In establishing a rule-based regime for regional trade, the North American Free Trade Agreement’s (NAFTA’s) principal objectives are to provide for nondiscrimination in and access to markets, and predictability in competitive relationships. Environmental rights arise as a wild card, disrupting some of the predictability sought by NAFTA. For NAFTA tribunals, reaching a conclusion regarding environmental rights currently involves balancing values: upholding regional trade benefits while also respecting local values on the quality of the environment and health. The provisions on the environment and health were unassumingly stuffed into the Agreement. Now, this stuffing needs to somehow function without the main course of trade overwhelming it. Can NAFTA overcome existing imbalances and ambiguities?

While public opinion was one of the very reasons for including environmental provisions within NAFTA, its tribunals operate behind closed doors and, in effect, skirt public accountability. Shortchanging public welfare legislation, NAFTA for now goes unchecked, especially in the function of its Chapter 11 investor-state dispute mechanism. Thus, Chapter 11 warrants particular attention.

The Staging of NAFTA – Patchwork Environmental Provisions and Accountability at Will When NAFTA negotiations re-opened in the Spring of 1993, the Uruguay Round of the General Agreement on Tariffs and Trade (GATT) was warming the global climate for trade integration, with its influence concretely manifested through the wholesale integration into NAFTA of many of the GATT 1994 provisions.[1] As the NAFTA negotiators assumed their roles, the recent political and economic performances of their counterparts drew attention.

Yet, to use a cliché, black-and-white terms rarely capture the nuances of real life politics and social agendas. Mexico was caste as the «potential offender» by representatives of both the environment and industry. The U.S. and Canadian governments assured environmental protestors that safeguards would prevent NAFTA from eroding ecological security to serve economic mobility. Meanwhile, multinational corporations complained about competitive disadvantages if NAFTA forced them to operate in the North under stricter environmental and labor standards than those in effect for their rivals in Mexico.

Given the public-private dichotomy and dueling environmental and industrial interests, NAFTA never resolutely defines where the burden falls in claims of infringement on environmental or trade rights. The answer seems evident though by looking at how the balance has played out in the WTO in interpreting its chief environmental provision, Article XX, which was incorporated into NAFTA by Article 2101.[2] In the infamous Shrimp-Turtle II decision, the WTO qualified the right to environmental protection in the context of trade obligations as «a limited and conditional exception from the substantive obligations contained in the other provisions of the GATT 1994.»[3]

Chapter 11 – Granting Industry Independent Standing

The Context

To supplant this state-oriented legal order, NAFTA negotiators scripted Chapter 11, which, significantly, shifts authority from states to individual investors. Under Chapter 11, a private actor investing in a NAFTA country has standing before a NAFTA tribunal under UNCITRAL rules to seek restitution from that host country if it «expropriates» the actor’s investment by enacting a law that obstructs trade. In international law, only Chapter 11 extends rights to individual investors regardless of their representative government’s policy on the issue. In its text, a few environmental allowances are awkwardly pieced into the overall construct establishing precautions for investment. Given the wording of the rest of the chapter, these environmental measures are attributed little weight by the tribunals. In the end, Chapter 11’s provisions roughly combine into a commercial framework that lumbers along like Mary Shelley’s monster – a creation that may function on its own but fails to reconcile its antithetic components regarding the environment and investment. As businesses file claims, environmentalists warily proclaim: «It’s alive.»

Chapter 11 – As Interpreted by NAFTA Tribunals

NAFTA and WTO decisions scrupulously look to «the ordinary meaning of the words of a treaty, read in their context, and in the light of the object and purpose of the treaty involved,» as required by the Vienna Convention.[4] Article 1105 of NAFTA requires the «fair and equitable treatment» by governments toward the investment of an investor. What is the ordinary meaning of «fair and equitable»? The Pope & Talbot v. United States ruling found that such treatment entails looking beyond international minimums. Yet, the analysis in the Metalclad v. Mexico appellate and S.D. Meyers v. Canada decisions sharply disagree with Pope.[5] Embracing an opportunity-only-knocks-once philosophy, Justice Tysoe complained in Metalclad II that it is the word «including,» not «plus,» that modifies fair and equitable treatment and that, in their negotiations, the NAFTA parties had rejected the «‘additive’ character of bilateral investment treaties.»[6]

Article 1110(1) states that: «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» and lists a few exceptions, including «for a public purpose» and «on payment of compensation.»[7] The imprecise terms «expropriate» and «tantamount to an expropriation» fuel this article and, depending on how one identifies property rights, may potentially drive states to compensate individual, publicly unaccountable companies for enacting legitimate regulatory measures that hurt those companies’ profits as a type of «creeping» expropriation.[8]

The case history on Chapter 11 is sparse. The recent decision, however, in Metalclad v. Mexico clearly demonstrates Chapter 11’s inability to give depth to its shallow recital of the need for environmental safeguards [9] – that is, to isolate an overarching principle consistent with Aristotle’s «developed knowledge.» Mexico officially filed in October 2000 for the first statutory review of a NAFTA Chapter 11 ruling.[10]

Metalclad is a hazardous-waste disposal company that accused Mexico of expropriating its hazardous-waste landfill located in the small town of Guadalcazar, Mexico. After conducting an environmental impact assessment, Mexican authorities found that the facility was perched on underground streams and its opening would threaten not only water quality, but also public health. As a result, Mexican Governor Horacio Sanchez outlawed the opening of the landfill. In this case regarding hazardous waste, the tribunal focused predominantly on the need for transparency in governmental actions, expansion and equality of investment opportunities, reliable access to markets, and straightforward investment rules,[11] while ignoring issues of sustainable development and the government’s duty to promote environmental welfare.

In May 2001, the appellate court upheld the Metalclad tribunal’s general findings, while criticizing its impromptu emphasis on the transparency of Mexican law. While the tribunal decision posed problems for governments wanting to change laws, the appellate decision is even more sweeping in that it ultimately denies that providing fair warning to the public of an environmental regulation can lessen a government’s responsibility to an investor.

In 1997, the Ethyl Corporation, a privately held U.S. corporation, was the first business to look to Chapter 11 for redress. Canada was in the process of banning a cancer-causing gasoline additive that the Ethyl Corporation was supplying to the Canadian market.[12] To avoid bringing the claim before a NAFTA tribunal, the Canadian government blinked and settled with Ethyl for $13 million.[13]

In Metalclad, the tribunal endorsed Ethyl’s outcome, explicitly stating that expropriation could even include a «covert or incidental use of property.»[14] Reinforcing the effect of an uncurbed entitlement for corporations, the tribunal saw the state’s «motivation or intent [in] adopt[ing]» its measure as irrelevant.[15] In its decision, the tribunal accordingly ignored the public health concerns of Mexican Governor Horacio Sanchez as to the safety of a hazardous waste landfill.[16] The same standard was applied to Canada, after it responded to concerns about the health risks posed by the cross-country shipment of polychlorinated biphenyls («PCBs»), a dangerous, toxic chemical, for recycling or disposal in the U.S. When Canada banned the export of the chemical, S.D. Meyers, a privately held U.S. company, protested against its lost profits.[17] Assessing the company’s rights under Chapter 11, the NAFTA tribunal unanimously agreed, indicating that Canada violated its national treatment[18] obligations and minimum standard treatment obligations under international law.[19] Such an expansive reading of expropriation, isolating analysis to a law’s impact on earnings, uproots any viable environmental measure.

NAFTA tribunals consistently interpret «investor» broadly. They also pair the terms «investor» and «commercial relationship,»[20] stacking the deck against a government that attempts to isolate regulatory actions from coverage under NAFTA’s investment chapter.[21] Even if the growing volume of rulings technically sets no binding precedent, later panels are unlikely to disregard such a pattern, especially in light of NAFTA’s aim to encourage predictable markets.

The risks of granting private actors the right to essentially veto public welfare legislation are considerable, since private actors are neither elected nor subject to the same types of political constraints as are states. The U.S. often relies on market mechanisms to force polluters to factor environmental harms into the expense of their operations – in other words, to internalize the cost of polluting. Chapter 11 could have a chilling effect on new and roll back old legislation designed to make «the polluter pay.»

The U.S.’s Clean Air Act (CAA) is a good example of legislation that functions through economic incentives. Under the CAA, a business must buy «credits» to emit a specified number of tons of an air pollutant such as sulfur dioxide. The number of credits that each factory may purchase from the state for emissions is limited by the ambient air quality standard sought by the government. Often, each factory’s allotment of credits is insufficient to meet the output goals of that factory given its level of technology. To avoid scaling back production, the factory director must decide whether to install new technology to decrease pollution levels, pay fines for exceeding the factory’s pollution allowance, or to purchase additional pollution credits from other polluting factories. While the regional cap fixes air quality standards, how much each individual factory pollutes remains somewhat flexible as credits are traded. Of course, the fine or potential of a fine may affect both the operating practices and profits of a factory. The market incentives are meant to provide obstacles to pollution – to make factories recognize the cost of polluting the air in budgetary terms.

Most individuals see the CAA as imposing a reasonable financial burden on factories given the health risks associated with poor air quality. Strictly construing the passages of NAFTA on expropriation, however, some NAFTA interpreters argue that the Chapter 11 obligation to compensate a business is unrelated to whether the environmental regulation is reasonable. They maintain that a country must compensate a business for the amount of an injury whenever a regulation hurts profits. Although the issue is unresolved, the potential problems for the CAA and other similar legislation is clear.

[1] For example, NAFTA Parties are directed to comply with GATT 1994’s key provisions on National Treatment (Article III), Quotas (Article XI), and Public Welfare Exceptions (Article XX) to trade. See The North American Free Trade Agreement, Date, U.S.-Can.-Mex., I.L.M. (1994) [hereinafter NAFTA]; See also General Agreement on Tariffs and Trade 1994, April 15, 1994, 33 I.L.M. 29 (1994) [hereinafter «GATT 1994»].

[2] NAFTA, supra 1, art. 2101.

[3] United States Import Prohibition of Certain Shrimp and Shrimp Products, WT/DS58/AB/R, para. 157 (adopted Oct. 12, 1998) [hereinafter “Shrimp-Turtle II”].

[4] Vienna Convention on the Law of Treaties, Art. 31, May 23, 1969, 1155 UNTS 331, reprinted in 8 I.L.M. 69 (1969) (entered into force Jan. 27, 1980); See also Japan Taxes on Alcoholic Beverages, WT/DS11/AB/R (adopted Oct. 4, 1996) and Shrimp-Turtle II, supra note 2.

[5] See S.D. Meyers v. Canada, Partial Award, para. 262 (Nov. 13, 2000) (“The phrases… “fair and equitable treatment”… and “full protection and security” cannot be read in isolation. They must be read in conjunction with the introductory phrase “treatment in accordance with international law.”); See also Metalclad v. Mexico, Reasons for Judgment of the Honorable Mr. Justice Tysoe, paras. 64-65 (May 2, 2001) <http://www.dfait-maeci.gc.ca/tna-nac/nafta-e.asp> [hereinafter “Metalclad II”].

[6]Id.

[7] NAFTA, supra note 1, art. 1101(1).

[8] Kevin Banks, NAFTA’s Article 1110 – Can Regulation be Expropriation? 5 L. & BUS. REV. AM. 499, 501 (1999).

[9] Metalclad v. Mexico, Award (Aug. 2000).

[10] Mexico Set to Challenge NAFTA Ruling in Favor of U.S. Waste Management Firm, 24 INT’L ENV’T REP. BNA 161 (Feb. 28, 2001). On February 8, 2001, Canada also appealed the Chapter 11 ruling for S.D. Meyers v. Canada, Partial Award (Nov. 13, 2000) (Visited May 20, 2001) <http://webapps.dfait-maeci.gc.ca/minpub/Publication.asp?FileSpec=/Min_Pub_Docs/103908.html>.

[11] Id., paras. 70-75.

[12] See Ethyl Corp. v. Canada, Statement of Claim (Nov. 27, 1997).

[13] See Appleton & Associates, NAFTA Cases: Ethyl Corporation, (Visited May 6, 2001) <http://www.appletonlaw.com/4b1ethyl.htm>.

[14] Metalclad, supra note 8, para. 110.

[15] Id, para. 111.

[16] See David R. Adair, Comment: Investors’ Rights: The Evolutionary Process of Investment Treaties, 6 TULSA J. COMP. & INT’L. 195 (Spring 1999).

[17] S.D. Meyers, supra note 4.

[18] National treatment means treating equally the products or services of local and foreign businesses within the country.

[19] S.D. Meyers, supra note 4.

[20] The UNCITRAL report indicates that the term “commercial” should broadly “cover matters arising from all relationships of a commercial nature.” See Carter v. McLaughlin 27 O.R. (3d) 792 (1996). The Metalclad arbitral court additionally found that Clause (p) of s.1(6) of the International CAA “requires that the phrase ‘a relationship of a commercial nature’ be interpreted to include a relationship of investing.” Metalclad II, supra note 17, para. 44.

[21] Id., para. 46.