China - No Legal Impact Of The Proposed USMCA On China And Non-Market Countries.

Legal News & Analysis - Asia Pacific - China - International Trade

6 November, 2018

 

Earlier this month, Canada, Mexico, and the United States agreed to a new free trade agreement – the United States-Mexico-Canada Agreement (USMCA) – that will eventually replace the 1994 North America Free Trade Agreement (NAFTA) if it ever enters into force. The NAFTA's liberalisation of trade between the three partners has helped buoy their economies in the intervening 24 years.

 

The NAFTA established investor-state arbitration under its Chapter 11, which commentators see as having accelerated reliance on arbitration to resolve international investment disputes generally. After identifying how the proposed USMCA might impact investor-state arbitration between these partners, this client alert explores the significance of USMCA's non-market-country provision and how it might impact China's efforts to negotiate free trade agreements and investment protection agreements with Canada and Mexico. Contrary to popular belief, USMCA does not give objecting USMCA parties the ability to impose changes or veto proposed free trade agreements between China and the other USMCA parties.

Executive summary

 

Mixed impact of proposed United States-Mexico-Canada Agreement (USMCA) on international arbitration.
 

  • Negative impact on international arbitration:
    • No more Canada-U.S. and Canada-Mexico investor-state dispute settlement.
    • Requirement for parties in a Mexico-U.S. dispute to go to national courts before starting arbitration, unless the dispute falls within a limited number of covered sectors.
    • Requirement for Mexico-U.S investor-state arbitration to commence within four years of the breach.
    • Limitation of the claim to direct expropriation, certain types of violations of the protections under national treatment and most-favoured-nation provisions, unless the dispute involves a covered sector.
  • Positive impact on international arbitration:
    • Application of the International Bar Association (IBA) Guidelines on Conflicts of Interest in International Arbitration to arbitrators.
    • Clarification of the protections under national treatment and most-favoured-nation provisions, other protections such as fair and equitable treatment and the prohibition of indirect expropriation, and the definition of "investment."
  • No express power in the USMCA to impose changes or veto proposed free trade agreements between USMCA parties and non-market countries.
  • Parallel procedures under the non-market-country provision and the general withdrawal provision.
  • Withdrawal from the USMCA, the only formal option for an objecting party.
  • Clients can expect this non-market-country language not to interfere with China's efforts to negotiate free trade agreements and investment protection agreements with Canada and Mexico.


Mixed impact of proposed USMCA on international arbitration


If the USMCA enters into force, its Chapter 14 will dramatically limit the availability of international arbitration in the following ways:

 

  • No investor-state arbitration will be allowed between Canadian and U.S. parties and Canadian and Mexican parties.
  • Mexican and U.S. parties will have to try resolution through national courts for 30 months before commencing arbitration or have a final decision from the top court, unless the dispute involves a "covered sector" such as certain activities relating to oil and natural gas, power generation, telecommunications, transportation, and infrastructure, in which case the claimant has three years to file a claim.
  • Arbitration between Mexican and U.S. parties must commence within four years of the alleged breach.
  • Claims between Mexican and U.S. parties will be allowed only for direct expropriation, certain types of violations of the protections under national treatment and most-favoured-nation provisions, unless that dispute involves a "covered sector" listed above.

 

Despite these changes, the USMCA allows existing proceedings to continue, and allows proceedings to commence under the NAFTA rules for three years if the investment was made according to Chapter 11 while the NAFTA was still in force.

At the same time, the USMCA also promotes international arbitration by, among other things:

 

  • applying the progressive IBA Guidelines on Conflicts of Interest in International Arbitration to arbitrators, including a prohibition on arbitrators simultaneously acting as counsel/expert/witness in USMCA proceedings;
  • clarifying the protections under national treatment and most-favoured-nation provisions;
  • clarifying the definition of "investment"; and
  • clarifying such protections as fair and equitable treatment, as well as the prohibition of indirect expropriation, for disputes involving a "covered sector." 

 

Few wide-spread standards exist within international arbitration for the principles contained in the last three points listed above. Therefore, it is possible that non-USMCA arbitral tribunals will start to rely on these standards from the USMCA on account of their relative clarity. If this occurs consistently and in a wide-spread manner, it is possible that these standards eventually become customary international law. This would be a positive development for international arbitration because of the increased predictability that would result. At the same time, some might object to the formation of such a custom due to the lack of express consent by non-USMCA parties to this version of these principles.

No express power to impose changes or veto

The proposed USMCA can be seen as threatening to isolate China because one of its provisions (Article 32.10) allows any of the USMCA parties to review proposed free trade agreements between the others and a non-market country. North American countries generally consider China as a non-market country, despite China's assertions to the contrary. In particular, the non-market-country provision potentially could provide an objecting USMCA party the ability to impose alternative language or even veto proposed free trade agreements between China and the other USMCA parties. However, the actual non-market-country language of the USMCA does not provide for such powers. Instead, Article 32.10(1)-(3) merely requires:

 

  • three month notice of the commencement of negotiations between a USMCA party and a non-market country;
  • "as much information as possible" about the negotiation's objectives; and
  • at least 30 days to review the actual text of the proposed free trade agreement before it is signed. The only option for the party objecting to this free trade agreement is six month notice of withdrawal from the USMCA.
     

Parallel withdrawal procedures 

The general withdrawal provision of the USMCA (Article 34.6) provides for a six month written notice requirement. As the only significant measure for an objecting party under the non-market-country provision is also a six month notice requirement, this means that the non-market-country language lacks significant meaning. Instead, the non-market-country language only provides the other USMCA parties the ability to:

 

  • see the draft agreement at least 30-days before signature; and
  • rely on constructive notice of withdrawal, inasmuch as Article 32.10(4) does not require the notice to be in writing, unlike the general withdrawal provision in Article 34.6 that requires the notice to be in writing.

 

While these measures potentially equate to additional influence by the objecting party on the trade negotiations between the USMCA party and the non-market country, this hardly equates to an ability to impose alternative language for the proposed agreement or to veto the proposed agreement, as some news outlets suggest.

Withdrawal from the USMCA, the only formal option 

Assuming for the sake of argument that the non-market-country language of Article 32.10 has China as the target, the striking similarity between the two withdrawal provisions suggests that this non-market-country language represents an empty threat towards China and so-called non-market countries. The main reason is that the non-market-country provision lists no additional measures for the objecting party to take other than complete withdrawal from the USMCA.


China can proceed to negotiate agreements with Canada and Mexico

In sum, this non-market-country language should not deter China and so-called non-market countries from what they are trying to do in terms of developing free trade agreements and investment protection agreements with Canada or Mexico. Canada continues to work towards closer trade relations with China, potentially through a new free trade agreement between the two, notwithstanding the non-market-country language in the USMCA.

 

Such an attitude suggests that Canada shares this alert's interpretation of the USMCA's non-market-country provision. Therefore, clients can reasonably expect that this non-market-country language in the USMCA will in itself not interfere in China's efforts to conclude agreements with Canada and Mexico.

 

 

For further information, please contact:

 

James Kwan, Partner, Hogan Lovells

[email protected]