Korea FTA Needs Some Fixin'
When does Wall Street get capped?

Elena Kagan v. Korea FTA, or, Why Ditching Holmes Domestically is Easier than Ditching W. Internationally

Elena Kagan indicated a broad deference to the political branches of government in her confirmation hearings yesterday. According to Adam Liptak of the NYT:

Asked on Wednesday by Senator Orrin G. Hatch, Republican of Utah, why, in her role as solicitor general, she had made an aggressive argument in defending a federal statute outlawing the sale of dogfighting videos, Ms. Kagan said poor legislative craftsmanship had left her little choice.

“I hesitate to criticize Congress’s work,” she said, “but it was a statute that was not drafted with the kind of precision that made it easy to defend from a First Amendment challenge.”

Ms. Kagan aligned herself with Justice Oliver Wendell Holmes Jr., who held his nose in the early years of the last century while voting to uphold statutes he thought were foolish.

Justice Holmes, Ms. Kagan said, “hated a lot of the legislation that was being enacted during those years, but insisted that if the people wanted it, it was their right to go hang themselves.”

In his memorable dissent in Lochner v. New York, a 1905 decision that struck down a New York work-hours law, Justice Holmes wrote that the Supreme Court should work hard to stay out of the way where economic legislation is concerned.

“A constitution is not intended to embody a particular economic theory,” he wrote. “It is made for people of fundamentally differing views, and the accident of our finding certain opinions natural and familiar, or novel, and even shocking, ought not to conclude our judgment upon the question whether statutes embodying them conflict with the Constitution of the United States.”

That is essentially the answer Ms. Kagan gave, in a kind of confirmation jujitsu, to questions from senators of both parties eager to see their views made into law by the courts rather than Congress.

As it happens, this kind of deference to elected officials is exactly what is missing from the pro-corporate investment rules in the Korea FTA, which President Obama committed to move over the weekend.

Here's what investment lawyer Mark Kantor wrote in 2006 about the investment standards in current U.S. trade and investment pacts:

...review by an investment treaty tribunal of an F&ET [fair and equitable treatment] claim about regulatory conduct injuring a foreign investor may not necessarily offer the same high level of deference to State action that is found in today's "arbitrary or irrational" U.S. substantive due process standard. For example, arbitral awards employing "stable framework for investment" or "basic expectations of the investor" interpretive tools may be in some cases less deferential towards State regulatory conduct, although the recent NAFTA awards in Methanex and Thunderbird as quoted above expressly set a high standard of deference to a State's regulatory conduct.

[Ed. note: while there have been some less objectionable recent rulings in certain NAFTA cases, none of this is binding precedent. Now, back to Kantor...]

Most importantly, though, unlike U.S. Constitutional practice with respect to Due Process claims, there is today no commonly accepted methodology for testing F&ET claims under investment treaties. Even the scope of covered conduct remains subject to dispute, as the differences described above towards non-adjudicatory conduct, transparency and discriminatory decision-making attest. Moreover, the U.S. "arbitrary and irrational" standard for testing compliance with substantive due process requirements is based upon widespread judicial respect for the integrity of the legislative and administrative branches of democratic government in America. Is the deference found in U.S. jurisprudence always warranted in an international context, particularly if the respondent State has a track record of erratic, discriminatory, corrupt or unaccountable conduct?

Kantor has elsewhere invoked the specter of capital controls as part of the argument for non-deference to national governments, and written that:

Public Citizen appears to believe that "it is irresponsible policymaking to outsource these considerations to foreign dispute and arbitral tribunals." Whatever one thinks of the reliability of the governments of the U.S., the U.K. and EU members or of the EU itself, is it also irresponsible to do so when the country in question is Venezuela, Bolivia, Ecuador, Zimbabwe or Belize? China? Russia?

In other words, (leaving aside the non-democracies on this list) a departure from the principles of democratic self-government are justified if we dislike the democracy enough. While anyone who believes in national self-determination would probably object to this premise on its face, the problem is that these agreements (unlike the unequal treaties of the "good ol' days" that arguably gave rise of the Chinese Communist Party) GO BOTH WAYS and apply also to the United States. The U.S. Supreme Court (and thankfully nominee Elena Kagan) may have a practice of deference, but that practice is not binding on international arbitrators.

All of these considerations come to a head with the Korea FTA - which has some of the deepest and most pro-corporate and pro-Wall Street rules on financial services and investment of any U.S. pact. And, unlike pacts with, say, Guatemala, there are a whopping number of Korean investors in the U.S. market with any number of potential regulatory disputes with local, state and national government who would stand to benefit from this new, non-deference to U.S. laws and legal practice.

As our friend Jeff Vogt at the AFL-CIO wrote last year in detailed comments on the Korea FTA:

As with the investment chapters of previous free trade agreements, we remain deeply concerned by this agreement’s rules on expropriation, its broad definition of what constitutes an investment and the vague and open-endedness of the fair and equitable treatment standard. In addition, the agreement’s deeply flawed investor-to-state dispute resolution mechanism contains none of the controls, such as exhaustion requirements, a standing appellate mechanism or a diplomatic screen, that could limit abuse of this private right of action.  While some progress has been made since NAFTA, they are by no means sufficient. Further, the KORUS FTA succeeds in giving us new causes for concern due to new and unprecedented language and the expansion of the scope of property. 

The AFL-CIO goes on to write that the Korea FTA, unlike previous FTAs (even those negotiated by Bush), creates expectations that industries that are currently less regulated might reasonably expect to continue to be lightly regulated; and that investors shouldn't be asked to make a "special sacrifice" for the public interest. Moreover:

...the negotiators here created new tests for indirect expropriation unknown to U.S. or international law.  The KORUS FTA provides that indirect expropriation will have occurred if a government action is “extremely severe” or “disproportionate in light of its purpose or effect.” Arbitrators, interpreting these vague new terms, could strike down any number of laws intended to protect public health, safety, the environment, etc., if they find that congress somehow erred in striking the proper balance between public and private interests.  As such, this provision could afford foreign investors greater rights than U.S. investors, as U.S. law does not recognize a taking solely on the basis of the measure’s proportionality.

The AFL-CIO also notes that the FTA contains a "first of its kind confirming letter on property rights", which

...states that the term “tangible or intangible property right” in paragraph 1 of Annex 11-B (Expropriation) shall include “rights under contract and all other property rights in an investment.”  Never before in a bilateral trade or investment agreement have all contract rights been deemed property rights and thus eligible to be investments subject to arbitration.  Although many contracts are already covered under the definition of investment, there is no reason to further expand the already broad reach of arbitral tribunals and remove all contract disputes involving foreign investors and the United States from the U.S. judicial system.

So, while America can take comfort that nominee Kagan gets the "democracy thing," the Korea FTA certainly does not.

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Postscript: To underline how mutable our domestic democratic and legal practices are, Justice Holmes is cited as hero by commentators like Kagan because of his deference to legislators in the Lochner v. New York case in 1905. However, years later, in the Pennsylvania Coal Co. v. McMahon case in 1922, Holmes would state "if regulation goes too far it will be recognized as a taking" - casting a dangerous and confusing precedent to those who favor public interest regulations.

In the domestic context, we can wrestle with and reject these precedents. In the international context, the text of deregulation-promoting agreements is frozen until amended, which is tough and wrapped up in foreign policy prerogatives. This effectively means that non-deferential rules have a way of lasting for a long time. That is why, especially in the international context, it makes sense to get pro-democracy provisions in the text of the Korea agreement in the first place.

Luckily, Obama has a chance to get this right, as Rep. Mike Michaud (D-Maine) said this week:

"I look forward to working with the President to make sure that the final Korea agreement is changed in a way that will garner broad bipartisan support and represent a true 21st century agreement that benefits American citizens and corporations alike," he said.
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