechanism, and the key distinction lies in access to the panels. The WTO panels arbitrate matters that are “member to member,” whereas NAFTA is designed to arbitrate both “member to member,” and “investor to state” matters (Villanueva and Serna). The focus of this analysis is on identifying a defence for Canadian investors against protectionism, therefore any arbitration will be of the “investor to state” nature, and NAFTA is the appropriate location.

NAFTA CHAPTER 11 – INVESTOR TO STATE DISPUTE RESOLUTION Within NAFTA, Chapter 11 deals specifically with “investor to state” disputes. In order for a protectionist act to be considered under NAFTA Chapter 11, it must first be established that a protectionist act is a form of regulatory takings and thus tantamount to expropriation. I will argue that even though regulatory takings are typically considered to involve the takings of physical property (expropriation of land), protectionism is a form of regulatory takings, as the expropriation of future profits results in the taking of competitive advantage and market share, and denies the foreign investor the right to fair trade afforded to it by NAFTA.

NAFTA CHAPTER 11 – BACKGROUND NAFTA broke new ground with its dispute settlement process. The authors of NAFTA “set forth a complex set of dispute settlement schemes, each carefully tailored to a different type of dispute” (Hansen ). Specifically, with respect to disputes involving

antidumping and countervailing duties and for disputes involving foreign investment, “the NAFTA countries have agreed to give binding effect to the rulings of NAFTA tribunals and to allow significant participation by private parties” (Hansen). This scheme is NAFTA Chapter 11. According to the Canadian Standing Committee on Foreign Affairs, “[t]he aim of Chapter 11 is to liberalize and promote investment, especially foreign direct investment, by creating a rules-based framework that protects the investment interests of foreign investors from discriminatory or tradedistorting acts by the government of the host country where the investment is made” (CSC 30).

OUTLINE The NAFTA Chapter 11 process allows investors to sue a government party to the agreement that take actions “tantamount to expropriation.”vi The process of resolution under NAFTA Chapter 11 is governed by international commercial arbitration rules. “The investor and the government each choose one arbitrator, and the third is chosen together or by a neutral third party” (CSC 30). “The results of the arbitration are binding on each party, and there are limited provisions for review or appeal of such awards” (CSC 30). “Chapter 11 sets out rules on how NAFTA governments (from the municipal to the federal) must treat investors from other NAFTA countries. The essence of the rules, as originally explained by the three governments, was to prevent governments from discriminating against foreign vi

NAFTA Chapter 11, derived from the Fifth Amendment of the Constitution of the United States, extends the Fifth Amendment through three main distinctions: 1) Private property not only refers to land and physical assets, but the market-determined commercial value of property, including a company’s asset value and future profit earnings (Greenfield); 2) Traditionally compensation was awarded only when the whole value of property was lost. Under the new definition it applies when any part of its commercial value is lost (Greenfield); and 3) It is not only expropriation but acts “tantamount to expropriation” that require compensation. This means that a wide range of government policies, laws or administrative measures can be treated as having a similar effect as expropriation (Greenfield).

investors or expropriating their property without proper compensation” (Runnalls and Mann). A claim by an investor under this chapter may be pursued directly against the NAFTA party through arbitration before either the International Centre for Settlement of Investment Disputes (ICSID) or the United Nations Commission on International Trade Law (UNCITRAL). NAFTA directs arbitrators in such a proceeding to decide the disputed issues in accordance with that agreement and applicable rules of international law. Any interpretation of the agreement adopted by the NAFTA Commission is binding on the arbitrators (see Kass). The remedies available to NAFTA arbitrators include damages, restitution and costs. “Instead of forcing the investor to work through its home government to try to obtain compensation for expropriations, as traditional approaches to international obligations concerning expropriation would have required, NAFTA Chapter 11 allows an investor to invoke an arbitration provision, forcing the offending government to deal directly with a private party on its claim for compensation” (Poirier 5/84). The definitive article within NAFTA Chapter 11 is Article 1110 which states: Article 1110: Expropriation and Compensation 1. No Party may directly or indirectly nationalize or expropriate an investment of an investor of another Party in its territory or take a measure tantamount to nationalization or expropriation of such an investment ("expropriation"), except (emphasis added): vii (a) for a public purpose; (b) on a non-discriminatory basis; (c) in accordance with due process of law and Article 1105(1) ; and (d) on payment of compensation in accordance with paragraphs 2 through 6. vii

For the authority relied on for the interpretation that NAFTA Article 1110 relief is limited to an investor acting in a foreign host territory see (Hart and Dymond 1).

PROTECTIONISM AS EXPROPRIATION UNDER NAFTA CHAPTER 11 In order to determine whether a protectionist act should be considered an expropriation under NAFTA Chapter 11, three questions must be answered. First, what was the original intent of the drafters of NAFTA Chapter 11 with respect to the use of the legislation? Second, is protectionism in fact a form of expropriation? Finally, are protectionist actions exempt from NAFTA Chapter 11 by the exceptions listed in NAFTA Article 1110? In order to establish the intent of the drafters of NAFTA Chapter 11, it is appropriate to review the position of David Price, the original architect. Price’s position suggests the motivations and intentions behind NAFTA Chapter 11 and how it was originally thought to be applied. Price stated that investor protections “… foster the development of the rule of law, respect for private property, and a market based free enterprise system, that are essential hallmarks of a democratic society”(Price). Price later explained his argument by saying that “governments recognize that it would be unfair to force an investor to bear the entire cost of a change in social policy. These costs, at least under certain circumstances, should be borne by society as a whole” (Price). From this we can assert that NAFTA Chapter 11 should be applied to cases where U.S. domestic policy is interfering with the present and future profits of a Canadian firm as it would be unfair to force Canadian investors to bear the entire costs of a shift in social policy indicated by increased protectionist actions. The protectionist surge in the United States during the 21st century constitutes a dramatic change in social policy, viii the effects of which will prove devastating to Canadian firms trying to compete with American firms, both at home and in the U.S. viii

See Appendix V

In order to determine the second premise, that protectionism is a form of expropriation, it is useful to employ a three stage test highlighted by Alex Macek of the University of Toronto School Of Law. For an action to be expropriatory, three requirements must all be satisfied: 1) the loss of virtually all rights held by the individual, 2) the transfer of these rights to the expropriating authority, and 3) a lack of a clear intent not to compensate for the rights in the governing legislation (Macek). The first step in Macek’s test in determining whether protectionist actions are a form of expropriation is to determine what has been lost as a result of the regulatory action. This is perhaps the most difficult of the three requirements to apply to the case of protectionist action as there has not been the taking of physical property. Although expropriation is typically considered by both the U.S. Constitution and NAFTA’s Chapter 11 to be the result of takings of property, ix I contend that protectionism is an expropriation of market share and competitive advantage, an act which has the same affect as the takings of property. NAFTA entitles all foreign investors the most favoured nation status and with it the right to fair trade within the NAFTA party borders. The protectionist actions deprive the foreign firm of this narrowly defined right and therefore the first test of expropriation is met. The second of Macek’s tests for an action to be deemed expropriatory is the transfer of the taken rights to the state. This requirement, like the first one, again may not seem entirely clear at the start. The taking of a firm’s right to fair competition decreases its market share and competitive advantage. The protectionist action has therefore removed these rights and transferred them to the firms of the offending state. While the ix

Even when damages have been awarded for the takings of future profits it has been on the basis that the governments action took or limited the use of land from a firm, which thereby resulted in a takings of the future profits as well.

government itself may not be acquiring the rights for its own purpose, it is still taking the rights to fair competition away from the foreign firm and providing its own domestic firms with the benefits of greater market share and increasing their competitive advantage, and the future profits and tax revenues associated with each. The economic gains of the party’s firms are a clear gain for the economy of the party therefore satisfying Macek’s second test. Macek’s final test for an action to be deemed expropriation is that there exists a lack of clear intent not to compensate for the taking of the right. In the case of protectionist action, the government clearly has no intent on compensating the foreign investors for the takings, for the purpose of a protectionist act is the granting of advantage to the party’s own investors. x In light of the satisfaction of the three requirements for an action to be deemed an expropriation, it is established that protectionist actions are in fact an expropriation of the investor’s right to fair competition, and NAFTA Chapter 11 applies. The final element for determining if NAFTA Chapter 11 is a vehicle by which to deal with protectionist actions is to determine whether the protectionist actions fall under one of the exceptions to an expropriatory action listed under Article 1110. The four exceptions are actions taken: (a) for a public purpose; (b) on a non-discriminatory basis; (c) in accordance with due process of law and Article 1105(1); and (d) on payment of compensation in accordance with paragraphs 2 through 6. Subsection (d) cannot apply and this has been established in the analysis of Macek’s third tests above, for it is clearly a taking and no payment is made. Subsection (c) cannot apply as the discussion is about a protectionist act, unilateral in nature and x

See the rationale of the Bush Administration in Chapter V.

therefore lacking due process. Subsection (b) cannot apply as protectionist actions are discriminatory in nature as they promote the competitiveness of one’s domestic firms at the expense of a foreign firm. Therefore subsections (b), (c), and (d) cannot apply, and attention must be focused on subsection (a). Subsection (a) exempts an expropriatory act if that act is taken for a public purpose. There is no authority on this point. In respect of the case study of the Kyoto Protocol I would argue that withdrawing from the Kyoto Protocol is not an act for a public purpose as it is an act beneficial to corporate private interest. It further fails as an act for a public purpose because it takes place at the expense of environmental issues which by their nature are for a public purpose. xi Outside of the Kyoto Protocol case study and the protectionist acts reviewed in this paper, a determination will have to be made on a case by case basis by the NAFTA panel to determine whether a protectionist action can be substantiated as being one of “public purpose.” IN light of the fact that three of the exemptions are immediately invalid, and the fourth must be determined on a case by case basis, there is clear support for the argument that NAFTA Chapter 11 is the appropriate mechanism for an investor seeking relief from an offending government, and compensation for the consequence of protectionist action.

Proposed Amendment to NAFTA Chapter 11 to Include Domestic Investors Having identified that protectionist actions are an act of expropriation and therefore subject to NAFTA Chapter 11, I will now turn to the second prong of my xi

The softwood lumber, steel tariffs and farm bill discussed in Chapter V are all protectionist actions for private interests and the application of the Byrd Amendment granting relief to the private interest clearly removes any suggestion of public purpose.

approach to the analysis of the availability of recourse and remedy: that NAFTA Chapter 11 does not accommodate all who may potentially seek its relief and therefore should be amended to permit the availability of the mechanism to both foreign and domestic investors. “One of the major complaints…is that the norms of national and MFN [Most Favoured Nation] treatment for investors discriminate against domestic investors who cannot use Chapter 11…” (Molot). Michael Hart and William Dymond call for the expansion of the scope of NAFTA Chapter 11 to include domestic investors as well as foreign investors (Hart and Dymond 24). Currently the scope of NAFTA Chapter 11 is limited to foreign investors and assumes that domestic investors have the availability of relief through domestic measures. As has been shown above, however, instances occur in which domestic investors with a complaint against a foreign government do not have access to sufficient relief procedures. Thus there exists a need for an expansion of the scope of NAFTA Chapter 11: “If the purpose of Chapter 11 is to ensure the accountability of governments to live up to their treaty obligations, and to provide aggrieved parties with relief from, and compensation for, discriminatory, unfair, confiscatory, or capricious government measures, that relief should be available to all investors. Indeed we see no reason it should be limited to investors. In our view, the right to hold governments to account for their international commitments should be a broadly available right, in both domestic and international procedures” (Hart and Dymond 25). This expansion of the scope of NAFTA Chapter 11 to include domestic as well as foreign investors has important ramifications, as under the current structure of NAFTA

Chapter 11, foreign firms possess more legal rights than domestic ones, and such a distinction is discriminatory. For example, NAFTA Chapter 11 denies an investor resident in Canada the right to seek relief for actions protectionist in nature, brought about by the American government. Returning to the softwood lumber dispute, a plant operating exclusively as a collective of workers in British Columbia (providing they do not have a U.S. subsidiary), currently does not have relief through NAFTA from the U.S. administration’s imposition of tariffs and duties in March of 2002. The proposed amendment would ensure that a domestic investor has the same remedy as a multinational firm operating in both countries. Given these arguments, I propose an amendment to NAFTA Article 1110 to read as follows: NAFTA Chapter 11, Article 1110: Expropriation and Compensation 1. No Party may directly or indirectly nationalize or expropriate an investment of an investor of another Party in its territory or in the other Party’s territory, or take a measure tantamount to nationalization or expropriation of such an investment ("expropriation"), except: xii (a) for a public purpose; (b) on a non-discriminatory basis; (c) in accordance with due process of law and Article 1105(1) ; and (d) on payment of compensation in accordance with paragraphs 2 through 6. We may now return to the case example of the Kyoto Protocol and consider what affect this change will have on the current conditions.xiii

xii

For interpretation that NAFTA Article 1110 relief is limited to an investor acting in a foreign host territory (Hart and Dymond 1). xiii Before I apply this amendment of NAFTA to the Kyoto Protocol, it is important to return to the definition of protectionism found above, and note the emphasis on “economic protection for domestic producers.” One of the largest concerns surrounding NAFTA Chapter 11 is that as a result of the large awards handed to corporations, future governments will be unwilling to legislate in the public’s interest for

Applicability of the Proposed Amendment to the Kyoto Protocol Case Study Backing out of the Kyoto Protocol by the U.S. is a protectionist action that has negatively affected Canadian investors. The loss of resident Canadian investors’ competitive advantage is a taking of future profits that is an expropriatory action, not excluded by the subsections of NAFTA Chapter 11, Article 1110. The expropriatory action occurred in “the territory of the other party,” and therefore falls within the scope of amended NAFTA Chapter 11 which consequently provides the opportunity for relief for the Canadian resident investor. xiv Canadian investors in the chemical or softwood lumber industries would therefore be empowered to file a suit under NAFTA Chapter 11, Article 1110, against the U.S. government, seeking compensation for the takings of the right to fair competition and the subsequent loss of current and future profits.

fear of a NAFTA Chapter 11 claim and the possibility of an extraordinarily high settlement (see Freeman). The recommendations I am making are solely with respect to protectionist actions by governments, not all legislative actions in general. The difference lies in the definition of protectionism which is clearly limited to economic protection for producers. Labour or environmental legislative endeavours would not fall under this definition when they are framed in the public interest, and therefore there is no detrimental effect of this amendment. xiv

The relief sought by the Canadian resident investor against the U.S. would be for the loss of potential income determined both by loss of profit margin on goods sold, loss of competitive advantage to American investors whose standards of environmental compliance are now less stringent, and loss of opportunity for FDI.

CHAPTER VIII – CONCLUSION The theory behind free trade, as articulated by Jacob Viner in Chapter II, is that everyone wins. Open markets allow goods to be sold at the most competitive prices from the most efficient producers. The U.S. has lost sight of this ideal, however, as they appear to only accept a form of trade in which they win: “It may seem strange that in the United States, historically the champion of the free market, I should feel the need to make a plea for a free and open trading system. But, while most persons would readily agree that such a system is demonstrably superior in principle, I often find them advocating policies that would produce the opposite result. When individuals, industries, or even whole sectors perceive their economic interests to be threatened, they often rationalize a course of action that has, over and over again, proven to be a failure: protectionism. ‘We believe in free trade,’ they say, ‘but it has to be fair trade.’ ‘Fair trade’ is not defined, but implicitly it means trade in which we win” W. Allen Wallis, U.S. Under Secretary for Economic Affairs, (qtd. in Altschiller 71). While the argument can be made that Canadians have in many respects been protected by their partnership with the U.S. under NAFTA, I have established that in light of the recent actions of the U.S., the level of protection for Canadian investors is insufficient. Canada entered into negotiations with the United States for a free trade agreement for several reasons, not the least of which was that it feared what U.S. protectionism would mean for Canadian industry. The free trade agreements were meant to be a mechanism by which Canadian investors could defend themselves from future protectionist actions. As such Canada signed NAFTA with the intention to “emerge with a mandatory, rules-based dispute settlement system that would govern the implementation of the agreement and serve as a secure route for Canada to challenge U.S.

protectionist actions without the asymmetry of U.S. power playing a role in the process” (CSC 9). What I have established throughout the course of this analysis, however, is that the current rules based system has not been applied sufficiently and that the U.S. protectionist actions have interfered with the market and skewed the North American balance of trade in favour of America’s domestic industries. The process o f integrating the world’s trade markets and liberating the flow of goods and services is a game; a game in which the United States has an upper hand. Canada must ensure that its interests in this developing regime are accounted for and acknowledged, and not be afraid to stand up and fight when they are not. “Globalization is an unfair game, with the rules written by rich advanced industrial countries for rich industrial countries. But the U.S. believes that even this is not enough: it will interpret these rules in ways which suit its political interests, bending and breaking them at will, challenging those who do no like it to do something about it” (Stiglitz, “Protectionism”). Facing the challenge of rising protectionist actions by the U.S., Canadian investors must seek new avenues for relief. One such avenue exists, and as of this date is underutilized. It is with the theories of Adam Smith in mind that I argue for the use of NAFTA Chapter 11 (as amended) as a corrective mechanism to re-level the North American free trade market, currently skewed by the U.S. protectionism. Canadians must realise that “the free market is not a pain-free market. [That] the invisible hand does not protect us the way a mother protects her child” (Buchholz 71). Canadian investors must therefore stand up and use the rules based system incorporated into NAFTA to ensure that their investments, and investment opportunities, are not expropriated as a result of the protectionist actions of the United States.

The recommendations of the Canadian Standing Committee on Foreign Affairs included a proactive approach to its relationship with the United States, choosing action over in-action “to actively help shape the evolution of our relationship with the United States and Mexico – and to secure maximum advantage from it – than to wait and allow events to dictate what that future relationship will look like” (CSC 2). Don Barry of the University of Calgary also noted, “it is in our interests that as much of our interaction as possible takes place within a framework of rules in which issues are settled on the basis of agreed standards rather than sheer power. Moreover, Canada should not hesitate to use these rules to challenge unfair U.S. trade policies” (qtd. in CSC 10). Finally, David Emerson, president of Canfor Corp. has also seen the value in NAFTA Chapter 11 for Canadians, and has called for a “more aggressive use” of the dispute resolution mechanism. (Emerson). Ultimately, we cannot fault the elephant for being an elephant, and for doing what is in the nature of the beast to do. Elephant’s will twitch, grunt, pass gas, and trumpet; this we cannot expect to change. To be the elephant’s partner, however, requires strategic placement and thinking, and a willingness to respond to even the slightest missstep, for the momentum of an elephant is difficult to arrest. Canadians must recognize the reality of sleeping with an elephant, and be willing to face the challenges that result.

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APPENDIX I â&#x20AC;&#x201C; GENERAL COUNTRY DATA Canada 1999

2000

2001

2002

GDP per head ($ at PPP)

26,983

28,562

29,331

30,655

GDP (% real change pa)

5.39

4.53

1.5

3.37

Government consumption (% of GDP) Budget balance (% of GDP)

18.9

18.4

18.72

18.75

1.71

3.1

1.8

0.1

Consumer prices (% change pa; av)

1.73

2.73

2.53

2.25

Public debt (% of GDP)

92.5

83.3

83.2

81.2

Labour costs per hour (USD)

15.61

16.05

15.64

15.81

Recorded unemployment (%)

7.56

6.83

7.21

7.65

Current-account balance/GDP

0.21

2.59

2.76

1.52

Foreign-exchange reserves (bn$)

USA 1999

2000

2001

2002

GDP per head ($ at PPP)

33,250

34,860

35,450

36,410

GDP (% real change pa)

4.11

3.75

0.25

2.45

17.69

17.82

18.43

18.89

1.36

2.44

1.27

-1.53

2.19

3.37

2.83

1.58

Public debt (% of GDP)

61.33

57.94

57.52

60.25

Labour costs per hour (USD)

19.11

19.72

20.32

20.87

Recorded unemployment (%)

4.22

4.77

5.78

Current-account balance/GDP

-3.16

-4.18

-3.9

-4.82

Government consumption (% of GDP) Budget balance (% of GDP) Consumer prices (% change pa; av)

Foreign-exchange reserves (bn$)

Economist.com Country Briefings. www/economist.com. United States and Canada: Economic Data. June 20, 2003. From the Economist Intelligence Unit. Visited March 30, 2004 <www.economist.com/countries>.

APPENDIX II â&#x20AC;&#x201C; ECONOMIC RATIONALE OF FREE TRADEi

Figure 1: With a tariff With a tariff in place the price of a good is at P1 and the quantity produced in the country is at Q1. As illustrated by the graph above (Figure 1).

Figure 2: Without a tariff The international price of the good is lower than the domestic one, however. Internationally the price is P2. If the tariffs are removed the domestic price of the good falls to meet the international one. At the lower price fewer domestic manufacturers would wish to make the good, thus the quantity produced domestically falls to Q2A. However, at the new lower price far more consumers would be able to buy the good, and thus quantity of the good purchased would increase to Q2B, with the difference between Q2A and Q2B being made up by imports.

Figure 3: Decrease in Producer Surplus Since less of the good is being made in the country producer surplus will shrink. Companies will either be forced to reduce production, or some of them will have to close. Figure 3 shows the amount producer surplus will decrease by.

Figure 4: Increase in Consumer Surplus However, the lower price will increase consumer surplus. More consumers would be able to own the good in question and general quality of life of the inhabitants will increase.

Figure 5: Net Societal Gain

The increase in consumer surplus will be larger than the decrease in producer surplus, producing a net societal gain as illustrated in Figure 5. This assumes full employment and that the workers who lose jobs because of the decrease in the amount produced will find jobs in other industries that can better compete internationally, but this model does not take into account the short range transition costs of this upheaval.

APPENDIX III – TRADE DATA Canadian Exports to Individual Countries 2002 Customs Basis; Foreign and Domestic Exports; Millions of Canadian Dollars Country WORLD USA Japan U.K. China Chile Germany Georgia Mexico South Korea Finlad France Belgium Netherlands Italy Australia Taiwan Norway Brazil India Venezuela Thailand

Millions

% of Total

396121 345427

87.20

8398

2.12

4427

1.12

4093

1.03

4093

1.03

2950

0.74

2950

0.74

2412

0.61

1998

0.50

1994

0.50

1994

0.50

1907

0.48

1768

0.45

1472

0.37

1168

0.29

1118

0.28

928

0.23

766

0.19

674

0.17

548

0.14

530

0.13

Source: “Imports and Exports – Canada (I-58). Canadian Almanac & Directory. Annual. Vol 101. 2004.

U.S. Total Exports to Individual Countries 2002 (Census Basis; Foreign and Domestic Exports F.a.s.; Millions of Dollars) Country/Region WORLD Canada Mexico Japan United Kingdom Germany Korea, South China France Taiwan Netherlands Singapore Belgium Australia Hong Kong Brazil Caribbean Malaysia Italy Switzerland Philippines Israel

2002

2002 % of Total

693517

100.00

160,830

23.19

97,531

14.06

51,440

7.42

33,253

4.79

26,628

3.84

22,596

3.26

22,053

3.18

19,019

2.74

18,394

2.65

18,335

2.64

16,221

2.34

13,343

1.92

13,084

1.89

12,612

1.82

12,409

1.79

10,484

1.51

10,348

1.49

10,089

1.45

7,782

1.12

7,270

1.05

7,039

1.01

Includes transshipments carryover and timing adjustments revisions not accounted for elsewhere and round off. NOTE: Data reflect all revisions through Feb. 2003. Because of rounding aggregations may differ slightly from values in other published sources. NA indicates that date do not exist. Sources: U.S. Census Bureauâ&#x20AC;&#x2122;s FT-900 U.S. International Trade in Goods and Services. Annual revisions issues. Last updated March 18, 2003. www.ita.doc.gov/industry/otea/usfth/tabcon.html

Canada. Exports of goods on a balance-of-payments basis. $ Millions CDN Product

2003

Exports Machinery and equipment Automotive products Industrial goods and materials Energy products Other machinery and equipment Passenger autos and chassis Forestry products Agricultural and fishing products Motor vehicle parts Natural gas Other agricultural and fishing products Chemicals, plastics and fertilizers Aircraft and other transportation equipment Crude petroleum Metals and alloys Industrial and agricultural machinery Other industrial goods and materials Other consumer goods Lumber and sawmill products Trucks and other motor vehicles Other energy products Newsprint and other paper and paperboard products Special transactions trade Wood pulp and other wood products Metals and metal ores Wheat

401,187.90 89,238.30 87,941.40 66,587.70 61,271.10 49,217.20 43,557.20 34,502.70 29,320.60 28,202.20 26,582.20 26,492.00 23,301.60 21,151.70 20,694.90 20,291.10 18,869.40 17,218.90 17,124.60 16,473.30 16,182.00 13,994.00 11,712.90 7,261.60 6,316.50 5,776.10 2,828.60

% of Total 22.24 21.92 16.60 15.27 12.27 10.86 8.60 7.31 7.03 6.63 6.60 5.81 5.27 5.16 5.06 4.70 4.29 4.27 4.11 4.03 3.49 2.92 1.81 1.57 1.44 0.71

Source: Statistics Canada, CANSIM, tables 228-0002 and 228-0003. Last modified Feburary 19, 2004. www.statcan.ca/english/Pgdb/gblec04.htm Visited April 4 2004.

U.S. TOTAL EXPORTS, 1998-03 (Census Basis; Foreign and Domestic Export, F.a.s.; Millions of Dollars) Product

2003 % of Total

Total Computer & electronic products Transportation equipment Chemicals Machinery, except electrical Agricultural products Miscellaneous manufactured commodities Manufactured food Special classification provisions, nesoi Electrical equipment, appliances & components Fabricated mater products, nesoi Primary metal mfg Plastics & rubber products Paper Petroleum & coal products Textiles & fabrics Waste and scrap Nonmetallic mineral products Apparel & accessories Printing, publishing and similar products Wood products Minerals & ores Beverages & tobacco products Used or second-hand merchandise Fish, fresh/chilled/frozen & other marine products Leather & allied products Furniture & fixtures Oil & gas Textile mill products Forestry products, nesoi Livestock & liviestock products Goods ret to ca (exp); US goods ret & reimps (imp) Newspapers, books, other printed matter

723,743 149,993 128,854 91,017 74,925 30,359 29,401 27,496 25,002 23,292 20,365 19,125 16,510 14,504 9,659 7,805 6,564 6,405 5,470 4,984 4,036 4,020 3,797 3,441 3,056 2,717 2,546 2,177 2,004 1,515 1,194 1,173 336

20.72 17.80 12.58 10.35 4.19 4.06 3.80 3.45 3.22 2.81 2.64 2.28 2.00 1.33 1.08 0.91 0.88 0.76 0.69 0.56 0.56 0.52 0.48 0.42 0.38 0.35 0.30 0.28 0.21 0.16 0.16 0.05

Note: Unrevised data. Last updated February 19, 2004. Next update Spring 2005. www.export.gov. Visited April 4, 2004. www.ita.doc.gov/td/industry/otea/usfth/aggregate/H03T35.html.

APPENDIX IV – NAFTA JOB LOSS

APPENDIX V â&#x20AC;&#x201C; U.S. PROTECTIONIST TREND Duties as a % of Dutiable Imports 1930-1996 70

D u ties a s a % of D u tia b le Im p o rts

0 1930

1935

1940

1945

1950

1955

1960

1965

1970

1975

1980

1985

1990

1995

Year

Source: US Bureau of the Census, Statistical Abstracts of the United States: 1998, Table No. 1325 Imports for Consumption - Values and Duties:1980-1996; US Bureau of the Census, Statistical Abstract of the United States:1982-1983, Table No. 1493 - Imports for Consumption - Values and Duties: 1950-1981; US Bureau of the Census, Historical Statistics of the United States: Colonial Times to 1970 part 2, Table No. 212 - Value of Merchandise Imports and Duties: 1821-1970.