Shifting tides in Canada’s approach to investor-state dispute settlement

June 2021  |  SPECIAL REPORT: INTERNATIONAL DISPUTE RESOLUTION

Financier Worldwide Magazine

June 2021 Issue

In recent years, Canada has entered into a number of comprehensive free trade agreements, each featuring highly diverging approaches to investor-state dispute settlement (ISDS). This article canvasses the divergences as between the United States-Mexico-Canada Agreement (USMCA), the Comprehensive Economic and Trade Agreement (CETA), and the Comprehensive and Progressive Trans-Pacific Partnership (CPTPP).

These trade agreements reflect significantly different approaches to the protection of foreign investment through ISDS, in some cases limiting recourse to ISDS, while in others, opening new opportunities for foreign investors. The variance across the three agreements may be attributed to Canada’s softer negotiating positions, or to its focus on other priority trade compromises at the negotiating table.

USMCA – an elimination of ISDS for Canada, marking a significant departure from NAFTA

The USMCA marks a significant departure from its predecessor in respect of ISDS. The North American Free Trade Agreement’s (NAFTA’s) Chapter 11 was among the first ISDS mechanism chapters contained in a major trade deal. Even though Chapter 11’s legal structure was not necessarily groundbreaking, it remained one of NAFTA’s most controversial elements.

As with many trade policies, Chapter 11’s application created winners and losers. Interestingly, Canada was the most frequent respondent to arbitrations under Chapter 11 – by 31 December 2017, Canada was both sued more and lost more than the US and Mexico. Collectively, these loses cost Canadian taxpayers over C$219m, plus approximately C$95m in legal fees. Arguably counterintuitively, Canada sought to maintain ISDS in the USMCA, while the US and Mexico generally advocated for its removal.

Under the USMCA, Chapter 14 contemplates ISDS. Most crucially, ISDS is only available as between Mexico and the US, with Canada and its investors having been eliminated. The USMCA does, however, contemplate arbitration for ‘legacy investments’ within three years after the USMCA comes into force, allowing investors to raise claims during this period.

ISDS between the US and Mexico is subject to considerable restrictions relative to NAFTA, which make it less accessible. For example, ISDS is now limited to prescribed claims and industries, and certain claims for indirect expropriation have been disallowed entirely. The USMCA is also more stringent from a procedural standpoint, only allowing a claim to go before a tribunal after receiving a final decision from a domestic court of the respondent state or once 30 months have passed following the initiation of proceedings in a domestic court.

Consequently, US and Mexican investors are now required to rely on local Canadian courts or to consider investor-state protections contained in alternative trade or bilateral investment agreements if they seek to challenge a Canadian measure. The same applies to Canadian investors, with alternatives including US or Mexican local courts, or strategic treaty shopping. For Canadian and Mexican investors, most presume that to the extent the ISDS arbitration is more desirable over local courts, they will rely on the process under the CPTPP.

Notably, despite limitations on ISDS, state-to-state arbitration provisions under Chapter 31 of the USMCA remain available to all three NAFTA parties. Accordingly, it is still at least theoretically possible for USMCA investors from each jurisdiction to have their claims argued under the treaty to the extent that a government brings a claim against another USMCA party on behalf of its investors. How and if governments deploy this strategy will likely depend on the size and strategic nature of the issue, both in terms of market value and local significance of the particular industry impacted. Unlike investor-state arbitration, however, state-to-state disputes do not provide for damages as a remedy. Instead, where a panel has found that one party has not carried out its obligations under the agreement, the disputing parties must seek to agree on a resolution, failing which the complaining party may suspend the application of equivalent benefits to the responding party.

CETA – a shift away from traditional ISDS provisions

The original text of the CETA, as agreed around August 2014, included a traditional ISDS mechanism modelled after Chapter 11 of NAFTA. Despite frequently being on the losing side of arbitrations under Chapter 11, Canada continued to remain supportive of the ad hoc arbitral tribunals formed to hear disputes under traditional ISDS provisions.

At the time, however, public opinion in the European Union (EU) was changing as citizens in member states began to ask why foreign investors had access to dispute mechanisms not available to local investors, and as the public began to oppose the perceived ability of foreign investors to challenge domestic legislation and priorities. Within this context, in late 2015, Canada’s chief trade negotiator noted that Canada would likely be subject to pressure from the EU to consider changes to CETA’s ISDS provisions. Although Canada expressed some flexibility, it considered that EU members were parties to over 1400 existing trade deals with traditional ISDS provisions, and did not want Canada to be disadvantaged or the implementation of CETA to be delayed.

In January 2016, the European Commission requested that Canada agree to reopen and revisit ISDS provisions owing to growing public opposition and the real possibility that CETA with the existing ISDS provisions would not be ratified by the European Parliament. CETA was subsequently reconcluded with an entirely new, quasi-judicial mechanism in Chapter 8, including a standing tribunal and an appellate tribunal. This is in considerable contrast to the results of the USMCA negotiations.

Canada’s concerns about delay proved prescient. While CETA entered provisional application in September 2017, the majority of Chapter 8 is not yet in force. On 29 January 2021, two decisions by the CETA Joint Committee and two decisions by the Committee on Services and Investment relating to the implementation of the ICS provisions were adopted. These set out the composition and functioning of the appellate tribunal (left largely unspecified in CETA), the adoption of interpretations, a code of conduct for members of the tribunal and appellate tribunal, and rules of mediation.

CPTPP – realignment with the more conventional ISDS approach

Unlike the USMCA and CETA, the CPTPP, in many respects, constitutes a realignment with more conventional ISDS mechanisms. The substantive protections under the CPTPP are reflective of NAFTA-era ISDS structures, including national treatment, most favoured nation treatment, fair and equitable treatment, protection against performance requirements, and protections relating to direct and indirect expropriation.

From a procedural perspective, the CPTPP aligns with the NAFTA generation of ISDS mechanisms, providing claimant investors with the option of initiating arbitral proceedings under either the International Centre for the Settlement of Investment Disputes Convention (ICSID) or United Nations Commission on International Trade Law Arbitration Rules (UNCITRAL) systems. Perhaps the most significant feature of Canada’s ISDS commitments under the CPTPP is the degree to which they attempt to balance substantive investor protections with the preservation of regulatory flexibility.

For instance, the expropriation provisions set out in article 3(b) of Annex 9-B expressly contemplate limiting an investor’s ability to advance a claim of indirect expropriation where a party’s actions are non-discriminatory and designed and applied to in pursuit of public welfare objectives, including health and the environment. This constitutes a clear recognition of the parties’ desire to preserve the ability to enact regulations that legitimately pursue a public welfare purpose, without rendering themselves vulnerable to expropriation claims under the CPTPP’s ISDS provisions.

Similarly, the scope of the reservations Canada was successful in negotiating reflects a more considered effort to preserve regulatory flexibility over targeted sectors and policy priorities. As a practical matter, Canada’s reservations limit an investor’s ability to advance claims under the CPTPP’s national treatment and most favoured nation protections in those areas covered by the reservations.

Finally, the parties made the decision to suspend certain provisions of the Trans-Pacific Partnership Agreement relating to ‘investment agreements’ and ‘investment authorisations’, which would have extended Canada’s ISDS obligations to allow investors to initiate claims arising from the breach of an investment contract, or the amendment or revocation of an authorisation to invest under the Investment Canada Act. The suspensions constitute a further attempt to preserve regulatory autonomy within a more traditionally-constructed ISDS framework.

Given the varied substantive ISDS components contained in key trade arrangements, investors are advised to consider their Canadian entry strategy from the perspective of potentially reduced or increased investment protection. Looking forward, Canada is likely to continue to pursue ISDS treaty negotiation, but with a strong and contemporaneous desire to defend its regulatory action – most notably as it relates to human health and safety during the pandemic and environmental protection measures.

 

Martha Harrison is a partner and Carmen Francis and Ljiljana Stanic are associates at McCarthy Tétrault. Ms Harrison can be contacted on +1 (416) 601 8864 or by email: mharrison@mccarthy.ca. Ms Francis can be contacted on +1 (416) 601 8854 or by email: cfrancis@mccarthy.ca. Ms Stanic can be contacted on +1 (416) 601 7802 or by email: lstanic@mccarthy.ca. The authors wish to thank Ashley Taborda for her assistance with this article.

© Financier Worldwide

BY

Martha Harrison, Carmen Francis and Ljiljana Stanic

McCarthy Tétrault

©2001-2024 Financier Worldwide Ltd. All rights reserved. Any statements expressed on this website are understood to be general opinions and should not be relied upon as legal, financial or any other form of professional advice. Opinions expressed do not necessarily represent the views of the authors’ current or previous employers, or clients. The publisher, authors and authors' firms are not responsible for any loss third parties may suffer in connection with information or materials presented on this website, or use of any such information or materials by any third parties.