BACK TO MAIN  |  ONLINE BOOKSTORE  |  HOW TO ORDER

EC for 'fresh start' on investment rules in WTO

by Chakravarthi Raghavan


Geneva, 27 July -- The European Community has proposed the establishment at the World Trade Organization of a multilateral framework of rules governing international investment, and include this issue on the agenda of the new 'millennium round' it wants to see launched at the Seattle Ministerial meeting (30 Nov-3 Dec).

The EC and member states have decided to put a definitive end to the MAI negotiations at the OECD in Paris, and want to "make a completely new start on this at the WTO," Peter Carl, the EC's Deputy Director-General for External Relations at Brussels said Wednesday, at a press conference.

A major difference between the OECD-MAI negotiations, and the proposal for negotiations at the WTO, Carl said, was to confine the WTO negotiations to FDI and exclude anything to do with portfolio investment and other capital flows.

However, many international institutions like UNCTAD, the Bank of International Settlements, as well as financial experts have brought out in a number of reports and studies, that it is not possible -- in the current era of globally inter-linked financial markets, and over-the-counter derivative (OTC) and other financial instruments traded -- to isolate and distinguish between FDI and other forms of capital and financial flows.

For e.g., in its Economic Bulletin No. 1 of 1999, the UN Economic Commission for Europe, has pointed out that the distinctions between short- and long-term investment becomes increasingly less significant with capital account convertibility as access to modern derivatives markets can be used to reduce the differences in liquidity between different assets.

Carl conceded this problem about distinguishing between FDI and other forms of capital, but argued that it was possible to draw such a distinction in a WTO agreement.

The EC also wanted only post-establishment national treatment (and not pre-establishment rights) for FDI, and to give full right to the countries to regulate and control activities of their investors in line with their national policy objectives.

The EC, Carl said, was also having substantive dialogue with EC civil society and NGOs based in Europe, had examined their objections (in relation to the MAI) and believed a way forward could be found taking into account the concerns of civil society.

FDI - an engine of growth?

THE EC's paper and the claims about the benefits of FDI to developing countries come at a time when many of these have come under challenge from several economists and institutions.

This neo-liberal ideological view gained currency in the late 1980s and the 1990s and became part of the 'mainstream' policy framework of the Washington Consensus, and a dogma thrust on developing countries and the transition economies: that FDI liberalisation produces growth and development, that FDI is non-debt-creating, that FDI (along with enhanced intellectual property rights protection) results in transfer of technology with benefits to the host country, and that FDI and the competition and efficiency that it brings creates welfare gains.

There have been several well-researched studies and reports which present serious challenges to this view of FDI.

The ECE, in its bulletin in May, in an overview focusing on both trade liberalisation and liberalisation of international capital markets, has pointed out that 'many of the policies recommended by 'mainstream' consensus have come dangerously close to being dogmas based on oversimplified models and incomplete evidence. The certainty with which they are proposed and pursued is not reflected in available empirical evidence.'

In a recently published policy paper, 'Making Openness Work', Prof Dani Rodrik has pointed out that there is no empirical evidence that FDI is an engine of growth, and it is misleading and possibly dangerous to ask developing countries to run after FDI.

UNCTAD, in its annual Trade and Development Report due to be published in September, is focusing on external resources for development and, in that context, on a range of trade and investment issues. The report and its analysis would be available well in time for the trade negotiators in their pre-Seattle negotiations.

At a July seminar in New York's Columbia University, UNCTAD Secretary-General Rubens Ricupero said that while developing countries seek 'more greenfield investments' - and not mergers and acquisitions that lead to asset stripping and unemployment - beside access to technology, finance and management skills, they need more flexibility in dealing with FDI.

FDI, Ricupero said, is a complex phenomenon and 'it is impossible to foresee what policies will be needed to deal with its consequences, positive or negative, in future.'

At the same seminar, a free-trade economist, Prof Arvind Panagariya of the University of Maryland, challenged the view that investment and trade could be treated similarly and said: 'in trade you gain access to my market and I to yours. In investment, there are source and host countries, which will derive different rates of benefits from having international investment rules.'

Even the statistical correlations between FDI growth and economic growth have been questioned. In an opinion column in ECLAC Notes, the Officer-in-charge of the UN regional body's investment and corporate strategies, Michael Mortimore, has pointed out that FDI inflows into Latin America in the 1990s were 13 times higher than in the 1970s, but the average growth in the 1990s was 50% lower.

This he attributes to the fact that FDI did not lead to gross fixed capital formation but to transfer of existing assets, and the funds obtained by regional governments through privatisation went to finance the balance-of-payments gap. FDI, according to Mortimore, has made only a modest contribution to industrial development, and export models based on natural resources or industrial commodities derived from them have only reproduced existing enclave schemes.

UNCTAD, in the late 1980s, and in the reports and documents for its Ninth Conference at Midrand, has been suggesting that FDI is a non-debt-creating instrument, and that if there is no profit there is no outgo from the country.

Apart from arguments and questions about 'transfer pricing' (and in the WTO context, the inevitable outgo if the enterprise has the right to bring in any input and source them anywhere), even the talk of FDI being non-debt-creating and thus more stable, appears to be misleading.

Most FDI data cited or used are derived from the IMF balance-of-payments data.

And the IMF's staff report on Poland (in April 1999) has drawn pointed attention to this problem of data.

'In using balance of payments data for FDI,' the IMF staff report notes, it is important to recognise that these data, according to the IMF's definition, include three categories: equity capital (which corresponds roughly with new investment), reinvested earnings (earnings of an overseas affiliate are regarded as exports of a service by the home country, and that which is retained in the host country is treated as a capital inflow) and intra-company debt flows. Thus FDI data may well overstate the amount of 'stable' equity investment. Data are not usually available on the maturity of intra-company loans - and in Poland there are no restrictions on short-term loans of this nature.

The IMF report shows that as FDI rose so did the loans, with the ratio of loans to FDI increasing from 7% in 1991 to 13.4% in 1992 and 23.7% in 1993, coming down to 21.1% in 1994 and to 18.2% in 1995, and then rising again to 24.4% in 1996 and 36% in 1997.

The IMF report makes the point that Poland's external debt stock would be higher by more than 10% if the stock of FDI-associated credits were included.

And while intra-company loans and debts may be of the private sector (and thus not considered a state liability), the recent experiences of the Asian crisis show that the rating agencies' country-ratings take account of these private sector debt exposures, and to that extent the risk margin (on both private and public borrowing) varies from country to country, and there is a hidden cost for the country. - C Raghavan

Asked about the number of recent studies and reports from eminent economists and institutions (Prof Dani Rodrik at Harvard, Edward Mortimore at ECLAC, and economists at the UN's Economic Commission for Europe) to the effect that there is "no empirical evidence" that FDI or FDI liberalisation produced growth and development in developing countries, Carl dismissed them as "writings of economists in air-conditioned offices", and that developing countries wanted FDI.

The response seemed to imply that if developing countries wanted FDI it must be beneficial and hence the raison d'etre for writing rules on them at the WTO.

The EC proposal, put to the WTO's General Council in its Seattle preparatory process, is a somewhat scaled down version of its original ideas (at Marrakesh, Singapore and Geneva Ministerial meetings) to bring investment on the agenda of the new 'millennium round' of trade negotiations.

Though more modest than the proposal advanced with some fan fare by EC Trade Commissioner Leon Brittan at the Singapore and Geneva ministerial conferences of the WTO, the proposal is cleverly worded to get investment issue into the WTO, and then expand its scope later.

Japan has already made a similar proposal at the General Council in February. At Punta del Este itself, Japan had sought under the 'trade-related investment rubric', far reaching disciplines in the trading system, to enhance rights of investors and restricting the rights of governments to regulate investments.

It has now come back with its proposal for 'Trade and Investment'.

Since Punta del Este and the WTO, all the industrial countries have abandoned the 'fig-leaf' of bringing up at the WTO new issues by claiming they are 'trade-related'. They now call them 'Trade and..'

The Japanese paper has spoken of investment being a major tool for corporate business strategy, with the pace of its flow spreading as "globalization of economies" proceed; of investment assuming a greater role in the world economy; of FDI, in particular, ensuring stable long-term capital flows and enhancing transfer of technology and contributing to economic development of both home and host countries.

The United States in the run-up to Punta del Este and Uruguay Round - saw the TRIPS, Trade in Services and Trade-related investment as substitutable and inter-linked, to enable its corporations to achieve under one guise or another entry into and control over the economies of developing countries. After the WTO and the outcome in GATS (of a bottoms-up approach of 'positive' commitments, subject to qualifications), it turned its focus to the OECD to achieve a "high-quality" investment accord.

After the collapse of the OECD talks, and clear indications that talks at WTO would focus NGO opposition on to the trading system (and the Seattle meet itself), the US and its Treasury appears now to be turning again to the International Monetary Fund and its proposals for capital convertibility.

A posting on the internet by one of the NGOs actively involved in the anti-MAI campaign, has cited a well-known economist as telling a recent Washington seminar about his conversations with the Treasury officials, to the effect that the US was moving "full court press" for Capital Account liberalization at the IMF/World Bank annual meetings this year (Sep 24-29), and that the US will push for an amendment of the IMF articles to give the IMF legal authority to police restrictions against capital controls!

The proposals of the EC and Japan for investment talks and rules at the WTO, and as part of the millennium round have to be seen against this background.

The EC proposals and views while presented in loose formulations that would confuse others, makes clear it is seeking transparency, non-discrimination, and national treatment between domestic and foreign investors -- principles whose soundness even in the area of trade in goods is now coming under renewed challenge, but appears to have no theoretical or policy justification.

In its paper, which is expected to be taken up for discussion at the General Council this week, the EC has explained that the reason it wants the issue in the WTO is the 'undeniable advantage' the WTO has in terms of its Dispute Settlement Understanding (with its enforcement powers and the provisions for cross-retaliation) and the basic non-discrimination principles.

The EC suggests that the time has come for WTO to establish a multilateral framework of rules governing international investment to secure a stable and predictable climate for FDI world-wide.

The WTO framework should focus exclusively on FDI, says the EC, while acknowledging the difficulty of precise distinctions between short-term capital movements and FDI.

The EC also argues that the WTO framework should preserve the ability of host countries to regulate activity of investors, whether foreign or domestic, on their territory, taking into account concerns of civil society, including about investors' responsibilities, and that even investment protection rules may need to be rethought so as to preserve ability of host countries to regulate, "in accordance with basic WTO principles, the exercise of economic activity on their territory".

While thus seemingly conceding the right of countries to regulate investors, the EC reference to basic WTO principles, combined with the call for national treatment and non-discrimination, would suggest that host countries could regulate foreign investors only to the same extent as they do domestic investors.

Whatever validity this may have in relations among industrial countries, the experience of the decade of the 80s and the 90s, shows that industrialization of developing countries and capital accumulation within these countries requires discriminatory treatment as between domestic and foreign enterprises.

The EC makes clear that for its member states, "non- discrimination is the linchpin of an open and efficient investment regime."

The EC paper is also silent on the 'responsibilities' and obligations of home countries, if WTO rules are to be written, over the activities of their investors.

In fact there is growing support among developing country trade experts and economists for the view that while trade liberalization, and tariff reductions, as a general proposition may be useful to promote 'efficiency' and competition, for developing countries to industrialize and create employment and increased earnings, some of the GATT rules, concepts and principles may need to be revised, at least in their application to developing countries.

Even some of the old trade theories of comparative advantage and international division of labour in the presence of movement of goods and immobility of factors of production, need to be re- thought in the era of 'globalization' where there is no state at world level to adopt counter-vailing actions to redistribute benefits.

The GATT principles of tariff and market opening commitments, and theories of 'legitimate expectations' of trade partners when concessions are exchanged and bound, and 'compensating' trade partners to raise tariffs, even temporarily, to provide protection, under multilateral disciplines, for new industries, may need some rethinking and changes in the GATT/WTO rules.

Otherwise, developing countries would find themselves locked perpetually into the lower end of international division of labour, as hewers of wood and drawers of water for the rich countries and their capital, and unable to break out of increasing marginalization of countries and peoples.

Even a GATS type commitment would result in freezing the developing world into the lower end of international division of  labour; or payment of compensation beyond their means if they rethink their policies and plan changes.

The EC paper also wants investment protection to be provided through the WTO rules, but agrees further reflection is needed on this, since "in some cases they have been subject to unexpected and controversial interpretations" -- presumably a reference to the NAFTA experience of investors suing governments on the basis that their policies have resulted in losses or lost income for the corporations.

The EC seemingly concedes that the WTO investment rules should enable host countries to regulate investors, but "in accordance with basic WTO principles" - vague terms which panels are using to extend WTO jurisdiction to curb State actions of members.

The EC's paper and the claims about the benefits of FDI to developing countries comes at a time when many of these have come under challenge from several economists and institutions.

This neo-liberal ideological view gained currency in the late 1980s and 1990s and became part of the 'mainstream' policy framework of the Washington Consensus, and a dogma thrust on developing countries and the transition economies: that FDI liberalization produces growth and development, that FDI is non- debt creating, that FDI (along with enhanced IPR protection) results in transfer of technology with benefits to the host country, and FDI and the competition and efficiency that it brings creates welfare gains.

There have been several well-researched studies and reports giving serious challenges to this view of FDI.

The UN Economic Commission for Europe, in its bulletin in May, in an overview focusing on both trade liberalization and liberalization of international capital markets, has pointed out that "many of the policies recommended by 'mainstream' consensus have come dangerously close to being dogmas based on oversimplified models and incomplete evidence. The certainty with which they are proposed and pursued is not reflected in available empirical evidence."

In a recently published policy paper, 'Making Openness Work', Prof Dani Rodrik (at Harvard University) has pointed out that there is no empirical evidence that FDI is an engine of growth, and it is misleading and possibly dangerous to ask developing countries to run after FDI.

The UN Conference on Trade and Development, in its annual Trade and Development Report due to be published in September, is focusing on external resources for development and in that context on a range of trade and investment issues. The report and its analysis would be available well in time for the trade negotiators in their pre-Seattle negotiations.

At a seminar in New York Colombia University last week, UNCTAD Secretary-General Rubens Ricupero, said that while developing countries seek 'more greenfield investments', and not mergers and acquisitions that lead to asset stripping and unemployment, as well as access to technology, finance and management skills, they need more flexibility in dealing with FDI.

FDI, Ricupero said, is a complex phenomenon and "it is impossible to foresee what policies will be needed to deal with its consequences, positive or negative, in future."

This view suggests that even a so-called positive-list GATS approach of commitments on FDI at the WTO would reduce the flexibility for developing countries.

At the same seminar, a free-trade economist, Prof Arvind Panagariya of the University of Maryland, challenged the view that investment and trade could be treated similarly and said: "in trade you gain access to my market and I to yours. In investment, there are source and host countries, which will derive different rates of benefits from having international investment rules."

Even the statistical correlations between FDI growth and economic growth have been questioned. In an opinion column in the ECLAC Notes, the Officer-in-charge of the UN regional body's investment and corporate strategies, Michael Mortimore, has pointed out that FDI inflows into the region in 1990s was thirteen times higher than in the 1970s, but the average growth in the 1990s was 50% lower.

This, he attributes to the fact that FDI did not lead to gross fixed capital formation, but to transfer of existing assets, and the funds obtained by regional governments through privatization went to finance balance-of-payments gap. And FDI, according to Mortimore, has made only a modest contribution to industrial development, and export models based on natural resources or industrial commodities derived from them has only reproduced existing enclave schemes.

UNCTAD in the late 1980s, and in the reports and documents for the Ninth Conference at Midrand, has been suggesting that FDI is a non-debt creating instrument, and that if there is no profit there is no outgo from the country.

Apart from the arguments and questions about 'transfer pricing' (and in the WTO context, the inevitable outgo if the enterprise has the right to bring in any input and source them anywhere), even the talk of FDI being non-debt creating and thus more stable, appears to be misleading.

Most FDI data cited or used are derived from the IMF balance-of- payments data.

And the IMF's staff report on Poland (in April 1999) has drawn pointed attention to this problem of data.

"In using balance of payments data for FDI," the IMF staff report notes, "it is important to recognize that these data, according to IMF's definition, include three categories: equity capital (which corresponds roughly with new investment), reinvested earnings (earnings of an overseas affiliate are regarded as exports of a service by the home country, and that which is retained in the host country is treated as a capital inflow), and intra-company debt flows. Thus FDI data may well overstate the amount of "stable" equity investment. Data are not usually available on the maturity of intra-company loans - and in Poland there are no restrictions on short-term loans of this nature.

The IMF report shows that as FDI rose so did the loans, with the ratio of loans to FDI increasing from 7 percent in 1991, to 13.4 in 1992, to 23.7 in 1993, came down to 21.1 in 1994 and to 18.2 in 1995, and then rising again to 24.4 in 1996 and 36 percent in 1997.

The IMF report makes the point that Poland's external debt stock would be higher by more than 10 percent if the stock of FDI- associated credits were included.

And while intra-company loans and debts may be of the private sector (and thus considered not a state liability), the recent experiences of the Asian crisis show that the rating agencies country-ratings take account of these private sector debt exposures, and to that extent the risk margin (both on private and public borrowing) vary from country to country, and to that extent there is a hidden cost for the country. (SUNS4487)

The above article first appeared in the South-North Development Monitor (SUNS) of which Chakravarthi Raghavan is the Chief Editor.

[c] 1999, SUNS - All rights reserved. May not be reproduced, reprinted or posted to any system or service without specific permission from SUNS. This limitation includes incorporation into a database, distribution via Usenet News, bulletin board systems, mailing lists, print media or broadcast. For information about reproduction or multi-user subscriptions please contact < suns@igc.org >

 


BACK TO MAIN  |  ONLINE BOOKSTORE  |  HOW TO ORDER