EARTH SUMMIT PLUS 5 BRIEFING NO. 6
The Multilateral Agreement on Investment on Investment (MAI): Impact on Sustainable Development
Part 1: The MAI
The recent worldwide interest and controversy on foreign investment policy has been sparked by the proposal of some developed countries to introduce a legally-binding regime on foreign investment. This is taking place at two places: the WTO and OECD.
At the WTO some of the developed countries are attempting to introduce a Multilateral Investment Agreement (MIA). Following the WTO Ministerial Conference in Singapore there is now a Working Group on Trade and Investment to discuss the links between trade and investment. Although there are safeguards that this is not a negotiation for an agreement, the developed countries will try their best to eventually have an MIA out of the working group.
Within the OECD, a Multilateral Agreement on Investment (MAI) is being negotiated by the OECD member countries. After the conclusion of negotiations (expected to be in May 1998), the OECD plans to open the treaty to other countries to acede to.
The model of the MIA and MAI are basically the same.
The MAI is aimed at protecting and advancing the rights of international investors vis-a-vis host countries. The main elements are:
* The right of entry and establishment of foreign companies in almost all sectors, except security. This means the government will lose its authority to determine which foreign investor it would allow or disallow from entering the country, in all sectors.
* The right to full equity ownership. This means the government would not be allowed to impose a condition that foreign companies should allow a portion of their equity to be locally owned, or that they form joint ventures with local firms or with the state.
* National treatment. This means that the foreign company must be treated on equal or better terms than a local company. Governments will be prevented from granting better or more favourable treatment to local firms, for example in granting contracts or in allowing local banks to set up more branches etc.
* Removal of many regulations and conditions now imposed on foreign companies by the host government (eg. movement of personnel; performance requirements; allowing foreign firms to take part in privatisation projects).
* Protection of the rights of foreign investors (including regarding non-discrimination, intellectual property, expriopriation, compensation, transfer of funds, taxation) such as against closure or expropriation, or full compensation in the event of being asked to close or be taken over;
* Establish a dispute settlement system which makes the agreement legally-binding and enforceable.
The MAI is aimed at setting up an international regime for protection and advancement of international investors' rights. But correspondingly the rights and authority of the host country's government will be either removed or severely restricted.
Moreover, the MAI would impose no obligations on the foreign investor to respect the sovereignty or social and development objectives of the host country. But the host country's government would have many new and heavy obligations towards the foreign investor.
The MAI is therefore very imbalanced, in favour of the foreign investor's rights, and against the rights of the host country, the host government and the local firms (which would lose their present rights to receive more favourable treatment from their government and to be protected from bigger foreign firms so that they can survive and develop).
International companies would be able to cross borders without barriers and set up projects or buy up local companies whilst facing minimal or no regulations in the host countries as to entry, conditions for establishment, ownership, operations, repatriation of profits and capital.
MAI would very significantly narrow, reduce and constrain the rights, authority and degree of freedom and policy options of the host countries and governments in the following economic areas: i) policy on foreign investment and policy on investment in general; ii) macro-economic management; iii) policy and performance on trade, current and capital account and the balance of payments; (iv) development planning; (v) policy on the balance of ownership of equity and assets between foreigner and locals and amongst various communities within the country; vi) growth and development policy at sector level (industry, agriculture, trade, finance and other services).
As the proposed MAI would cover almost all sectors (defence being an exception), the narrowing or loss of policy options in host countries would also apply to social sectors and services, and thus have significant implications for social and cultural policy and practices.
The approach taken by MAI proponents is new in that it is an extreme approach as it covers and greatly expands the rights of international investors, whilst not recognising and thus greatly reducing the authority and rights of host governments and countries.
Part 2: RESPONSE TO THE MAI FROM ASIAN COUNTRIES
In March 1996, a Workshop was organised by the OECD Secretariat in Hong Kong to explain the MAI to 12 selected "dynamic developing countries", most of them from the Asian region, including China, India, Malaysia, Indonesia, Korea, Singapore, Hong Kong. A report of this meeting is published in Third World Economics (1-15 April 1996). The following are the key points from this report.
1. The general reaction to the meeting was cool and generally unfavourable from some key Asian countries. Participants from these countries raised several concerns and objections on the substance, procedures and institutional context of the proposed rules.
2. As explained by the OECD officials, the MAI's main goals are to: Liberalise the terms of foreign investment even further than in existing OECD rules; Protect foreign investors' rights; Establish a legally-binding dispute settlement system.
3. At the Workshop, the OECD officials kept stressing that the MAI was aiming at "high standards". This means levels of investment liberalisation and investor protection that are far higher than what exists even in OECD countries.
4. A most interesting feature is that whilst the MAI is initiated by and negotiated amongst OECD countries, it is actually intended not to be for the OECD alone but rather to be of a global nature, open to all countries to join. Most non-OECD participants were critical that they were not invited to participate in the establishment of the MAI. They raised several questions on the OECD's procedure of establishing the MAI, as well as on the MAI's contents and implications.
5. A senior official of a developing country said Asians are sensitive to how they are drawn into a process, and there is a considerable amount of discomfort when they are asked to accede to a treaty without being given an opportunity to get directly involved. This, he added, could even be seen as objectionable, as the process seemed to ask non-OECD countries to accede without representation. He stressed that there were two sides to the issue of investment, as the entry of foreign firms could also have an effect on domestic firms. The issue "is not investment liberalisation per se but the effective and mutually beneficial management of this liberalisation.".
6. Participants from several other Asian countries raised similar concerns about the OECD's MAI process. They also questioned whether the contents of the proposed MAI would be advantageous to developing countries.
7. An Asian participant said that the MAI stressed the rights and interests of foreign investors but had nothing to say on the rights of host countries nor the obligation of investors to observe the laws of host countries. She pointed out that without observance of domestic laws, foreign investors would not be encouraged as it would be against the host country's interests. Thus, the protection of the host country's interests and rights should be a crucial part of an investment agreement.
8. She said it was generally agreed that foreign investment plays a positive role. However, each country has a different situation, and countries are also at different stages of development. Each country has the right to set up its own investment regime based on iuts own social and economic conditions.
Part 3: THE NEED FOR NATIONAL REGULATION AND POLICY INSTRUMENTS ON FOREIGN INVESTMENTS
The major issue of the MAI or the MIA is not whether or not foreign investment is good or bad but whether or not national governments should retain the right and powers to regulate FDI and to have the adequate authority and means to have policy instruments and options over investment, including foreign investment.
Most countries are trying their best to attract foreign investments. However, foreign investment can have both positive and negative effects, and a major objective of development policy is to maximise the positive aspects whilst minimising the negative aspects, so that on balance there is a significant benefit.
Experience shows that for foreign investment to play a positive role, government must have the right and powers to regulate their entry, terms of conditions and operations.
The key problem is that the approach taken in the proposed MAI would remove these government rights and powers. By doing so, the negative aspects of unregulated and uncontrolled foreign investment inflow and establishment could overwhelm the positive aspects.
Most developing countries now have policies that regulate the entry of foreign firms, and include various conditions and restrictions for foreign investors overall and on a sector-by-sector basis.
There are few countries (if any) that has now adopted a total right of entry policy. In some countries, foreign companies are not allowed to operate in certain sectors, for instance banking, insurance or telecommunications. In sectors where they are allowed, foreign companies have to apply for permission to establish themselves, and if approval is given it often comes with conditions.
Of course the mix of conditions varies from country to country. They may include equity restrictions (for example, a foreign company cannot own more than a certain percentage of the equity of the company it would like to set up): and ownership restrictions (for instance, foreigners are not allowed to own land or to buy houses below a certain price).
Many developing countries also have policies that favour the growth of local companies. For instance, there may be tax breaks for a local company not available to foreign companies; local banks may be given greater scope of business than foreign banks; local firms may be given preference in government business or contracts.
Governments justify such policies and conditions on the grounds of sovereignty (that a country's population has to have control over at least a minimal but significant part of its own economy) or national development (that local firms need to be given a "handicap" or special treatment at least for some time so that they can be in a position to compete with more powerful and better endowed foreign companies).
Most developing countries would argue that during the colonial era, their economies were shaped to the advantage of foreign companies and financial institutions (belonging usually to the particular colonising country). Local people and enterprises require a considerable time where special treatment is accorded to them, before they can compete on more balanced terms with the bigger foreign companies. This has been the central rationale for developing countries' policies in applying restrictions or imposing conditions on foreign investments.
The MAI proposal to liberalise foreign investment flows in so comprehensive a manner will therefore have serious consequences. No longer will each government have the freedom to choose its own particular mixture of policies and conditions on foreign investments. The major policies would be already determined by the multilateral set of investment rules, and the choice available would be very much constrained to more minor aspects.
Part 4: NEED TO PROTECT THE BALANCE OF PAYMENTS AND PROMOTE DOMESTIC DEVELOPMENT
One of the most important effects of the MAI would be that governments will find it much more difficult to control the balance of the payments, and especially to take measures to get out of BOP deficit problems.
One of the most important disadvantages or dangers of foreign investment is that it has a tendency to lead to a net outflow of foreign exchange and thus have a negative effect on the balance of payments. This is why government policies to regulate foreign investment is so important.
In South-East Asia, countries like Malaysia, Thailand, Indonesia and the Philippines are now facing large deficits in the BOP current account. On further analysis, it is found that the large inflows of foreign investment have contributed significantly to the deficit.
The more permanent solution is to ensure that foreign investment in the country overall of a character that does not cause large foreign exchange outflows in net terms. For example, foreign firms that export a large part of their products are more welcomed. Pr else firms that apply to enter can be given permission only if they abide by conditions that they do not lead to high foreign exchange loss, for example by exporting enough of their products, and by limiting their imports through using local inputs.
In general, foreign companies that enter a country in order to exploit its market (and therefore do not export so much), and in doing so displace products or services previously provided by local firms, have a greater tendency to generate foreign exchange loss and BOP problems. Countries with a large market like China or India will face this problem more, because foreign companies are attracted to the large population and the local market there, and so a large part of these companies would want to produce for the local market rather than for export.
In any case, the most important principle is that developing countries need to have the authority to regulate the entry and terms of operations of foreign investment, for the sake of their development objectives and to protect their economy and society, for example, to protect the BOP.
To strengthen the BOP, governmentss require the authority and option to: (a) regulate foreign investment; (b) reduce imports of goods and services; (c) promote exports of local firms and services. These options are already being severely curtailed by the new Uruguay Round rules in the WTO. The MAI would make the situation worse.
In the past and at present, governments have placed conditions that firms must use specified local inputs, or a percentage of the output value must be locally sourced (local content policy). Another condition is that imported inputs of a firm must be restricted to only a certain percentage of that firm's export earnings (balancing of foreign exchange policy). Another policy may be to restrict a commodity or product from being exported (by imposing a ban or limiting export to a percentage).
All these three policy measures have been explicitly mentioned in an illustrative list and made illegal by the TRIMS (trade-related investment measures) Agreement of the Uruguay Round, on the ground it discriminates against foreign products or foreign trade. Of course, the removal of these policy measures would make it more difficult to resolve balance of payments deficits. Developing countries have 5 years (from Jan 1995) to implement this. In these negotiations, it may be possible to reopen the fairness of such prohibitions.
The MAI would make the situation worse. Governments now control the quantity and quality of foreign investment, and can limit the percentage of foreign equity, preferring joint ventures so that a share of the profits is retained by locals. Some countries limit the outflow of profits. These measures would be outlawed. Inability to regulate entry will increase the foreign share of equity. Removal of joint-venture arrangements would further raise foreign equity. Together these would raise the foreign share of profits in the economy. Given international trends, corporate tax is being progressively reduced. If foreign profit outflow is too high and can threaten the BOP or reserves and financial stability, the oprion of limiting profit repatraiation would not be available.
Measures to reduce imports or use of foreign services and measures to increase the use of local products, services and facilities, are important policy measures to reduce BOP deficit and to develop the economy. The enhanced disciplines in the WTO already make this more difficult. The investment treaty would make it more difficult.
Part 5: CONCLUSIONS
There is an important role for foreign investments in developing countries. But this role can be positively fulfilled only if governments retain the right to choose the types of foreign investments and the terms of their entry and operation.
Thus, the objection to the treaty is not out of any bias against foreign investment per se. Rather, it is because of the successful experience of those countries that have made use of foreign investment that there is realisation of the importance of the need of government to have decision-making powers and policy options over the entry, terms of equity and operations of foreign investments.
Developing countries need to maintain the right and option to regulate investments and have their own policy on foreign investment, instead of an international investment regime that would reduce or take away those rights. Giving total freedom and rights to foreign investors may lead to the disappearance of many local enterprises, higher unemployment, greater outflow of financial resources, and therefore to balance of payments problems. It may also worsen social imbalances within society, thereby causing social instability which will offset economic prospects.
The MAI and the MIA are not the only models for establishing relations between a foreign companies and the host governments. Another approach was earlier attempted in the draft UN Code of Conduct for TNCs, in which the rights and obligations of foreign companies and tyhe rights and obligations of the host governments were spelled out. The effors to establish this Code of Conduct was finally killed in 1992. However, the draft is still useful as an example of a different approach.
Striking a proper and fair balance is important for foreign investors and and the host countries have different goals and interests. From the point of view of a developing country, the government must have the right and power to determine the entry and conditions of foreign companies, so that the country's development objectives can be fulfilled. The MAI would cause a great imbalance in the relation between the host country and the foreign investor. Thus it would be unwise for developing countries to enter into such an agreement.
It is also very likely that the MAI would have serious environmental effects. Recent experience has already shown the serious and sometimes devastating effects that the process of liberalisation is having on the environment. By institutionalising an extreme form of liberalisation (indeed making it mandatory), the MAI would have the gravest consequence for the global environment,
It is proposed that the UNGASS and CSD dircet that a review be done of the MAI, in particular on its effects on the environment and on development. The MAI in the OECD should be delayed until the public has an opportunity to study its implications for sustainable development and its views are fully taken into account.
(New York 23-27 June 1997)