investment wayforwardfordevelopingcountries

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The Cancun Ministerial Conference of WTOscheduled to be held in September 2003 willbe of critical importance for developing

countries. Among other issues that will be taken upfor discussion at the Conference will be whether ornot to launch negotiations on investment. Investmenthas emerged as the most contentious in the WTOnegotiations. At the Fourth Ministerial Conference ofWTO at Doha, the finalization of the draftDeclaration was held up because differences betweenthe developed and developing countries on investment

issue, among others. The Declaration was adopted onlyfollowing the clarification by the Chairman of theMinisterial Council to the fact that the decision tolaunch will be taken at the Fifth Ministerial Meetingsubject to an explicit consensus on the desirability ofthe negotiations and not merely on the modalities ofnegotiations.

The attempt of developed countries to seek amultilateral regime on investment through multilateraltrade negotiations is a part of their strategy to securemore favourable conditions for overseas operations oftheir enterprises that use FDI as a mode of servicingforeign markets more than trade now.

Against that backdrop, this policy brief examinesthe relevance of a multilateral framework oninvestment from a developing country perspective inthe light of the evidence available on the role of FDIin development. It also suggests the policy optionsthat developing countries may consider at the CancunMinisterial Conference on the issue of Trade andInvestment. I t also reflects on the approaches to makedifferent elements of a possible multilateral frameworkon investment more pro-development and balanced,in case a negotiating mandate is unavoidable at theCancun.

Developmental Impact of FDI: The Roleof Policy SpaceFDI usually flows as a bundle of resources including,besides capital, production technology, organizationaland managerial skills, marketing know-how, and even

Cancun Agenda:Trade and InvestmentThe Way Forward for Developing Countries

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No.4 J une 20

1RIS Policy Briefs # 4

RIS Policy Briefs are prepared to communicate results of RIS research on specif ic policy issues to thepolicy makers.

This Poli cy Brief is based on Protecti ng Foreign I nvestment: Impli cati ons of a WTO Regime and PolicyOptionsby Carlos Correa and Nagesh Kumar (Zed Press and RIS 2003) and RISDiscussion Paper #56.

market access through the marketing networks ofmultinational enterprises (MNEs) who undertake FDI.These skills tend to spill over to domestic enterprisesin the host country. Therefore, FDI can be expected tocontribute to growth more than proportionately ascompared to domestic investments in the host country.A body of literature that has analyzed the effect ofFDI on growth in inter-country framework andanother analyzing knowledge spillovers to domesticenterprises from MNEs reaches mixed fi ndingssuggesting that these relationships are not unequivocal.

There is also a possibility of MNE entry affectingdomestic enterprises adversely given the market powerof their proprietary assets.

Therefore, FDI may crowd-out domesticinvestment and may thus be immiserizing or welfarereducing, as has been revealed by a number of recentstudies. The mixed findingson the role of FDI in growthin different countries suggested a role of selective policiesand performance requirements that host governmentsuse to influence the quali ty of FDI inflows. Therefore,policy flexibil ity is important for developing countriesfor benefi ting from FDI. The studies have alsodocumented the evidence of widespread use of

performance requirements and other selective policiesby developed countries in different stages of theirdevelopment (See RIS Discussion Paper #52).

Relevance of a Multilateral Frameworkon Investment (MFI)A basic question before entering into any negotiationon an MFI is to determine to what extent there is aneed for a new multilateral instrument on investment,and what its costs and benefi ts for developing countrymembers may be. Against that backdrop, we now makean assessment of the relevance of MFI from a developing

country perspective.There i s no Conceptual Just i fi cati on of a

GATT-Type Framework on InvestmentThere is a conceptual basis for trade liberalization onthe principle of comparative advantage where countries

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with different comparative advantages benefit fromtrading mutually. On the other hand, FDI flows emergebecause of differences in the levels of developmentand bundles of created assets of national enterprises.From the start, therefore, MNE entrants enjoy an edgeover local enterprises.

I s WTO a Ri ght Forum for H andl i ngI nvestment?FDI, l ike domestic investment, is a development andindustrialization issue rather than a trade issue. ThatWTO lacks competence to deal with the investmentand development is clear from the fact that theWorking Group on Trade and Investment, set up asper the Singapore Meeting in 1996, has not been ableto complete its work so far. Major differences existbetween members on di fferent elements of a possibleframework.

One-size-fi ts-all FDI Poli cy is not Appropri atefor Countries at Different Levels ofDevelopmentCountries at different levels of development receivedifferent types of FDI; for instance, an underdevelopedcountry will attract resource-seeking or labour-seekinginward FDI- and a more developed one-investmentsin capital and intermediate goods industries. The one-size-fits-all approach to FDI evolved through MFI inWTO cannot serve the best interests of countries atdifferent levels of development.

Poli cy Space i s Needed t o maximi ze thecontr ibution of FDI to DevelopmentEvidence suggests that the host government policieshave played an important role in extracting the benefitsfrom FDI in developed and developing countries. A

multilateral regime will take away the ability of thehost governments to direct FDI in accordance withtheir development policy objectives and thus will affectthe overall quali ty of FDI inflows.

MFI is Unlikely to Expand the Magni tude ofFDI InflowsIn contrast to the argument of i ts proponents, an MFIis unlikely to increase FDI inflows. Numerousempirical studies have shown that FDI inflows arelargely driven by the gravity factors such as marketsize, income levels, the extent of urbanization,geographical and cultural proximity with the majorsource countries of FDI, and the quality ofinfrastructure. The policy factors or investment treatiesplay a relatively minor role if at all. The US is the mostimportant source of FDI in China and Brazil eventhough they do not have even a bilateral investmenttreaty with the US.

I nternati onal Fr amework for I nvestmentProtection and Dispute Settlement Exi stsA general impression that is created by the protagonistsis that an adequate framework for protection of

investment and dispute settlement does not exist.However, there exists an elaborate framework forinvestment protection and dispute settlement at thebilateral as well as multilateral levels. Besides anextensive network of about 2100 bilateral investmentpromotion and protection agreements or treaties (BIPAsor BITs), multi lateral instruments for protection andguarantee of international investments do exist, viz.the Multilateral Investment Guarantee Agency

(MIGA), the International Convention of Settlementof Investment Disputes (ICSID), the UN Committeeon International Trade Law (UNCITRAL), and theInternational Chamber of Commerce (ICC).

A Mult i lateral Treaty Would Not Substi tutethe Need for Bi lateral Investment Treati es(BITs)Contrary to the general impression created, the bilateralinvestment treaties would be needed even with amultilateral agreement just as the presence of GATTin trade in good has not substituted the need forbilateral t rade agreements. BITs provide necessary

flexibility to partners and are much easier to beconcluded. A contrast is the failed OECDs negotiationsfor MAI.

Asymmetr y between I nvestors an d H ostCount r ys InterestsProponents of MFI are seeking to protect only therights of investors or corporations and nothing is beingproposed in terms of their obligations or any otherprovisions for protection of host country interests.MNEs command enormous resources and powergranted by their gigantic and global scales of operationthat can be misused to pursue restrictive businesspractices. While the ability of the host governments toimpose performance obligations is sought to be curbed,that of corporations to impose restrictive clauses ontheir subsidiaries that are often trade distorting, is notregulated. An ideal accord would have to have asymmetry between rights and obligations of host aswell as home governments and investors.

Asymmetry between I nterests of Capi tal andLabour ExportersThe proposed framework on investment proposes toliberalize capital movements without providing for thelabour mobility and hence would create asymmetry.The economic arguments for free movement of labour

are no weaker than those for the free movement ofcapital.

To sum up, therefore, a GATT-type multilateralframework on investment (M FI) is justi fied on neitherconceptual or policy grounds. It could lead toconsiderable loss of welfare in developing countries byreducing policy space. I t does not offer any reciprocityneither more FDI nor labour mobility. In view of this,developing countries resisted a negotiating mandateon investment at the Doha Ministerial Conferenceheld in November 2001.


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T he Way Forward for the CancunMinisterial ConferenceThe Doha Declaration only recognizes a case for butdoes not establish the need for a multilateralframework. The Chairmans understanding andclarification that enabled the adoption of theDeclaration at the Doha Ministerial suggests that thenegotiating mandate would itself be subject to anexplicit consensus.

In the light of the Doha Mandate, there arefour possible options for developing countries asfollows.

Most Preferred Option: Resist a NegotiatingMandate at CancunKeeping in mind the Chairmans clarification, it is stillpossible to resist a negotiating mandate on investment.For this to happen the coalition of developingcountries would be of critical importance. Developingcountries will have to draw attention to the practicalproblems involved in arriving at a consensus on thesubject in the light of the OECDs failed MAInegotiations even among 29 rich countries. The widevariation in the levels of development in the WTOmembership would further limit the chances of arrivingat a consensus. The potential cost in terms of worlddevelopment and welfare could be substantial whilepromise of gains is negligible, if at all. This optionwould be by far the most desirable and also mostchallenging. Yet, it is feasible depending upon theeffective coalition building. Least DevelopedCountries and the African Union Countries have alsoopposed MFI.

A Compromise Solution: A MultilateralTreaty on Investment Negotiated OutsideWTOIn case developed countries persist with their demandfor MFI, a compromise solution could be a multilateraltreaty on investment negotiated outside the SingleUndertaking of WTO. The objective of proponentsof MFI is to secure transparent, stable and predictablecondit ions for cross-border investments particularlyFDI, that can be well served by a freely standingindependent multilateral treaty on investmentnegotiated within the United Nations framework likemany other international treaties such as a the Law ofthe Sea.

The Last Resort: Negotiating a Development-friendly Multilateral Framework in WTOIn case a negotiating mandate on investment isunavoidable at Cancun Ministerial, then developingcountries have to ensure that the Framework coversadequate development provisions so that their processof development is not disrupted and sufficientflexibility to pursue their developmental policyobjectives is retained. This will be a big challenge andhas to be responded by proactive home-work by thedeveloping country negotiators.

Incorporating a DevelopmentDimension in a Possible MFISome considerations for designing a development-friendly framework negotiated within or outside thesingle undertaking are as follows:

(a) Scope and Defi ni ti onAdoption of broad assets-based definition and allencompassing sectoral coverage would limit the

governments ability to regulate financial flows andmanage the financial crises. The focus of the DohaDeclaration is on long-term cross-border investment,particularly foreign direct investment, that willcontribute to the expansion of trade. In view of thisthe scope of MFI could be restricted to FDI especiallythe export platform FDI that only contribute toexpansion of trade. Furthermore, developing countriesmay wish to limit the scope of MFI to only greenfieldinvestments and not acquisitions in view of the greaterpotential of the former to contribute to the expansionof t rade.

(b) Transparency: A Symmetric FrameworkWhile transparency with respect to FDI policyframework might be unexceptional, some of theprocedures for processing and evaluation of proposalsmight not be made transparent in public interest.Furthermore, governments of developing and leastdeveloped countries often experience an informationasymmetry in dealing with MNEs with respect to their

track record regarding corporate social responsibility,their involvement in bribery and corruption andquestionable business practices. Recent cases of Enron,Anderson, Xerox are cases in point. MFI should

provide for transparency on the track record of investorsby building obligations on the part of homegovernments.

(c) Nati onal Treatment in Post-establi shmentPhase: Retaini ng the Policy Flexibi li tyMNEs are already much ahead of the domesticenterprises in the potential developing host countrybecause of their monopolistic ownership of uniqueassets, e.g. globally known brand names, Thereforethe playing field is already ti lted in favour of MNEs.

Governments in developing countries often adoptpoli cies support ing infant enterprises or SMEs

through some measures favouring them. In view ofscarcity of funds, governments may need to limitsuch incentives to national firms. Discriminatorysupport measures favouring the domestic enterprisesin strategic industries are quite common even inthe developed world, e.g. SEMATECH in the US.To protect the flexibility, granting of nationaltreatment in the post-establishment phase may bestructured on the basis of a GATS-type positive listapproach which is subject to limitations asconsidered necessary.


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d) Nati onal Treatment in Pre-establi shment

Phase: Exclude any Commi tmentsIn view of great variation in the quali ty of FDI and itspossible adverse impact on domestic enterprises, hostgovernments may wish to protect domestic infantenterprises or SMEs through selective policies towardsFDI. H ost governments may also impose, subject tothe TRIMS Agreement, performance requirements onforeign entrants to regulate their operations in tune

with their development policy objectives. The DohaDeclaration does provide for such flexibility andsuggests due regard of development policy andpreserves their right to regulate in the public interest.Therefore, developing countries should resist thenational treatment obligation for pre-establishmentstage to retain the policy flexibility.

The proponents of MFI argue that a GATS-type approach to pre-establishment national treatmentcommitment allow adequate policy space to developingcountries. The experience of GATS suggests thatdeveloped countries bring pressure on developingcountries to make commitments in the sectors that are

of particular interest to them.

(e) Most-Favoured-Nati on (MFN): Providing

Excepti ons for Ethni c InvestorsThe extension of the MFN treatment to investmentmay affect the special treatment conferred by manydeveloping countries to ethnic overseas investors.Exceptions for a differential treatment for ethnicoverseas investors may be retained in a possible MFI.

(f ) Development ProvisionsDeveloping countries seek FDI as a resource for theirindustrialization and development. The S& D

treatment available to developing countries shouldinclude flexibility to impose performance requirementswhich may require abrogation of TRIMs and providefor balance of payment safeguards, among otherprovisions.

(g) Balancing the Host Countr y and H ome

Countr y I nterests

The Doha Declaration indicates the need for balancingthe host and home country interests. However, noindications have been made on the way to balance theinterests of developed and developing countries. Abalancing of interest between all the stakeholders could

be ensured with their rights and obligations and byensuring a symmetry between capital and labour

mobility. Binding obligations should be undertakenby investors regarding transfer of technology, restrictivebusiness practices, consumer protection, environmentalprotection, disclosure, among other commitments.Home governments should accept an obligation toprovide information regarding the involvement ofMNEs in any questionable dealings, and cooperatewith the host governments in control of RBPs, transfer-pricing manipulation, and in recovery of the liabilities

of MNEs resulting from their mis-conduct in hostcountries.Developing countries could also seek an

International Discipline on Incentives that at presentdistort the pattern of FDI in favour of developedcountries.

(h) Investor Protection and Dispute

SettlementInvestor to State disputes should not be acceptable inan MFI negotiated in the WTO framework.Furthermore, there is need to adopt a cautious andrestrictive definition of expropriation or takings in

the light of evidence on lit igations brought by affil iatesof US corporations against the Canadian Governmentunder NAFTA seeking compensation for thegovernment regulations. Regulatory actions of hostgovernments for pursuing their development policygoals, environmental and social objectives in broadpublic interest should be specifically excluded fromthe scope of expropriation or regulatory takings.

Concluding RemarksThis Policy Brief has reviewed the options open todeveloping countries on investment at the CancunMinisterial Conference of WTO which is to decide

whether or not to launch negotiations on amultilateral framework on the subject. Given thehigh opportunity cost of the policy flexibility forthe process of development and no reciprocity orgains even in the form of higher inflows of FDI, themost prudent option for developing countries wouldbe to resist a negotiating mandate on investment atCancun.

A compromise solution could be to negotiate amultilateral treaty on investment on the lines ofbilateral treaties outside the WTO. In case a negotiatingmandate at the Fifth Meeting is unavoidable, thenefforts should be made to ensure that developing

countries concerns are buil t into each element of theproposed framework as outlined.

RIS Discussion Papers,Poli cy BriefsandRIS Diaryare available at RIS Website: www.ris.org.in

Core IV-B, Fourth FloorIndia Habitat CentreLodhi Road, New Delhi-110 003, India.Ph. 91-11-24682177-80Fax: 91-11-24682173-74-75Email: [email protected]: http://www.ris.org.in

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